Some traders believe in only venturing into familiar waters and stay away from the unknown. So is the case while choosing a financial instrument for investment purposes. Traders are more comfortable with investing in equity since it’s easy for them to understand simple ups and downs in the value of equity in comparison to options trading which is relatively hard to understand. However, if little effort is taken then options can provide great advantages over equity trading or any other trading instruments out there. Some of the advantages are as described below:

Leverage

In options trading an investor has a right to buy or sell the respective stock at a future date, an agreed upon price and for this facility he pays a premium. For example: If a trader buys 500 stocks of $40 each he is supposed to pay $20,000 for that transaction. But if he buys 5 contracts of call option at $10 premium then he pays $5,000 only, so he can invest remaining $15,000 somewhere else and still get those 500 stocks at the agreed upon price immaterial of the current market value. Of course the trader needs to understand the market and options mechanism and then buy an option that best suits his/her beliefs. It may seem that options are hard to understand, but once you get a grip on them they are actually low risk investments which can give high returns.

Limited Risk

It’s an old belief that more risk you take more returns you would get. However, things are different when talking about options trading. The way how options are designed, if the positions are correctly taken then one can gain maximum returns while the risk remains limited. One of the reasons why this is possible is because with options a trader buys a right to buy or sell a stock by paying a small premium on the contract. So in future if the market price of the underlying asset falls below the strike price then the trader can choose to let the contract expire and ignore the premium he has paid. On the other side if the market price of that particular stock is more that the strike price, then trader can exercise his right and buy those stocks at an agreed upon strike price.

There are lots of different possibilities while trading options so if an extra effort is made to better understand options it can do wonders to your portfolio.

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