Puts and calls are creative instruments that can be used for a variety of purposes. They are useful for speculating if you are convinced of a forthcoming market move and wish to take maximum advantage of it. They are useful for managing, and thereby frequently reducing existing risk to which an investor is already exposed. Finally, the objective of this site is to promote the idea that puts and calls can be used for simple enjoyment. Of course enjoyment is enhanced with profitable gains, but this site offers no investment advice. Rather its purpose is to educate interested people who might wish to use puts and calls for enjoyable market watching and trading. Knowledge is the most important ingredient needed to take advantage of frequent esoteric opportunities. There are a number of techniques that investors take advantage of to accomplish certain purposes. Many such techniques can be enhanced with proper use of puts or calls. Often the rewards for using puts or calls to accomplish mundane tasks produces extra returns that might otherwise be missed. For example you might be able to sell a stock at a price that is above the market by selling a call. Similarly, an investor might buy a stock at an effective cost that is below the market by using a put.
Everything you want to know about puts and calls
An assortment of creative opportunities awaits market participants who are willing to expand their horizons. Although many of these devices seem to be the venue for speculators, ordinary investors, traders and every day stockholders can find beneficial uses for puts, calls and other such derivatives. The necessary ingredient that must be added is knowledge. Puts and calls are perhaps the most widely known derivative contracts, but their applicability to individual portfolios remains a mystery to many people. The general groups of financial instruments to which puts and calls belong are known as derivatives. The name arises from the fact that these contracts do not have intrinsic value such as investing in gold or silver might have, but rather their value is derived from the value of something else. Stock values are determined by the earning potential, dividends, and other emoluments realized by owning them.
Unfortunately, the name derivative often elicits fear among investors who remember it from their first poorly taught college calculus course. Just as those who stuck with their calculus long enough to appreciate its use, investors who learn about using financial derivatives can learn to appreciate the power and extra earning potential these devices can add to portfolios. In fact many people will find that financial derivatives are easier to understand and use than are mathematical derivatives. More importantly, financial derivatives can be a lot more fun and offer the potential of direct rewards when used properly. Specifically, knowledgeable users of these contracts have the opportunity to cash in on these contracts to generate or simply enhance the earning power of their portfolios.
Puts and calls are some of the most exciting and extraordinary financial instruments available to today investors who seek a fast paced market with lots of potential action. Puts and calls are simple contracts between two parties that allow people to participate in financial transactions with considerable potential gain or loss without substantial initial investments. Puts and calls can be used to assume risk you do not have in order to seek gains, or they can be used to reduce existing risk without incurring great costs. Furthermore they can be used as a device to generate current income or transact in the financial markets beneficially. Just as is true with other financial instruments, it is important to fully understand puts and calls in order to use them for your greatest benefit.
Puts and calls are two modestly different forms of of option contracts. Their equivalence will be demonstrated later. The two necessary parties to any put or call contract are buyers and the sellers. Buyers are commonly known as owners and sellers are commonly known as writers. A put option entitles the party who owns it to execute it at his own discretion. Similarly a call option entitles its owner to execute it at its owner's discretion. Normally these options have a finite life before they mature or expire. Often times the option's life span is relatively short, on the order of a few months. Of course longer terms are possible, potentially extending forever.
Given that the owner of an option has great flexibility to act upon his own discretion, he will take the actions that are in his own best interests. The seller of the option must acquiesce to the owner's demands. The inducement that led the option seller into that situation was a premium paid by the buyer when the option was created. One of the major questions of the last century has been, "How should option contracts best be evaluated?" A model was developed by two researchers during the early 1970's and is commonly referenced by their names the Black and Scholes model. Based upon their early work countless others have revised, extended and employed their model to better understand option valuation.