Why Options? (Part 5)

Today I will continue advancing the case for options by presenting two additional advantages to trading them.

The fourth advantage to trading options is their ability to lower cost basis (CB) of stock. CB is the amount paid for an investment and to be honest, this is really an accounting designation rather than an official tax designation. Whether one classifies sold premium as lowering expenses or increasing revenue, the effects are very real. To put this in Real Estate terms, options allow me to “rent out” my stock by selling option premium in exchange for the obligation to sell the stock at a particular price if the stock moves higher. In selling the stock I realize the profit. If the stock does not rise to the strike price then I may repeat the process to further lower my CB.

With stock alone, the only way to really lower CB is by waiting for it to fall and buying more to lower the average CB of all shares (dollar cost averaging). One could consider dividends to lower CB as well. If the stock pays dividends then I can often sell premium against it as a second means to lower CB.

The last advantage I will describe of trading options is probably the most exciting: position adjustment to match the underlying trend. Once I buy stock shares, my choices are to sell some shares, sell all shares, or buy more shares. I basically either hope the stock goes higher or choose to cut downside losses by getting out. Option adjustments can allow me to profit when the trend turns sideways or even lower. The potential adjustments are almost limitless to ride these changing trends. This is a blessing and a curse because while choices are good, there is no “one best adjustment.” Either way, many option traders live for this opportunity to adjust if needed.

Some concluding remarks in my next installment…