When trading options we can take advantage of three factors that are uniquely available only within options:
- Leverage
- Lowering Cost Basis
- Probability of Profit (POP)
Leverage
Options give us control of 100 shares of stock, without having to invest the full capital required to purchase 100 shares. When buying stocks, we pay the stock price multiplied by the number of stocks we purchase.
For example XYZ company shares are trading at $33.24. If we want to buy 100 shares we need to come with $3324.
If we buy call options instead, we pay the option premium, which is currently $4.10, multiplied by 100, for a total investment of $410. Therefore we can control $3324 worth of stocks with a minimum investment of of $410 when we buy call options.
Lowering Cost Basis
Cost basis is basically what we pay for something. There are several strategies used to lower cost basis.
One way of doing that is by capping our max potential for profit which in return increases our probability of profit
When we buy a long call, like in the example before, we can reduce our cost basis by selling a further out-of-the-money call in addition to a long call. This strategy is referred to as long call vertical. This allows us to sell a short out-of-the-money call and collect a credit, which lower our breakeven point and increases our probability of profit.
Another way to reduce cost basis is by using covered calls.
Probability of Profit
Probability of profit, or POP, means the probability of making money in a specific trade.
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