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Options trading has become increasingly popular in Singapore due to the advent of online brokerages that provide unfettered access, highly competitive commission rates, and easily digestible investor education.
One misconception about options trading held by retail investors is that it is only suitable for short-term trades, which is not true. In fact, even long-term investors can benefit from trading options. It can be used as a hedging tool to protect the downside of your long-term stock portfolio and as a leverage tool to enhance your returns and free up your investment capital.
While options trading can be more complex than investing in stocks or bonds, the biggest barrier is understanding how it works.
What Is Options Trading?
You can trade options to speculate on future prices, hedge your portfolio risk, or use them to earn an income. There are four types of options trades that you can make:
1. Buying a call option
2. Buying a put option
When you buy an option, you have the right but not the obligation to buy (for a call option) or sell (for a put option) the underlying asset at a specific price on a specific date. Since you are buying the option, you must pay an upfront premium.
3. Selling a call option
4. Selling a put option
The opposite applies when you sell an option. You have the obligation to sell (for a call option) or buy (for a put option) the underlying asset at a specific price on a specific date. Since you are selling this option to a buyer, you receive an upfront premium.
Usually, a single stock option contract represents 100 shares of the underlying stock.
Read Also: Call & Put Options Trading – 4 Buying & Selling Strategies That Long-Term Investors Can Use
Basic Options Trading Terms You Have To Understand
To get started in options trading, you need to learn a few basic jargon. Beyond the basic ones listed below, there are many more options trading terms that you should also learn if you want to continue getting better at options trading.
Expiration Date: This indicates the due date for the option. Depending on your preference, the due date can be in days, weeks, months, or even years. Once past the due date, the option contract becomes void.
Strike Price: This is the price at which the underlying asset can be bought or sold if the option contract is exercised.
Premium: Depending on whether you want to buy or sell the option, this is the respective price you either have to pay (to buy the option) or receive (to sell the option).
Bid/Ask Price: Similar to stocks, the Bid and Ask price is the spread between what the buyers and sellers are willing to pay for and buy the options respectively.
In The Money: The option is considered to have an intrinsic value. For call options, when the underlying stock price in the market is higher than the strike price, the option has an intrinsic value. You have the “option” to buy the stock for a lower price than what you need to pay in the open market. For put options, it’s the opposite, whereby the underlying stock price in the market is lower than the strike price. You have the “option” to sell the stock at a higher price than what you can get in the market.
Out Of The Money: The option has no exercisable value. When the underlying stock price in the open market is lower than the strike price, there is no financial incentive to exercise a call option. Similarly, when the underlying stock price in the open market is higher than the strike price, there is no financial incentive to exercise a put option.
Here’s an example of how to read these terms on the moomoo mobile trading app:
Source: All screenshots in the article are from the moomoo SG mobile trading app
How You Can Benefit From Trading Call And Put Options
As previously stated, the main benefits of trading options include speculating on future prices of stocks, hedging your portfolio and generating a fixed income.
#1 Speculate On Future Prices
To start with, if you believe that a stock’s price will go up, you can invest in the stock. Alternatively, you can buy a call option.
Going back to the same example in the screenshot above, Apple stocks are currently trading at US$132.30. If you think prices will increase in the near term, you can scroll to an expiration date that you prefer, for example, 27 Jan 2023, and buy the call option.
Assuming you buy a call option for 1 lot (or 100 stocks) of Apple at the strike price of US$136. This will cost you about US$465.
Come 27 January 2023, if Apple is trading above the strike price, for example, at US$140.65, you can buy 100 stocks at US$136 or you can also choose to sell your option contract before the end of trading on the day to realise a profit (as you are in the money).
However, earning US$4.65 in profit per stock on 100 Apple stocks – or US$465 – will only mean that you break even. In this example, you would need Apple shares to rise above US$140.65 to make an overall profit.
Regardless of whether you make an overall profit, you should choose to exercise the option if it is trading at any price above US$136.
If Apple shares are trading below US$136 at that point, you will not exercise your option (as your call option is out of the money). Your loss from the trade is the US$465 upfront premium – regardless of how low Apple shares drop. This feature caps your maximum loss.
Other benefits of trading options are that you only have to put up US$465 to gain exposure to 100 Apple stocks. If you were to buy 100 Apple stocks, it would cost you over US$13,200 for the same exposure.
You can also take the opposite side of the trade if you think Apple’s stock price will decline. You can buy a put option to cover the downside instead.
#2 Hedge Your Investment Portfolio
You can also buy a put option to hedge your investment portfolio, especially during times of heightened volatility.
For example, if you already own Apple stocks but think that prices will go down in the near term, you can protect the downside by buying a put option at US$130. In this example, it will cost around US$485.
Come 27 January 2023, if Apple’s stock price is US$125, you can exercise your put option – selling your 100 Apple stocks for US$130. Alternatively, you can sell your put option to realise the profit from the trade.
At this point, you would earn US$5 in profit per stock, or US$500 on 100 Apple stocks. As you only paid $485 for your options trade, you would make an overall profit. Again, regardless of whether you make an overall profit, you would exercise your option if Apple stocks are trading at any price below US$130.
As you can tell, buying a put option enables you to hedge the downside risk of your stocks going down. Any money you make on your option trade will be used to offset the losses on your investment holdings. In this case, since you own the 100 Apple stocks trading at $132.30 today, you would have lost about US$730 if it went to US$125 per stock.
#3 Earn An Income
You can also use options to earn extra income. For example, if you already own 100 Apple stocks, you can sell a covered call option. If you do not own Apple stocks, you would simply be selling a “naked” call – which is riskier.
When you do this, you become obligated to sell your Apple stocks at a certain price on a certain date. Let’s say you agree to sell your Apple stocks if they hit US$135 on 27 January 2023.
You will receive around US$480 for making this trade.
Come 27 January 2023, if Apple stocks are trading below US$135, your covered call option will simply expire. If Apple stocks are trading above US$135, you must sell your Apple stocks at that price.
Based on today’s price, there is a small price appreciation – about 2% for our example – on top of the US$480 income from selling the covered call.
You can also apply the same logic if you want to purchase Apple stocks. Let’s say you want to invest in 100 Apple stocks (and have the cash to do so). Since Apple is trading at US$132.30, you can sell a put option at US$132 for 27 January 2023.
You will receive around US$530 for agreeing to this.
If Apple stocks are trading above US$132 on 27 January 2023, you will not get to exercise your put option. However, you still keep the US$530 income from selling the put option.
If Apple stocks are trading below US$132, you are obligated to purchase the Apple stocks at US$132. You still get to keep the US$530 income.
The only concern here is that if Apple stocks shoot up within the 1-month timeframe, you will miss out on the price appreciation.
If Apple stocks fall far below the US$132-mark, then you are obligated to buy the Apple stocks at US$132. Again, this should not be a big concern as you were already prepared to pick up the Apple stocks at US$132.
How To Trade Options?
We use an example of trading options on the moomoo SG trading app. The process is very simple – and most other trading apps would follow a similar flow as well.
Within the mobile app, we can look for the counter that we want to trade options on. This can either be within our “Portfolio” or “Watchlist” already, or by looking at other indicators.
In the first of the three screenshots below (on the left), we can see that Apple stocks are showing up on the “Heat List” – indicating high interest in the counter.
We need to click on the “Options” tab in order to trade Apple stock options. If we are learning to trade options, we can also choose to start with “Papertrade” (on the bottom left of the middle screenshot) so we can see the outcomes of our option trades without putting any funds on the line first. Once we are more confident, we can progress to using actual funds to trade options.
Finally, we can preview the quotes and put in our trades (in the screenshot on the right). To view the quotes more clearly, we can click on the “Put” or “Call” options. Remember, we need to consider the “Expiry Date” and the “Strike Price”.
Once we have chosen our option trade, we can click on the quote – and confirm the price. In the example below, we are entering a Papertrade. Assuming, we want to buy an option for 100 Apple stocks (or 1 lot/Qty) at US$135 on 27 January 2023, this will cost us US$485.
Moomoo enables us to start trading options very easily. For those who are not yet confident or knowledgeable about options trading, we can use moomoo SG’s Papertrade function to learn the process.
As options trading can be more complex than buying and selling stocks, we may want to start off less aggressively. We can always ramp up our exposure after getting more confident.
We also have to note the option trading fees we have to pay. On moomoo SG, the fees and charges are transparent and, better yet, very competitive. Brokerage commission is US$0.65 per contract (minimum US$1.99 per order), and there is a platform fee of US$0.30 per contract (minimum US$0.99 per order). There will also be other types of regulatory charges that we will incur.
Source: moomoo SG
Read Also: moomoo Cash Plus: How Can We Earn Even Higher Returns While Investing
All views expressed in the article are the independent opinions of DollarsAndSense. Neither moomoo Singapore or its affiliates shall be liable for the content of the information provided. This advertisement has not been reviewed by the Monetary Authority of Singapore.
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