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					  Stock Options:
   A Beginner’s Guide
                     Carl Sanders
Introduction:
Welcome to Stock Options - A Beginner's Guide.
You are welcome and even encouraged to share this book with anyone
you care about to learn a little more about How Stock Option Trading
works.
However, to really gain the insight and training to make a legitimate
business trading stocks and options at home, I highly recommend
enrolling in the Stock Trading Program - Trading with the Titans.
You can learn more at www.stock-trading-program.com/special-offer
                       Table of Contents



Introduction: Stock Options                      3

Securing Investments with Options                6

In Focus: Call Options and Put Options           8

Quick Facts: Options                             13

Understanding How Stocks Are Priced              14

Factors That Affect Pricing                      15

When the Market Opens…                           17

Fair Pricing in the Stock Market                 18

A Look at Company Earnings                       19

Getting the News You Need to Trade Confidently   22

Why the Stock Market Behaves the Way it Does     25

Closing Note: Why the Market is Always Right     28

References                                       30




                              2
This book was designed to provide a concise guide to stock
options and the stock market in an easy-to-read and easy-to-
understand format. This book does not replace the advice of
a certified, financial advisor or an equivalent expert.

Introduction: Stock Options




Stock options can be powerful allies in building wealth for the
 near future. But they are complex instruments that require
                  expertise and experience.

What can you do with stock options? There are three main
things that you can do with them in the stock market:

   You can either buy or sell specific securities; you have
    the right to do so if you own an option.

   You can trade them.

   Options can also be used as a hedge to protect your
    investments against potential losses at a future time.




                            3
When you own an option for a specific company stock, you
can buy shares of stock from that company at a fixed price.
You can buy options this way before the option’s expiration
date. Options do expire; that’s why you have to be very keen
on monitoring your active trades right before expiration.

The option price is different from the market price of a
stock. The option price is the fixed price of the stock, as
opposed to the market price, which fluctuates regularly.
When you trade stock options, two terms come to the fore:
calls and puts.

What are calls and puts?

Calls and Puts

You trade a call option if you believe that the market price of
a particular stock is going to rise, but you do not want to risk
your investment in case that it does not.

A call option is traded near the market’s current price for
that stock. What is the implication? When the price of the
stock does increase right before the expiration of the option,
you have the option of purchasing shares of a stock at a
much lower price.

You can do two things when you trade using a call option.
First, you can just keep the shares of stock. You were able to
buy them at a lower price than what the market has to offer,
so you already have some gains with that purchase.

If you do not like the idea of just keeping the stocks, you can
just sell the stocks to take advantage of the profit/gain that
has been built into them after the purchase.




                             4
Of course, you would not be able to pocket everything from
the sale of your stocks. You pay for the option itself, the
commissions, and, of course, the taxes.

You can analyze put options in the same manner. The big
difference between calls and puts is that puts are traded if
you believe that the price of the stock is going to fall
significantly before the expiration of your option. Now, take
note that many traders use options regularly without ever
acquiring the associated securities.




Dynamic and always in a state of flux, the stock market rarely
         experiences moments of complete calm.



What affects the price of stock options, in general? There are
three main factors to consider:




                            5
   The current market price of a particular stock affects
    the price of the option. Changes in the market price of a
    stock can increase or decrease the price of an option.

   The period of time before the option expires also has a
    bearing on the value of the option.

     Generally, there is a buzz of trader activity right before
     expiration. Upon expiration, the option is often worth
     nothing.

   The third factor deals with the supply and demand for
    specific options. When the demand for stock options
    increase, the price will increase as well. If the demand
    is low, the price of the option can also be affected.

Securing Investments with Options

There are times that you will strongly feel that the stock
market will be adversely affected by an event and that stocks
will drop, including your stocks.

In such situations, options can help you protect your
investment. Think of it this way: If you think the price of a
stock will take a deep dive when a catastrophic event hits
the stock market, you can simply use a put option so you can
sell your stocks for just below the current market price.

You keep your capital secure in the process, and you can also
make some gains later on after selling your shares of stock.
Why do you need a put option to accomplish this?

The put option actually gives you the right to trade your
shares of stock for a particular company below market price.




                            6
What happens when the stock takes a dive? Your put options
go to work, and you can then resell the stocks at a premium
price. If you do, you earn some profit, and you keep your
capital safe from losses. The process is quite simple, and it
has been this way for quite a while now.

However, there are times when your put option is rendered
useless because the price of a stock does not dive. In such
cases, your speculation has clashed with the price trend of a
particular stock.

There are several things you can do. First, you can just sell
the contract once again so you can recover some of your
capital. The loss is not complete; at least you have some of
your money back.

Second, you can place a stop loss order on your active
trades. Simply call your broker so you can set the stop loss
order.

The stop loss order will ensure that when the price of a stock
reaches a certain point, the order will be executed, and you
recover some of your money. This beats losing everything
completely.




                            7
In Focus: Call Options and Put Options




Call options and put options allow you to resell stocks for easy
           profits, minus the cost of the option itself.

When you say that you are trading stock options, you are
actually trading contracts. An option is a type of contract that
gives its owner the right to to buy or sell securities before
expiration.

Remember, it is simply your right to purchase or sell
securities. It is not an obligation. There are two types of
options to choose from. The first one is called the call option
while the second one is called the put option.




                             8
Opting for Call Options




When the general speculation suggests that a stock’s price will
 go up, a call option can be placed for easy profits — if the
                    speculation is correct.

If you think that the security of a particular option is going to
increase in price, you may trade a call option. Here is an
illustrative example:

Let’s say that you have an option to buy or sell contracts for
Company ABC. You believe that the current market price of
$25 will be increasing at a future time. There are two things
that you can do at this point.

You can either buy shares of stock from Company ABC, or
you can trade a call option. If you place a call option instead
of buying stocks, you can buy a specific number of stocks
from Company ABC before the call option’s expiration for
$25.

Let us say that you were right — the stock’s price rose to
$30. The call option has been well-placed; you can now cash
in using your call option.




                             9
Because of your call option, you can now buy a pre-specified
number of stocks using the older market price of $25. You
make immediate profit this way — 100 stocks of Company
ABC can now be purchased at $25. You can then resell the
stocks for $30.

You get an immediate profit of $5 for this trade. It is now
considered a winning trade. But hold on to your seats — you
have to deduct the expenses associated with using the call
option.

Let’s say that for using the call option, you must pay $1 for
every share of stock that you bought for the old market
price. So the net profit that you can collect from this winning
trade is actually just $4 per share of stock sold using the new
market price.




                           10
Opting for Put Options




  If the general speculation states that the price of a stock is
             going down, a put option can be used.

A put option works in a very similar manner to call options.
Buying a put option gives you the right to sell an option’s
underlying security for a specific price before the option’s
expiration.

As we have discussed earlier, traders often feel that a put
option is needed if they think that the general price trend of
a particular stock is headed down instead of up.

Concisely, if you think the price of a stock will take a dive,
then a put option can be a viable instrument to ensure that
your investment is secure.

If you want to use a put option for 100 shares of stock at the
current market price of $25, then you simply have to buy the
option for $100.

If your speculation is correct, and the price of the stock takes
a dive from the $25 range, you can buy shares of stock at the
current market price (lower than $25) and then resell the


                            11
stocks for the old market price of $25. If the stock took a
dive and dipped to $19 per share, you can make a $6 total
profit from this trade alone.

Your net profit of course, would be $5 per share, as you have
to deduct the price of the put option from the profit ($1 per
stock). So your net profit from this alone would be $5 per
share, multiplied by the number of stocks you sold.

So $5 multiplied by 100 shares of stocks is equal to $500.
This is your total profit, and your seed capital is preserved
and can be used again to buy a call option or a put option at
a future time.




                          12
Quick Facts: Options




  Knowing the real facts can help you mold your investment
            strategy that much more effectively.

   The price of stock options may be represented as “per
    share,” but the maximum number of stocks that you
    can use when using options is limited to 100 shares per
    trade.

    If you get a stock quote of $2, the actual cost of a call
    option or put option for that particular stock is actually
    $200, because you automatically obtain buying and
    selling rights for 100 shares of stock.

   What is a strike price? The strike price is the price of
    the security that has been endorsed in the contract that
    you purchased.

    You can identify options and their complete details by
    simply looking at the names. If you see something like
    “ABC May5 Put,” then there is a contract for Company
    ABC stocks that would expire on May 5. The contract is
    a put option.




                          13
   Expiration is the natural end of an option’s life. The
    regular day for expiration is Friday (the third Friday) of
    every month. This will only change if the third Friday of
    the months ends up being a stock market holiday.

Understanding How Stocks Are Priced




  In the end, a stock’s value will be determined by how much
           investors are willing to pay for its shares.

When a company goes public for the first time, there is a
fixed stock price known as the “initial public offering” or IPO.

IPOs are not like other publicly traded stocks; they cannot be
traded by everyone, and their availability largely depends on
two things.

The first determining factor is whether your broker has been
given IPO stocks to allocate to institutional investors and
worthy clients. Factor number two is whether your broker
will give you shares of IPO stocks at all. Often, brokers
receive only one or two allocations of IPO stocks per year.

There is no assurance that they will get the stocks. There is
also no assurance that they will be able to give you some


                            14
even if you have performed many trades and you have a lot
of money in your live trading account. Now that you know
about how IPO stocks work, let us move on to discussing the
pricing for regular, publicly traded stocks.

Factors That Affect Pricing




  The money train’s direction is determined by a complex
combination of factors, including changes in the industry and
                         even politics.

Let’s use an illustrative example to show just how complex
the pricing process is. Let us say that you plan to buy shares
of stock the company Golden Tomatoes Industries.

On Tuesday of the current week, the price of Golden
Tomatoes Industries stocks has been pegged at $25.50.

What do you think would be the opening price of the same
stocks on the next day? No one can really give an exact
answer to this question.

If nothing special happens, then the stock’s price will
probably be within the lower or upper range of Tuesday’s



                           15
closing price. But, there is also a big chance that the price
will shift. Some events that may cause a price shift are:

   A war has broken out in Kalidonia, the main producer
    of golden tomatoes and other raw materials. Golden
    Tomatoes Industries suddenly has to deal with the
    possibility of scarcity of raw materials and production
    has ground to a halt.

   The President of Golden Tomatoes Industries has been
    handcuffed and arrested Tuesday night for stealing
    funds from the company.

   The United States FDA makes an announcement:
    Golden tomatoes have been proven effective in curing
    many common ailments, including the common cold.

   Key personages from Golden Tomatoes Industries are
    successful in identifying large reserves of crude oil on
    company properties. Logically, Golden Tomatoes
    Industries will act upon the availability of oil that will
    probably increase its market capitalization.

As you can see, different events, both local and international
in nature, can affect the price of just one stock in the market.
The hypothetical situations enumerated above will then
combine with other associated events.

Supply and demand, scarcity, and even the emergence of a
continued recession can also adversely affect a stock’s price.

The change in the stock’s price can happen overnight, or it
can suddenly erupt after a month’s time, after a relatively
stable year in the stock market.




                            16
When the Market Opens…

Everyday, when the market opens, traders and large
investors are faced with a clean slate. There are no set prices
for the stock market — because the only thing that will
determine the actual rise and fall of stock prices is how much
investors are willing to pay for them.

If a large percentage of investors think that a stock is
worthless, then the few will buy the condemned stock and
the value of the stock will take a dive.

Inversely, if the stock of one company is viewed as a
promising investment, then the price of that stock will make
a dramatic leap upward.

You might be thinking: What happens to the stocks that
were soaring the previous day? Well, there are no high-
flying stocks when the market opens.

If there really is value in a stock, and market makers are
clamoring for the stocks on a daily basis, then the price of
the stock will climb to its former state as the day progresses.

With the volume of national trades accomplished in a single
day, this is not difficult to accomplish. Again, in the end, a
stock’s price is determined by how much people are willing to
pay for it.

Some years ago, when William Henry Gates’ III Microsoft
Corporation was just starting out, many seasoned investors
thought that paying $10 for every share of stock for that
company was too much.

More than a decade later, these investors would take one
look at Gates’ achievement and look away — because they
knew that their speculation had gone awry, and they had


                           17
missed out on a large opportunity when Microsoft’s stocks
were just $10 per share.

Fair Pricing in the Stock Market

One of the core principles in the stock market is the concept
of fair pricing.

As much as possible, market makers and investors try to buy
and sell stocks at a fair price, taking into consideration all
the other intrinsic and extrinsic factors affecting the stock
market and the national economy, in general.

After deciding what would be a fair price for a stock should
be, they stick to this calculation. They do not let panic or
hysteria affect the manner at which they buy or sell stocks.

Seasoned investors are experts at looking at a stock’s price
trend. For example, there is a difference between a stock’s
value diving along with the entire stock market and a stock
diving because the company’s head honchos are stealing
funds.

There is a big difference between these two circumstances,
and investors know when to just sit tight and wait for more
elements to enter the scene and affect the market.




                           18
A Look at Company Earnings




If you have encountered a trading system before, you have
probably been instructed in the past to read newspapers or
read online news items about the companies that you wish
to invest in.

There are many factors to consider when choosing the best
company stocks for your own trades, but did you know that
company earnings are by far the most accurate indicators of
a company’s health?

Stock evaluation — that key activity every day trader should
perform prior to investing in a new stock actually revolves
around how much money a company is earning. Simply put:
Investors and day traders look at how much profit the
company is producing.




                          19
More profit means a more stable company and increased
market capitalization. If a company is adding to its market
capitalization at an exponential rate, then you can expect the
company to be added to large indexes like Standard & Poor’s
500 Index, MidCap 400 Index, or SmallCap 600 Index.

This is not to say that smaller companies that experience
some periods of negative growth or profit have intrinsically
no value. That is farthest from the case.

Usually, small companies who have negative growth rates
are in a temporary phase. Companies found with venture
capital often show signs of some negative growth rate in the
first few months or years of existence.

Are earnings reports the sole basis of small and large traders
alike? Not necessarily. For example, people expect large,
established corporations like Coca Cola to show a positive
earnings report every quarter. If the growth rate becomes
negative, then the usual tendency is for the price of a
company’s stocks to drop.

This is inevitable unless a company like Coca-Cola can show
proof that it is in complete control of the situation, and the
slight dive in quarterly profits is a very temporary
occurrence that will not happen twice. Only then would
investors be assuaged of their fears.

Inversely, small companies like Meebo may experience
negative profit rates for some quarters and still enjoy the
confidence of many investors and traders.

Why is this? Well, this happens if investors think that
specific small companies have a lot of promise in them and
just need time to further establish themselves in the market.




                           20
Earnings expectations are also a decisive factor when
evaluating stocks. Some companies report large growth
rates for several quarters and generate a lot of hype. After a
while, the market is expecting a particular growth to emerge
after several successful quarters with positive earnings.

This is when many companies begin to tumble. Some
companies may still report positive earnings but may fall
short in satisfying the earnings expectancies of investors and
market makers. This is enough to send a stock’s price rolling
down the hill.

So you see, in the stock market, you have to be consistently
profitable in order to get the confidence of investors.
Positive earnings is not enough to impress traders,
especially the company has been established decades ago
and has already grown beyond the borders of the country.

Another trend in a company’s earnings that you should look
at is “earnings per share.” If Company ABC earned $12
million in the last quarter and has a total of eight million
shares, then the EPS or earnings per share would be just
$1.5 million.

EPS is used so you can compare two or three companies at
the same time, using only these simple values. If another
company, Company XYZ earns the same profit in several
quarters ($12 million) but only has to distribute the profit to
four million stocks, then which company do you think
provides the highest profit to its stockholders?




                           21
Getting the News You Need to Trade Confidently




 Getting the news you need means you will be able to choose
                  your stocks strategically.

The stock market is one of the few industries that are
adversely affected when negative news about the economy
and industries in general are run on TV, newspapers, etc.
The confidence levels of investors are affected by drastic
issues like wars, famine, etc. Problems with corporate
organizations and funding are also affected by the news.

So if you want to become a successful trader, you must learn
how to find the financial news you need and follow relevant
news items regularly. Because you are investing in the stock
market, this daily routine is required so you can protect your
investments from sudden stock price dives.




                           22
The biggest problem encountered by beginning stock
traders is the sheer volume of news information available.
Take note, not just on the Internet, but also on printed media.

In the past, people relied heavily on printed news resources.
This is not the case today, with the advent of the Internet.
But people still read the papers.

So what do you if you feel like you are being hosed down
with too much information? This section of the book covers
this issue, and hopefully, you will be able to sift through the
excess noise and information to find what you really need.

The first thing that you have to understand about financial
news is that the quality and accuracy of financial reports are
not equal. Some TV channels may offer better financial news
than some print source. Inversely, some print sources are
more accurate than what is aired on television alone.

When trying to find news about securities and bonds, go
directly to the main source. It is recommended that you go to
the company website and try to find the information you
need there. It might sound odd, but this is the best place to
get the information you need.

Why? Companies are restricted to specific items when they
are publishing information about themselves. As companies
prefer to work with standards and let their performance
speak to the public, you are getting a more objective
perspective.

Inversely, a website that is trying to sell you a trading
platform would of course have a goal: enticing you to start
trading immediately. This affects the quality and objectivity
of the news items in those types of websites.




                           23
Other news resources may be influenced by outside forces
— so they can market their products better. These resources
can be read, but the information presented in these websites
must be compared with other sources for veracity.

In this manner, you are protecting yourself from the nearly
invisible strands of marketing designs employed by
influential companies to change the public’s mindset about
particular products or even stocks.

You       can     visit    http://online.wsj.com/           and
http://finance.yahoo.com/ for starters.

Yahoo! Finance and the Wall Street Journal are fairly
respectable sources of financial news — but do not forget to
compare your notes, as well. It does not hurt anyone to
double-check details, especially if it can adversely affect your
trading. Acquisitions, mergers, and hostile takeover can all
affect your trading.




                            24
Why the Stock Market Behaves the Way It Does




 The stock market is capable of reacting rather abruptly to
 major headlines of the day — and for good reason, too. It is
        trying to preserve itself the best way it can.

In key points in modern history, you can often see headlines
like “Stock Market Crashing” or something similar. While
some of the news items are certainly just exaggerations
designed to draw attention to specific news sources, they
have a kernel of truth in them.

And that kernel of truth is: Whenever something big
happens, the stock market reacts. The stock market does not
react to destroy itself, but rather, to preserve itself.

There are absolute rules in the market, and these rules
remain regardless of what happens in the outside world.
One should always remember that the stock market is an
artificial economy — and will do everything in its power to
preserve itself.




                           25
Monumental events can affect the stock market in several
ways:

   The stock market can change its general direction.

   The stock market can crash.

   The stock market can become unstable, scaring off
    investors and companies alike.

What events affect the stock market? Here is a quick
rundown of the most common ones:

   When the inflation rate in the national economy
    increases

   When the interest rates of credit, loans, and other
    similar instruments increase

   When peoples’ earnings and corporate earnings take a
    dive

   Changes in crude oil prices and energy prices

   When war erupts in key countries in the world

   When there is a threat of terrorism in the country

   When crime and fraudulent activity is rampant

   When there are serious political problems within the
    national territory




                         26
And the most important factor of all:

   Uncertainty

That is right: When the stock market meets uncertain times,
it twists and spirals in an attempt to avoid as much damage
as possible.

When there is uncertainty, investors attempt to pack up and
leave — to keep their capitals intact and safe from any harsh
or drastic changes in the market. This in turn affects the
market greatly — stock values plummet, and companies feel
the heat.

Inversely, if there is good news, then the stock market often
does not react. If there is extremely good news, the prices of
stocks tend to dip. These are called “market bumps.”

As the name implies, market bumps are temporary in nature
and are not here for the long term. As a trader, you should be
up-to-date with the news, and you should be able to identify
temporary market bumps from long-term changes that can
affect the stock market, and your trades, in general.




                           27
Closing Note: Why the Market is Always Right




   The market’s pricing of stocks is never subjective — it is
                          absolute.

You may have heard of stock market sages or self-
proclaimed “Wall Street Insiders” who make a living telling
people how much the stock market is overpricing specific
stocks, or bonds, or what not.

These folks may be right because they often have documents
supporting their statements. However, when you look at the
bigger picture, it appears that the common knowledge is
always right — the market knows what should be the price
of stocks. Why is this?

The simple answer is — the price of any commodity or
stock, in the end, is determined only by what people can
offer, whether they are buying or selling stocks. And take
note — they will not pay a penny more for something they
deem is only worth a specific value.




                           28
Another thing: The value of a stock in the eyes of traders and
the price of a stock are not necessarily intertwined. They do
not affect each other directly, although they may be
complementary factors. If some investors value the stocks of
particular companies over a long period of time, it does not
mean that this valuation will have a drastic effect on the
price of those stocks.

But that does not mean that you cannot do well if you choose
to become a value investor. All we are saying here is that
when the market price has already been set, regardless of all
extraneous factors, the price that has been set it absolute.




Conclusion:
- Again - I highly recommend enrolling in the Stock Trading Program -
Trading with the Titans.
You can learn more at www.stock-trading-program.com/special-offer




                               29
                       References

http://stocks.about.com/od/advancedtrading/a/101208Pri
ce.htm

http://stocks.about.com/od/whatmovesthemarket/a/What
movesmarket.htm

http://stocks.about.com/od/marketnews/a/Marketnewsou
r.htm

http://stocks.about.com/od/evaluatingstocks/a/Itsearnings
.htm

http://stocks.about.com/od/tradingbasics/a/Stockprices.ht
m

http://stocks.about.com/od/advancedtrading/a/OptionBa0
22705.htm

http://stocks.about.com/od/advancedtrading/a/Optitrad03
1005.htm




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