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Strategies & Market Trends : Three Amigos Stock Thread

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To: Ken W who wrote (18826)	2/13/2000 12:16:00 PM
From: Sal D	Read Replies (1) of 29382

Ken, I'm not sure I can answer your question but I will try. This is only my understanding on how option?s work and at the very least it might help you or inspire some other discussion on option's and how they can be used as part of an investment strategy. I may state things that are basic and you may already understand them but I do this for someone who may read this and not know anything about option?s but is interested in them. You say you want to hedge your position, buying calls is not a hedge. An investor would have to be very bullish on a stock to buy calls on it. He may be looking for leverage or perhaps senses a rise in the stock price but does not want to commit all of the capital needed to purchase the stock outright. The call owner has the opportunity to profit from the rise in the stock with very little capital at stake compared to the amount necessary to buy the stock, either way the investor would be bullish on the stock and anticipating a rise in the stock price. Writing covered calls (buying stock and selling calls on a share for share basis) on the other hand are for investors who are willing to limit upside potential in exchange for some downside protection. (technically I?m not sure this is a hedge either) On the covered call the investor is paid (the premium, witch in turn lowers his breakeven point) to agree to sell his stock at the strike price in exchange the investor gives up any increase in the stock above the strike price. If the call expires worthless the call writer can sell another call further out for an additional premium(lowering his purchase price even lower). If the call is assigned the call buyer exercises his right to buy the stock at the strike price even though the stock price is higher. The call seller has taken in the premium but no longer owns the stock. A hedge is to limit investment loss by offsetting an existing position. You can use (protective) puts as a hedge. Someone who hold's a stock, but does not want to sell because he believes the stock may go up and would like to participate in the rise without risking all of his profit (if any). Owning just stock you begin to profit as soon as the price rises over your entry point, but you have no protection in the event the price goo's down. Owning a put along with the stock ensures limited risk. Although it increases the breakeven point by the cost of the put it still allows unlimited profit above the breakeven point. When investing in option's one must have a certain outlook on a particular stock and then can begin to explore the different strategies option's can provide. In my examples above a person who is fairly sure there will be a rise in the stock might want to buy the calls. A person who is not certain about the stock prices future and already owns the stock and is willing to limit his upside potential for some downside protection may want to write some covered calls. And yet another person who also is not certain about the stock prices future and already owns the stock may want to buy puts for downside protection but still have the ability of unlimited profit above his breakeven point. These are just a few examples of how one can use option's there are many other's witch offer other types of insurance and leverage. Sorry I couldn't answer your question Ken but like you said is it too close to Mar. expire to buy the 5's or write covered calls and collect what premium is available now and take my chances this is only something you can answer based on your outlook of the stock price but I hope this help's you in your decision. Looking forward to more option discussion. Now I have to go and hunt down those #3 guys. Joe

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