Posted on
September 11, 2010 by
admin
I started investing my money actively around three years ago. My first approach was to invest a small amount of my money into mutual funds, in order to secure my retirement. But in addition to that, I wanted to get more active, invest a bit more of my assets, and start to invest in mid-term market movements.
A great way to do that is to build your own portfolio, using stocks and bonds. However, with stocks I found that you actually need a substantial amount of money in order to profit from it. If I only consider the commission I have to pay for buying the stocks, the smaller the invested amount, the bigger % profit I need to realize to get out with a good profit.
In addition to stocks, I have been using options for quite some time to profit from short-term market movements. However, options are also a great tool to profit from mid-term market movements. The profit can be much more substantial than when you invest in stocks, and a much lesser amount is needed to get out with a good profit. Also, I find options to be ideal if you want to ‘test’ the market, if you are a beginner.
Options may seem a lot more complex than they really are. Basically, options are are rights on their underlying value, in this case stocks, which simply gives you the right to either buy a particular stock at a certain price during a specific time range, or it gives you the right to sell a stock at a set price during a specific time frame. Of course you are not forced to exercise your right; when stock markets move, so will option prices, and you can simply sell the option at a later time.
I find options such a great tool due to the leverage effect they offer; whereas I might have had a 9% profit on a stock, I might have realized a 60% profit with an option on that stock. The key point is that you are anticipating the stock to move in a certain direction within a specified time, in stead of buying and holding your investment for years.
Options are very volatile instruments, and surely your potential to lose money is just as big as to earn money from it. Therefore, I assign only a smaller percentage of my portfolio to options. Still, I find them to be quite a good enrichment to my portfolio, and they helped me a great deal to play the market with only very small investments.
Although option trading has a very speculative image, I feel they can be treated very similar to stocks, if:
- I focus on up-trends. Markets tend to focus upwards on the long run. Speculating on market corrections or crashes can be quite risky, so I tend to focus merely on call options.
- I focus on a 3 to 24 month development. Stocks tend to make very swift market movements, and often stocks can dip for one or two months before increasing for months to come.
- I focus on fundamentally healthy companies only. I use the same kind of company analysis as I would have done with stocks. Technical analysis will also give me a hold on a stock’s trend and turning points, as well as whether the timing is good or not, but I will never invest in poor performing companies.
- Options can be very volatile, and sometimes a tiny negative stock movement can push the value of the option to a -40% loss, before increasing to a 60% profit. Still, if the value of my option drops below -50%, I consider it a loss, learn from the situation, and sell the option. On the other hand, I would sell my option at a profit of anywhere between 60% and 100%. I might buy the same option at a later time, if the timing is right.
You can read more on how options work in my previous post here.
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