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Options And Active Trading

Day traders and swing traders (active traders) most often limit their trades to shares of stock; but using options solves many problems of leverage, diversification and risk.

Options highly leverage active trading since every option controls 100 shares of stock. So for a fraction of the cost of 100 shares, options (averaging less than 5% of the price for stock) leverages capital20 times more, or above.

This also improves diversification. Buying stock for active trading is limited by the capital available, even using margin. With options, traders can trade so many more issues because of the flexibility and low cost.

Risk is also lower. A long option at its low cost level is the most a trader can lose, compared with a much greater exposure with 100 shares of stock. There is another risk factor: Many active traders only swing from the bottom of the trend up to the top, using long stock. They fear shorting stock, and for good reason. This is risky, expensive, and awkward. However, traders can also play the downtrend using long puts in place of short stock - lower risk, better leverage, and even better diversification.

Options can be used in dozens of possible configurations. These examples are based only on the combined use of long calls and long puts, employing single contracts to control 100 shares. If traders base their entry/exit on very short-term trends, they can also pick the very cheap options due to expire in less than one month. This means little or no time value premium and, assuming they pick contracts at or slightly in the money, a point-for-point responsiveness with intrinsic value.

Be aware, however, of the problems with being classified as a pattern day trader.

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