Day Traders and Swing Traders and Options? Maybe!

Navigation: Main page » Investing

 Print this page Submit articleComment article

Author: Brett Fogle

Article source: http://traderaide.com/. Used with author's permission.

Typical day traders and swing traders look for stocks with quick,
short term movements, and are not in the business of holding
positions overnight let alone a week or two. So the use of
options has not usually been a component of their trading
strategies.

Now however, some new opportunities for profit are available
since many day trading firms are allowing their traders to trade
options. Unfortunately, many option strategies do not apply to
the quick in and out nature of day trading. Neither day traders
nor swing traders are typically in a single stock long enough for
the strategy of selling options for premium collection to be
viable.

Since these traders often look for break-outs, and sometimes go
bottom fishing to find opportunities for profit, a premium paying
option might work well for them. Why? Because the trader would
be buying protection from catastrophic losses. Bottom fishing
and breakouts are associated with volatility, which means
uncertainty and risk. However, there is a strategy that will
provide the necessary protection for these traders to carry
positions through overnight risk, while remaining fully
protected. This would still allow also them to take advantage of
the large potential upswing that was the original goal of
identifying the bottom and the break-out. This strategy is
called the protective put.

THE PROTECTIVE PUT

The Protective Put Strategy involves the purchase of put options
in combination with the purchase of stock and works well in
situations where a stock is prone to rapid, volatile movements.

A put option gives an owner the right, but not the obligation, to
sell a certain stock, at a certain price, by a specified date.
For this right, the owner pays a premium. The buyer, who
receives the premium, is obligated to take delivery of the stock
should the owner wish to sell at the strike price by the
specified date. A strategically used put option offers
protection against substantial loss.

The protective put strategy is a strategy that is ideal for a
trader who wants full hedging coverage. This strategy is very
effective in stocks that normally trade under high volatility, or
in stocks that normally do not trade under such high volatility
but may be involved in an event driven, highly volatile
situation.

When an investor purchases a stock, they can buy the put
(protective put) to provide a proper hedge. The construction of
this position is actually quite simple. You buy the stock and
you buy the put in a one to one ratio meaning one put for every
one hundred shares. Remember, one option contract is worth 100
shares. So, if you buy 400 shares of IBM then you need to
purchase exactly four puts.

From a premium standpoint, you must keep in mind that by
purchasing an option, you are paying out money as opposed to
collecting money. This means that your position must
"outperform" the amount of money that you paid for the put. If
you were to pay $1.00 for a put and you owned stock against it,
the stock would have to increase in price $1.00 just to break
even. The protective put strategy has time premium working
against it, thus the stock needs to move to a greater degree, and
more quickly, to offset the cost of the put.

When we buy a stock, three potential outcomes exist. The stock
can go up, go down or it can remain stagnant. If we were to
analyze the three scenarios, we would find that only one
scenario, the up scenario, can produce a positive return and
that's only when the stock increases more than the amount you
paid for the puts. The other scenarios produce losses. If the
stock is stagnant, you lose the amount you paid for the put. If
the stock goes down, you lose again- but the loss is limited. It
is the limiting of loss in highly volatile situations that makes
the protective put an attractive and useful strategy.

This is how it works! Imagine you buy stock for $31.00 and buy
the 30 strike put for $1.00. If the stock goes down, the
position will produce a loss. For example, if the stock is down
to $30.00 (down $1.00) at expiration of the option, you have a
$1.00 capital loss. With the stock at $30.00, the 30 strike puts
will be worthless, thus you incur a $1.00 loss because that is
what you paid for the put. Your total loss will be $2.00. Using
the protective put strategy set a cap on your losses. The put
strategy's attractiveness is that it will allow you to set loss
limits!

Let's see how that works. We'll set the stock price down to
$28.00. Since you purchased the stock at $31.00, there will be a
capital loss of $3.00. The puts, however, are now in the money
with the stock below $30.00. With the stock at $28.00, the 30
strike puts are worth $2.00. You paid $1.00 for them so you have
a $1.00 profit in the puts. Combine the put profit ($1.00) with
the capital loss ($3.00) and you have an overall loss of $2.00.
The $2.00 loss is the maximum you can lose no matter how low the
stock goes because the buyer of your put must take the stock at
the strike price. This is the protection the put provides.

Wholesale Closeouts: How To Find The Best Wholesale Closeouts Deals For EBay
Wholesale closeouts can be used to build a lucrative eBay business.

Your Words Will Determine Your Business!
Internet is a faceless world. Here your sole medium of communication is the written word. It is in your emails. It is in your sales letters. It is in your webs...

Build Your Marketing Muscle
During a saxophone lesson the other day I realized how much regular practice can help a part time internet marketer. My teacher taught me a long time ago to jus...

Business in the Days of Awe: Connection
How to truly connect with your prospects.

Poor Performance - Fix it by Coaching
The goal is to achieve a change in behaviour that the team member is committed to and helps you achieve your outcomes...

Mortgage Broker Marketing - Sell Problems, Not Solutions
You're in the relationship business and that changes your marketing strategy on how to attract Realtors® as clients.

How To Find Your Dream Career
Finding your dream career can be planned out or it just falls into place almost by accident. For most, it is a combination of planning a career, but letting eve...

Backup and Save your business!
When is the last time you backed up your data? Are you sure you backup all information that would ruin you if not saved.

Bring Out the Natural Writer in You
Putting a book together can be daunting. But no, you don't need to hire a ghostwriter. You don't need to do research. Your readers simply want answers to their...

Things to Make Your Gap Year in Africa Easy!
The kind of things you pack when you go on a trip says a lot about where you're heading and what you're going to be doing.

My Dumbest Marketing Blunder And How You Can Avoid It
When I started submitting Ezine articles, I never realized their true power. I was just happy to see the articles being published. I expected to get some traff...

Enhancing Health with a Multivitamin
An apple a day keeps the doctor away. But then, you also need a banana, an orange, a pear, a handful of carrots, some avocado, a head of lettuce, some tomatoes...

Loans for Doctors – Financial Funding for Healthcare Professionals
Doctor loans are meant to cater to a special profession, namely, doctors. Resident doctors, physicians, practicing physicians, can avail doctor loans at low int...

Your Website Visitors - Will They Stay?
You spend your hard earned money and time to get visitors to your website, so why take chances on losing them before you make the sale? Here are a few tips on...

Networking Online - Marketing Made Easy
Networking and making business contacts is one of the toughest aspects of running a home-based business, but also one of the most successful to develop your bus...

Growing Up Backwards
A look at one woman's journey into self-realization - even if it was 'backwards.'

6 Reasons Why Web Templates Are Todays Trend
Have you ever own the burning desire to have not only one but a number of websites out there to send your messages out, but only to know in the end that you don...

Sugar Gliders, Pocket Pets
Sugar Gliders; pocket pets with attitude. Would you like to own one as a pet?

Fun, Fun, Fun: The Best Exercises for Quick Weight Loss
Many people think that starting an exercise program will mean months of agony in front of them. However, staying active and being physically fit can and should ...

Building a Network Marketing Organization
Find out how to build a successful MLM Downline Community

What to Look For When Choosing Baby Furniture
If you're a new parent, be aware that you baby will probably spend more time in the nursery than anywhere else. So you do need to make it absolutely safe abd co...

The Top 10 BEST Things About Having a Coach
Obviously, there are many wonderful things about having a personal coach to support and encourage you. Everyone develops their own working relationship with the...

Quiz: What Kind of Sales Shoe Are You?
Have you ever wondered what type of saleswoman you are?

The Secret To Having A Successful Online Business
For three years in Internet Marketing, I've tried to find what the secret was to having a successful online business. During the first 9 months it was pure mone...