INFOGRAPHIC: Basics of options trading

For new investors, trading options can be somewhat daunting because of the lingo and perceived sophistication. However, as you will see, it is quite simple and can be an effective tactic for speculation or hedging one’s position. Here are some of the basics of options trading.

An option is the right, but not obligation, to purchase an underlying security at a certain price in the future. There are two basic options: calls and puts. A “call” is equivalent to a long position and a “put” is similar to a short position.

Investopedia has some good example scenarios of call and put options in action.

Trading options gives a trader leverage, and this can increase potential payoff and loss. Two areas where options can come in handy are for speculation or for hedging. In the former, a trader can use the leverage of options to bet a stock or index will move a certain way, raking in significant returns. From a hedging perspective, a trader can make a small bet by buying options that could protect against a market swing. Options can be an inexpensive insurance policy against bigger market movements that could destroy other aspects of a portfolio.

Original graphic from: Steady Options