ULTIMATE Guide to Options Trading on WeBull (applies to ALL brokerages)

hello my name is adam and i'm going to teach you how to trade options on weeble today now you might look at the links of this video and go wow that is really really long do i actually need to know all of this and the answer to that question is yes you must have a general understanding of everything we're going to discuss today if you want to have any hope of having a modicum of success trading options this stuff is foundational it is absolutely critical for you to have any success and it might seem like a lot at first but as we go through it you'll start to realize that things are clicking things are starting to make more sense and as you go back and study each section of this video it'll become more and more second nature to the point where it will be easy and you'll be able to go on and learn more sophisticated strategies aside from just buying puts and calls which we're going to discuss today and be successful at it so don't panic it might seem like a lot at first but listen i'm not an absolute genius and i got it you can do it too now if you have not signed up for weeble yet but you're about to please use my link in the description below okay if you use that link deposit 100 bucks you'll get two free stocks okay it helps out the channel helps out you it's a win-win in addition to this uh you know if you notice i say something that sounds off or not quite right check the pinned comment before you come commenting to me and saying adam you big donut you goofed if i make a mistake i will find out eventually and i will put it in the pinned comment so check there if you feel like something isn't quite right also you may have noticed already that this video is broken down into sections if you have your cursor over the the buffer bar that'll allow you to skip to certain sections you're interested in or go back and study certain sections and it's also worth noting that at the end of each section i'm going to ask you some questions and you can kind of answer those questions in your head and those questions are just there to make sure that you're keeping up with the important topics of each section and if you want to check and make sure that you're getting the answers to those questions correct you can look in the description you'll find all the answers typed out down there so we're going to be using the mobile app in general as the reference today although everything will also apply to the desktop or a web version of their platform now before we really dive in and start learning about options what they are how they work how to trade them on weibull the first thing we have to do is apply for options trading to do this open up the app select the account you're interested in go to more and then option trading level here you can apply for options trading and there are three different levels for options trading as you go up each level it'll unlock access to more complicated strategies yes you can buy puts and calls which you may have already heard of already and we're going to discuss that a lot today but you can also combine puts and calls in different unique ways to make certain payouts depending on where the stock goes it can get very interesting but also a little bit sophisticated but i recommend you go for level three if possible because it'll allow you access to all option strategies and you are going to go out there after this video and learn more sophisticated option strategies because there's a lot of unique ways that you can combine these options together that'll really fit your goals you know for a quick example there's something called a cash secured put where you lock in a certain stock price to buy shares at and for doing so you get some money sounds pretty sweet right you lock in a price to buy shares out you get some money on top of it so instead of just buying shares outright you can lock in that price and get some money for doing so so there's unique ways that you can trade options that you wouldn't be able to have access to if you just got level one options trading okay so unlock level three if possible so that you can go out there and learn everything and use everything but if you only get level one for whatever reason that'll be good enough for today because we're generally gonna be talking about just buying puts and buying calls because that's the basics yeah that's the foundation of options all right and the second thing we have to do before we get going is make sure our options data is up to date to do this go back to your account hit quick trade tap on any stock it doesn't matter what it is you can look up google if you want in the bottom right tap on options and at the top you see that little blue clock there if you tap on that guy and then tap on oprah real time data that hyperlink it'll take you to a page where you can subscribe to options data for 2.99 a month if you don't do this you won't be able to really trade options because your options prices are going to be delayed by 15 minutes you're going to be lagging behind everybody else can be just guessing about the current prices so you have to do this in order to trade options all right now all that housekeeping is out of the way let's learn how to trade options on weibull all right so what we're looking at here on the right side is called an options chain okay and we're going to use it to explain call options so if you want to follow along open up weeble on your phone go to quick trade about two thirds of the way down the left side of your screen there if you want to follow along exactly you can look up the same stock i'm going to do this on which is amd and then in the bottom right tap options okay so the number's gonna be very different because it's different data from price data and information but the same layout so it'll be more than enough to really dig deep into what call options are how they work call options are these contracts that you can buy and the reason someone would buy a call option for example would be to make money as a stock goes up people might buy call options as compared to just buying the stock out right because they can put up less cash but get the same or more leverage than shares so for example i might have enough money to buy one amd share if i buy one amd share and amd goes up by a dollar well guess what i make a dollar but if i take that same amount of money and put it into amd options and amd goes up a dollar i can make more than a dollar so for the same buying power a call option could give you more leverage and you can make more money if the stock price rises now there's a lot more to it than that it's not as simple as just having leverage but that's the general reason why someone would buy a call option or buy a put option what we're looking at here is a list of different call options there's a call option here there's a call option here here so all of this information pertains to one call option all of this information pertains to one call option all the way up and all the way down you can scroll up and down there's tons of different call options and we'll get to expiration dates but there's different call options with different expiration dates you can see those down here there's a lot of different call options to choose from and we are just going to talk about call options for now and later we'll discuss the difference between put options and call options call options you're betting on the stock going up put options you're betting on the stock going down but there's a lot of overlapping similarities and it'd be very repetitive to go through both calls and puts at the same time we'll just discuss the differences later so on the right side there's put options but we just want to ignore that for now we're just going to talk about call options okay so keep your eyes on the left side of the screen here okay so we see call options but you're probably you probably can't even like interpret the numbers you see before you we don't have any contacts so let's get some context let's define what a call option is a call option is simply a contract between a buyer and a seller it's an agreement between two people two parties you and your counterparty in all of the examples today we are going to be the buyer of these options it is possible to be the seller where you actually create the contract and sell it to somebody but that's a little bit more sophisticated and comes after learning about buying calls and puts and generally speaking when you first start trading options you will just be buying calls and puts and that's how you'll get your first taste of options and what they're capable of so we're gonna be the buyer in all these examples so a call option is a contract between a buyer and a seller so between us and a seller this call option gives us as the buyer the right to do something it gives us the right but not the obligation which means in simpler terms you can but you don't have to the right but not the obligation you can but you don't have to buy 100 shares of an underlying stock at a strike price that's a that is a big mouthful but let me break it down here so a call option allows you to buy 100 shares it allows you to buy 100 shares of what in underlying amd is our underlying for these options in other words amd and all these call options we see here are interlinked they are connected together magically when amd's stock price moves it's going to affect the value of these call options so because call options as we've mentioned briefly allow you to bet on the stock price going up well because amd and these options are connected when amd stock price rises everything else held constant these options will increase in value so if you own one of these just like if you own a share if it increases in value you could sell it for more money than you bought it for you can collect a profit so these options and amd are interlinked so that makes amd these options underlying amd is the underlying because it is what the options are traded on it is what affects these options prices so if i say the underlying increases by 20 well if we're looking at these options you know that i'm talking about amd so amd is the options underlying so we can buy 100 shares of amd uh if we have a call option one of these call options and we buy them at a strike price you can see the strike price right here right down the middle and for some reason it increases as we go down which is really annoying you probably change it in the settings right here but i wanted to keep it the same screen you get by default so there's no confusion so these are the strike prices so let's say we own one of these call options and we'll get into how you get one of these call options in your possession here in a little bit but let's say we own this call option well let's look at its strike price that strike price is 95. so if i own this call option it gives me the right to buy 100 shares of the underlying stock which is amd at the strike price of 95 dollars per share so i can buy 100 shares of amd at 95 per share and this process of buying 100 shares at 95 is called or the strike price is called exercising your call option on every brokerage out there if they allow you to trade options there is a button somewhere that says exercise and you can tap it and this will automatically happen you will buy 100 shares at the strike price now i want to pause for a second and say yes you can exercise a call option the ability to exercise is what's going to drive the value of these options so we're going to discuss this in great great depth but it's important to understand that even though you can exercise call options and that's what drives the value behind call options the vast majority of cases in the vast majority of scenarios it is not cost effective to exercise in fact most of the time if you do exercise you'll lose money and we'll discuss that down the road here once you start putting more building blocks together but for now just know without knowing the reason behind it that you generally speaking will not exercise your call options the reason we're going to discuss exercising and what it means and how it affects different options is because you have to understand what exercising is in good detail before you can understand where the value and prices of options come from and how they fluctuate so for right now don't get confused we're going to talk about exercising and making and losing money through exercising but you will almost never exercise it's pretty rare there are very few scenarios in which you will okay so let's say we do have this call option in our possession and we exercise it what happens we buy 100 shares at the strike price of 95 that's good for this option because if we buy 100 shares at 95 dollars we can go right back and look at the current market price these shares are going for 96.84 if i buy a hundred at 95 i could sell 100 at 96.84 collecting a dollar 84 per share of those 100 shares so if i collect a dollar eighty-four per share of those hundred shares i extract 184 dollars of value through exercising and that's the case for any option whose strike price is less than the current trading price you would be able to exercise and extract some value now this value is not necessarily profit like i said we'll discuss that in a little bit you might actually lose money but you can extract some value out of exercising if the strike price is lower than the current trading price so that means that you could extract value for any of these options and we call these options where you can exercise and extract value in the money options in the money in the money and you will see that abbreviated as itm well how about let's say you know i'm not saying it's necessarily possible well let's say that the strike price of an option that we own is 96.84 well if we exercise we buy 100 shares at 96.84 and then if we go back and sell them to the market we sell each one of those for 96.84 cents we haven't extracted any value we haven't lost any value there's no difference between you know buying 100 shares at the current market value versus exercising that call option and we call those options where if you exercise you don't extract any value but you also don't lose any value we call those at the money options so the strike price is equal to the current trading price that option is going to be called at the money how about if the strike price is greater than the current trading price remember we're going down okay it's confusing because you'd think this would be lower the strike prices would be lower but they're actually greater than the current trading price so don't get confused well let's say we own this option right here if we buy 100 shares at 97 and then sell at 96.84 we're losing uh 16 cents per share we'd actually be losing value through exercising these options and any option you exercise and you lose value in other words any option whose strike price is greater than the current trading price is known as out of the money so all of these are out of the money otm out of the money options where if you exercise you would actually lose value and each type of option is going to have very unique characteristics and we'll really delve into those in future sections but you do just need to know uh what these options are called and the money at the money and out of the money and why they are called that what what is necessary for them to be called that so for example for out of the money if the strike price is greater than the current trading price then it's out of the money and you need to know that okay how do i get one of these options in my possession we've talked a lot about exercising how do you even get one into your possession in the first place well you do so just by buying it remember this contract is between a buyer and a seller and we are the buyer in this scenario we have to buy this contract from a seller if we want it so let's look again at this 95 strike call well this call has a certain price tag associated with it and it's not the strike price don't get confused by that that's not what you pay to get this option in your possession the price is actually right here you can see that it says last at the top that means that's the last traded price that's the last price that two a buyer and a seller met and exchanged the contract for so the buyer paid that much to a seller uh to have the contract to have the right to exercise it this number right here this two dollars and this is two dollars and one cents a lot of times you'll see a dollar sign associated with it it's two dollars and one cents and that's how much we paid to get this option in our possession but this two dollars in one cent is not the entire amount you pay for this option so let's write right here with two dollars and one cent we don't pay that much for that option we pay more than that in fact two dollars and one cents is how much we pay two dollars and one cent is how much we pay per share of the 100 shares at the contract control so this is a premium we are paying for the right to exercise for each share that we can exercise for and remember we can exercise for 100 shares we can buy 100 shares of the strike price so we paid two dollars in one cent to have that right to exercise for each share of those hundred shares we have to multiply this by 100 because you cannot exercise for anything more than 100 or less than 100 for one call option it is fixed at 100 well then we are paying 201 dollars for this call option so i will demonstrate to you later how you actually enter an order to buy a call option like this but this is the amount we're paying to get this call option into our portfolio where we can actually see it on our screen and see that we own this call option we pay 201 dollars so when you look at these prices and on different brokerages maybe even on the desktop platform they'll have a dollar sign when you look at these prices remember that they are multiplied by 100 in order to get the more realistic amount you'll pay to get this option in your possession so let's say we do that we pay 201 dollars to some seller and we get this 95 call into our portfolio well after we've paid 201 dollars which is called paying a debit any money going out of your account as a debit any money coming into your account as a credit once we've paid that money the value of this contract will not stay fixed the value of this contract moves around and you can kind of see how much it moves around by so if i buy it right here well what happens if it gets more in the money let's say it gets a dollar more in the money let's say this jumps up to 97 well let's look at the dollar let's look at the call option that's one dollar more on the money you can see it's worth 289 if it's if it becomes even a dollar further and the money becomes worth 375. so the deeper in the money an option is a call option gets the more valuable it gets so in other words as the underlying stock amd rises in value so does the value of your call option so let's say we buy this option that we pay a debit of 201. okay we're going to write it in premiums terms okay because that's generally how you'll see it written this is a debit debit meaning the money goes out of your account you no longer have it but you do now have this 95 strike call in your possession well let's say that the stock price does rise to 97 and it becomes one more dollar in the money well it might be worth 289 because this call option right now is a dollar more in the money so it's a good representation of what would happen to our 95 strike call if the stock price rises by a dollar so it might be worth 289 and we can go and sell that contract back to the market back to somebody else for 289. so again all that's happened is we bought this call option this 95 call and we're simulating that the stock price rises the underlying rises by a dollar pushing this call option one dollar more in the money and to simulate that we look at the call option that is one dollar more in the money it's worth 289. so if it's worth 289 now we can sell it which would give us a credit meaning money is coming in the door and we can take a look at what our profit is if we bought for 201 but sold for 289 we made a profit of 88 cents remember this is all in premiums terms is what i like to call it when you look at this it's called premium these numbers right here one dollar and 24 cents is a premium of this option it's how the premium you pay to own this option i call this premiums terms so if you see 201 this is in premiums terms it's per share of the 100 shares that the contract controls so if you want the more realistic number we have to multiply it by a hundred so our profit here would be 88 and this is exactly exactly how you trade call options you buy call option you hope the stock price rises and so the value of your call option rises and then you sell it for more than you initially bought it for and now you're no longer in the trade you have no counterparty anymore okay the counterparty is now the seller and the new buyer who bought from you and you're out of the trade you made some money bada bing bada boom that's it now the exact opposite could happen let's say you know instead of this rising to 97 let's say it dropped to 95 well the value of our option might go from 201 to 124 and we lose like you know 75 77 on the trade okay so you can lose or make money if the underlying goes up you make money if it goes down you lose money this is a lot for one section so take your time there's a lot more coming so just wrap your head around this idea that there are options where you could exercise them for certain amounts of value and the amount you can exercise will play into why these increase and decrease the the premium why it increases the further in the money it gets or why it decreases the less in the money or the further out of the money it gets you can see it goes all the way down to seven cents per share of the hundred shares that contract controls so the what you can exercise it for will play into this premium and we'll discuss that later but what i want you to really understand right now is the definitions of out of the money out of the money and in the money i want you to understand that as a stock as the underlying rises a call option will rise in value as well i want you to understand the reason people trade or buy call options individual call options as compared to owning the underlying stock is because it provides the leverage i want you to understand that it's no different than really buying and selling shares in the sense that you buy at a low price hoped the value of the call option rises so that you can sell for a higher price and sell for a profit and that is generally how people will trade options when they're just trading single options when they're buying and selling there's more complicated strategies where you paste these together and it has weird payouts and all that but for now when you're just buying call options you try to buy at a lower price hope the value rises and sell for a higher price now if things go down really really low the max you can lose is whatever you put into the trade so if i bought this call option for 201 dollars and the stock dropped all the way to zero i'm going to lose all the money i put into this trade i'm going to lose all 201 dollars but that is it i can't lose more than that that's one of the nice things about options is that they are a defined risk strategy you can't lose any more than you put into the trade all right so the questions for this section to make sure that you're keeping up with the important ideas are the following what does a call option give you the right to do as the call option owner as the buyer of that call option what is premium what does that mean why is it important define in the money at the money and out of the money what does it mean if a call option is in the money what does it mean if call options at the money how about out of the money define underlying if i'm trading options on an underlying what does that mean what is an underlying and generally speaking should you exercise options yes or no now you don't have all the information in your brain yet to fully understand why the answer that this question is the way it is but we'll get to that at this point though you should know whether or not generally speaking you exercise options you just may not know exactly why yet so pause answer those questions make sure you have a good understanding and then move on to the next section let's do it in the previous section i briefly mentioned that the ability to exercise is what drives the value of options it generates the prices of options and it explains why options prices change however i haven't exactly explained the the exact relationship between the ability to exercise and premium and that is the purpose of this section is to explain why options are priced the way they are and why options prices change and how so i've left in the money at the money and out of the money here because i think it's pretty counter-intuitive how the strike prices increase as you go down so i'm just leaving that there so you don't forget which ones are in the money and out of the money okay let's look at options premium and break it down so let's look at the 95 strike call we're gonna look at the two dollars and one cent of premium we're gonna ignore this two dollars and five cents in this 198 those are the ask and bid prices and we'll discuss that later right now we just want to look at the last traded price let's write that here two dollars and one cent there are two things that explain why this option is priced at two dollars and one cent the first is that this option can be exercised for some value as we mentioned before any in the money option can be exercised for some value because this strike price is lower than the current trading price strike price being 95 current trading price being 96.84 we can exercise this option buying 100 shares at 95 and then sell 100 shares at 96.84 collecting 1.84 cents per share so this option and any in the money option can be exercised and you can extract some value by doing so and like i said we can extract 1.84 cents per share so let's write that here overall we would extract 184 dollars because we're doing that for 100 shares 1.84 cents per share for 100 shares is 184. so 1.84 cents is built into this options premium based on whatever you can exercise it for and this portion of the premium is called intrinsic value intrinsic value is a portion of the premium given to the option based on whatever you could exercise it for and following that logic because out of the money options cannot be exercised for any value out of the money options have no intrinsic value out of the money have no iv intrinsic value well this doesn't necessarily explain all of the premium because well number one out of the many options are priced okay they have prices and but they have no intrinsic value so they must be priced for some reason and this also doesn't explain all the two dollars and one cent of premium we only have we've only explained 1.84 cents away so what's left over well we have 17 cents left over that we have yet to explain and this 17 cents is called extrinsic value extrinsic value is the portion of a premium given to an option based on days until expiration days till expiration and something called implied volatility which i'm going to shorten down to imp evol here so i haven't mentioned it yet so i'll mention it now seems like a good good time to do it options have expiration dates all of these call options we're looking at here expire on the 18th of december 2020. you could tap on these expirations down here and see an entirely new options chain we have expirations for the 31st of december 2020. january 2021 you can go out years there's tons of expiration dates and tons of different call options so options have a life span there's a certain amount of time for them to get in the money or get deeper in the money to build up intrinsic value not necessarily that they to exercise it but because they could be exercised so they will gain intrinsic value as they get in the money or deeper in the money so options have value given to them based on how much time there is until expiration because the more time you have the more time you have for the option to get deeper in the money which means that it'll build up more intrinsic value it'd be worth more so because more time means more time for it to get deeper in the money it also means more extrinsic value there's some value given to the premium based on the fact that the more time you have the more time you have for it to get deeper in the money and you'll see this if you tap on expiration dates that are further out in the future the options will be worth more even if they have the same strike price if they have the same strike price if they had the 95 strike price they will have the same intrinsic value as our option here but their extrinsic value will be higher it'll be greater making the overall value of the option more expensive because there's more time till expiration there's more time for it to get deeper in the money to start building up even more intrinsic value so as you tap on options on expirations that are further out in the future you'll see that the options are more expensive and that's part of the benefit of buying options that are further out in expiration is because they'll have more time to build up this nice thick layer of intrinsic value to start accruing more and more value such that if you buy now and it builds up a ton of intrinsic value over the next three months then you could sell for a high price and collect a good profit so for that reason options that are further out in this in the future are worth more they have more extrinsic value now this days till expiration does not work alone it also works with something called implied volatility we'll talk more about implied volatility in a future section but for now we can think of implied volatility as the anticipated future volatility of the underlying stock in other words the anticipated depth of swings that the stock price will have if a stock price is very volatile it can have a higher potential to push this option deeper in the money so the more time you have till expiration and the more volatile the underlying stock is the higher the likelihood that this option will swing very deep in the money and build up a large porsche layer of intrinsic value and because of this this has to be priced into the option there has to be some value into the option because the intrinsic value can change and it can change depending on days till expiration and implied volatility now we think about this logically then there's two things we have to consider one is that as time passes there's less time until expiration which must mean that extrinsic value decreases and that is exactly the case as each day passes this extrinsic value is going to decrease by a certain amount and we'll discuss what that certain amount is later when we talk about the greeks which are the op option statistics but for now let's think about what happens if you know one day goes by this can go down to 16 cents because there's less time for till expiration there's less time for this option to get deeper in the money that'll make the overall value of this option two dollars another day passes they could drop down to 15 making it 199. so you could see that if you bought at 201 and the stock price trades sideways meaning that the stock price stays the same over time which means that intrinsic value stays the same over time extrinsic value will decay reducing the price of your option such that if you bought it 201 and then sold at 199 you would lose two cents of premium which is two dollars buying call options is not just like having leveraged shares owning shares for cheaper there's characteristics to options that are unique to options and this is one of them called time decay the fact that extrinsic value decays off as time passes is something you have to consider when you're trading options you want that time decay to be compensated by an increase in intrinsic value if intrinsic value increases more than extrinsic value is decaying you will overall be making money because the value of your option will be increasing so we want intrinsic value to increase which happens when the underlying stock price rises which will increase the overall overall value of this option one thing that will negate this or and impede this is the fact that extrinsic value decays over time so we'll write that here so looking down here extrinsic value decays as time passes this is called time decay or theta decay and we'll discuss theta later another thing we have to consider logically looking at this is that well if the expected volatility anticipated volatility the implied volatility if that increases well then it has a higher potential to shoot this option deep deep in the money so if implied volatility increases extrinsic value increases and vice versa if implied volatility if people expect that the future volatility of the stock is going to be less than they initially thought which means implied volatility decreases extrinsic value must decrease because it has less of a potential to shoot this option deep deep in the money so there's a positive correlation between implied volatility and extrinsic value extrinsic value and implied volatility are positively correlated now the interesting thing is we will look at how we use implied volatility as an edge when we're trading options in a little bit but implied volatility is actually extracted from extrinsic value so first you'll see an increase in extrinsic value and that is due to an increase in implied volatility people expect the future stock to be more volatile there becomes more demand for this option and because of the laws of supply and demand the value of this option must increase so as demand increases as anticipated volatility increases for the stock the price will increase which means extrinsic value increases which means implied volatility increases so an increase in extrinsic value is the same as an increase in implied volatility they are basically the same thing implied volatility means that there's volatility that is implied by the increase in extrinsic value it is implied by the inflation of the price of this option it is implied volatility and it is implied by extrinsic value but a lot of times you'll see people look at implied volatility and say well implied volatility rises that means that the options price uh rose it doesn't work that way it is implied by the increase of uh the options premium which is caused by an increased demand for the option okay so i'm going to leave it there for that section because there's a lot to take in and we'll discuss more about implied volatility in a little bit because it's a little bit of a topic of its own but let me summarize all this for you really quick options premiums are broken down into two sub-categories the first is whatever you could exercise the option for and that is called intrinsic value if someone's selling uh a button where if i hit it i get 70 bucks but they're selling it for 30 dollars that's an easy 40 profit i pay them 30 bucks smash the button get 70 back 40 profit wouldn't make sense this is a ticket this option is a ticket to at least 184 bucks so that has to be priced into this option and it is and it's priced in as intrinsic value out of the money options because they cannot be exercised for any value have no intrinsic value however this is not completely explained premium there's also a second subcategory called extrinsic value which is based on days till expiration and implied volatility working together you must have time and you must have volatility for this option to be able to get deeper in the money extrinsic value decays as time passes the less time there is till expiration the less time the option has to get deeper in the money extrinsic value and implied volatility are positively correlated if extrinsic value increases with no change to the stock price it is simply due to implied volatility or in better words there is implied volatility by an expansion in extrinsic value if there is higher demand for this option and that demand based on the laws that supplied in demand push up the price of this option that means that there is a higher implied volatility implied future volatility for the underlying stock any inflation and extrinsic value means that people expect an increase in volatility or at least there is a demand more demand for this option and again we'll touch on that later okay so hope you're taking notes i know this is a lot to take in let's let's go through some questions and then we'll move on to the next section define extrinsic value and intrinsic value in your own words what do they mean to you how does the amount of time until expiration affect the price of an option if there's more time is the option more or less valuable if there's less time is it more or less valuable and explain why as well how our extrinsic value and implied volatility correlated and i want you to pause and answer this to yourself right now and think about it because i'm about to give the answer to you so i can give you a little bit more detail on this question so i'm assuming you're done now implied volatility and extrinsic value are positively correlated but this is the real detail of the relationship it's kind of confusing to think about if extrinsic value increases everything else held constant meaning the stock price is held constant because uh changes in the stock price relative to the strike price can change extrinsic value but we're going to touch on that later forget about that everything else held constant if extrinsic value increases it is because the demand for the option has increased due to the laws of supply and demand if there's more demand for anything that anything is going to be able to be sold for a higher price so if there's more demand for bread it could be sold for a higher price if there's more demand for playstation 5 so they could be sold for a higher price if there's more demand for this option it is going to be worth more so if extrinsic value increases it's because the demand of this option increases and it is assumed that the demand for this option increases because the expected future volatility of the stock increases okay so summarizing extrinsic value increases that means it's because people think the stock will move more in the future so implied volatility is actually the volatility implied by the inflated options price by the increase in demand so it's an actual metric implied volatility is an actual metric that is extracted from the inflation of extrinsic value and it gives a percentage move of the underlying stock over the next year that is implied by the inflated extrinsic value and that is done through a model called the black scholes model which we're not going to touch on today but that is the relationship as extrinsic value increases it is implying future volatility and you can actually extract that implied volatility out of that inflated options price okay so that's the correlation they're positively correlated as the price grows it is implying uh more and more uh volatility in the future which means it could go if it's you know if extrinsic value grows a bunch there could be an implied 20 move which means 20 to the up or down side over the next year so that's a relationship and we're gonna discuss more about implied volatility but i think it's important that you wrap your head around that relationship now okay if you have those questions answered and you're ready to move on and you like stood on that for a little bit let's go ahead and move on to the next section all right so this section is going to be uh kind of a quick one we're talking about why exercising your call option is stupid and a waste of money it's a little misleading when you're first learning about options because everything you learn about options relates in some way to exercising that option and then to hear that exercising is generally speaking in most situations pointless is kind of brain breaking but once we break it down it's not brain breaking so let's break it down okay so here we are we're looking at the same thing we're just looking at in the previous section okay we've taken this 95 strike call we've we're looking at the premium here of two dollars and one cent that's written over here and we've divided into intrinsic value which is whatever you could exercise for whatever value you get out of it by exercising an extrinsic value which is whatever's left over and is due to days till expiration and implied volatility working together time and implied volatility this is all we need to really demonstrate why exercising your option generally speaking is pretty stupid and we'll also uh explain what happens at expiration the possible outcomes if you hold an option to expiration okay let's think about uh what happens here um of course later we'll talk about how you actually buy and sell these options on the platform but for now i just want you to to assume you know how to buy one let's say we buy this option for two dollars and one cent okay so we're gonna pay a two dollar one cent debit that'll be taken out of our account okay that goes to the options seller they sell us the option we now hold the contract in our clammy little hands and we can exercise it or we can sell it um we can do whatever we want with it let's say we aren't very smart and we didn't know that you're not supposed to exercise an option and we think well i just bought an in the money call option i know that if i exercise i can extract some value from that option by exercising and what some people might think is when i say value they think profit and that's not what i mean but they might think i can extract some profit by exercising in the money option and that's not true but let's say i think that so i buy this paying two dollars and one cent and i exercise this call option well what happens i exercise it this money right here this debit stays with the option seller i never get it back that two dollar two dollars and one cent stays with the option seller okay unless i sell this option i don't have money coming back through the door so 201 dollars remember this is the premiums term so 201 stays in the seller's pocket i exercise how much money do i get out of this by exercising well i get 184 dollars we've already established this in the previous section but this 95 strike call is 1.84 cents in the money which means if you exercised buying 100 shares at 95 and selling 100 at 96.84 you would get 184 dollars by doing that just to clarify exercising is simply you exercise your contract and when you do that you click a button on your brokerage that says exercise you buy 100 shares at 95. okay now we assume you go and sell those shares at 96.84 you would extract 184 dollars of value out of that and you can see that here in intrinsic value okay intrinsic values whatever you can exercise for and that's 184 dollars or in premiums terms 1.84 cents so we paid 201 for debit to get this options contract in our pocket then we exercise and we get one dollar and 84 cents per share of 100 shares uh back when we exercise what's left to one 201 dollars out the door we exercise we have 184 coming in the door we have 17 cents less than when we started that's no good we lost 17 by buying this option and immediately exercising it even though it was in the money the fact that it's in the money means simply that when you exercise it you get some money back it does not mean you get a profit and notice how the 17 cents is exactly equal to extrinsic value and that is because when you exercise all you get out of it is intrinsic value that is literally the definition of intrinsic value is the value you get through exercising you don't get the 201 you only get 184. so if you buy this option for 201 why would you exercise it giving up extrinsic value collecting only intrinsic value when you could sell the option to somebody else for the entire value of two dollars and one cents remember when we buy this option we can sell it just like with shares we can buy shares and we can sell shares same deal here when we buy this option we can sell it to somebody and we can sell it for the full value it's worth and if we exercise it that's gonna be really dumb because we're only gonna get this much back instead of 201 so we're selling ourselves short by exactly the amount of extrinsic value so in summary when you exercise you give up extrinsic value so now if we think about it if we give up extrinsic value when we exercise in what scenario would it be wise to exercise well there's one that comes to mind and that is when you are at expiration and for whatever reason you've held this in the money option into expiration into closing like into closing bell on expiration day the stock market's close it's too late you can't sell this option anymore because options um contracts their prices lock up at close for most underlyings so you can't sell it well if you don't exercise this option it's going to expire worthless meaning that the money you paid to the seller stays with the seller and that's it your contract becomes void null it disappears you lose the money put into the trade so you would want to exercise to prevent it from expiring worthless to extract this intrinsic value plus you don't lose really you know you don't really lose extrinsic value because remember extrinsic value decays to zero by expiration so at expiration if the stock price stays exactly where it is right now this option will be worth 1.84 in premium because extrinsic value decays to zero by expiration so if you exercise you're going to get 184 back if you could sell you would get 184 back but you can't anymore because the stock market is closed the options contract is locked you can't trade options after hours so the only thing to redeem yourself to save this option from expiring worthless is to exercise and extract that intrinsic value you would buy 100 at 95 and then next market open you could sell the current trading price so that's one scenario in which you would exercise and in which giving up extrinsic value doesn't matter because there is no extrinsic value it's not a big deal that's one of the rare situations in which you would exercise your option generally speaking you don't want to hold your option to expiration it's better just to sell right before close if you're really going to hold it that close to expiration you really shouldn't be holding it that close to expiration anyway because the rate at which extrinsic value decays increases exponentially within the last 30 to 45 days and we'll talk about that more later but if for whatever reason you have an in the money option and you're in expiration you're closing bell and you're like oh crap i forgot to sell it that's in a situation where you could exercise to prevent it from expiring worthless and you don't really have any cost by doing so because you have no uh extrinsic value left so while we're on the topic of expiration let me just run through the possible outcomes of expiration within the money uh you would want to exercise it if you hold it in the closing bill on expiration day if you don't exercise it uh it's going to expire worthless you're going to lose the money you put into the trade whatever you bought that option for that money stays with the option seller you don't get that money back and if you don't exercise it's just gone forever and your contract is now null and void if you do exercise you'll gain intrinsic value back and since there's no extrinsic value left it's not really that big of a deal it's the best option in that scenario with out of the money options if you hold it to expiration well remember out of the money options are completely consistent of extrinsic value and since extrinsic value decays to zero by expiration and because you can't exercise for any value because like we've mentioned before you're plumb out of luck if you hold an out of the money option to expiration it'll decay all the way down to zero and if you hold to closing bill well that's it all the money you put into that option is now gone and you can't get it back you can't exercise to redeem any value it's game over your trade's over you're goofed there's no reason you should hold an out of the money option into expiration unless you just really want to delete all the money you paid for it so those are the outcomes in the money exercise if you hold an expiration if you don't it'll expire worthless out of the money if you hold into expiration it will expire worthless so let's summarize here the reason you don't want to exercise a call option in general there's really two situations maybe three that uh you would want to exercise the first we just we mentioned which is ad expiration the two other ones we'll mention down the road uh but the reason you don't want to generally exercise a call option is because you give up extrinsic value because an options premium consists of both intrinsic and extrinsic value when you exercise all you're getting is intrinsic which is less than the total value of the option so you give up extrinsic value by exercising you give up money you leave money on the table you actually would immediately have a loss if you bought a call option and exercised it immediately you would incur a loss so don't exercise unless you have a very specific reason and you know why you're doing it and the one the one reason we discussed in this section would be if you for whatever reason hold an in the money option into close on expiration day that is a scenario which you should exercise we'll talk about two other ones down the road in addition we touched on what happens at expiration if your contract's in the money exercise it if you don't exercise it expires worthless you lose the money you paid for that option with out of the money options if you hold it into expiration your total donut and you will lose all the money you paid for that option okay so that said i'm not really gonna have any questions at the end of this since i just repeated everything i want you to know we're just going to move right on to the next section let me show you how to find break even on weeble before we start diving into what it is so in the same options chain that we've been looking at pretty much this whole entire time up in the top or right hand corner there's a cog or something that looks like a cog go ahead and tap on that scroll down a little bit and you will see break even make sure that's added now when you go back to the options chain you can swipe to the left and eventually you will find break even there it is so for this section we'll be looking at all those numbers under break even and explaining what that is and its importance to trading options all right fellows i want to i want to pause for a second and look at you sitting at your computer and i want to say i'm proud of you it takes a lot to slog through all this really dense information so congratulations on making it this far because you're making a lot of progress and it's going to put yourself above a lot of other people who just buy and sell options wildly without knowing what they're doing so i encourage you to keep up your dedicated hard work and to see this through because it'll pay off in the end in addition while we're paused i might as well mention that if you want to make a few bucks there's there are some links to different brokerages down below if you sign up uh they will give you some free stock so like robinhood weeble and public are all brokerages that will give you free stocks if you join using the links below in the description and if you're bored and just want to take a break for a second there is fantasy invest which is an app that you basically fake trade and compete against other people while markets are open and if you trade well you can earn prizes so you can download that app and play down below in the description okay with all that out of the way let's go ahead and dive into one of my favorite sections which is talking about breakeven this is the first section where we're actually going to take a little bit of a step back and we're going to see things from a broader perspective and see how all the pieces we've already discussed work together and this is the first section we're going to take a step back there's plenty of more microscopic details we have to unravel and discuss as we go forward but later towards the end of this tutorial there's a few sections where we really take some leaps and bounds backwards and see the landscape practical view of everything we've talked about we'll see how everything comes together and works practically when you're actually trading these things so if you feel like so far like yeah i've learned a little bits and pieces and little factoids or whatever but i don't actually know how these things work from a practical perspective and how you actually trade them don't worry because you're not necessarily supposed to yet and this is gonna be your first taste of a step back where we'll see things from a broader perspective as we define breakeven it's still going to be kind of uh we're going to be point blank okay a little microscopic looking at the screen but at some point in the section we'll take a step back okay all that said let's dive in and talk about breakeven breakeven can be defined in two ways and they're basically two sides of the same coin there there are two definitions that basically mean the same thing the first is break even is where this s sub zero and s sub zero means the current stock price um the stock price given zero time passing where this current stock price must be at expiration for you to break even for you to have a zero profit loss for you to have not made money or lost money if we look at a call option when you first buy a call option the break even is right where you start if you buy call option you can immediately sell it for basically the same price so your profit and loss is zero but when we talk about break even with a capital b capital e as it pertains to options it has a specific definition it has two specific definitions which are laid out here we're going to discuss break even with a lowercase b lowercase e is just any any stock price where your profit and loss is zero in this case we were talking about where your breakeven is at expiration your break even at expiration is not where you first bought the option if you think about if i buy a call option right now and time passes time passes time passes this option is going to degrade in value through that time decay that we talked about that time decay that affects extrinsic value therefore the overall value of your option drops so you must recoup that by hoping the stock price rises pushing your option in the money or deeper in the money and building up a thick concrete layer of intrinsic value so intrinsic value must increase to counteract the decay of extrinsic value and that's why your break even rises over time right now today your breakeven with lowercase b lowercase e is right where you hopped in at expiration after all that extrinsic value has decayed off your breakeven the stock price at which you would break even is much higher because the stock price must rise to to grow intrinsic value to compensate for the loss of extrinsic value that is the first definition of breakeven is where the stock price must be at expiration for you to break even the second is where the stock price must be in order for you to break even when you exercise if you think about it these two definitions are basically the same thing it's saying what in what situations is your intrinsic value enough to compensate for total loss of extrinsic value if you exercise an option you delete extrinsic value just like we discussed we are strictly looking at intrinsic value what must your the intrinsic value of your option be in order for you it to compensate for the loss of extrinsic value and that's what it means to break even so this break even these two definitions are specific to options and it's a capital b capital e when i say that i mean it's a specific definition that is is talking about when there's no extrinsic value left all right to help illustrate this a little bit further so we get some a visual representation of what we're discussing what i have laid out here is a profit loss diagram for call option and let's go over the uh the key over here the notations k whenever you see k that means the strike price of the option s sub zero means the current share price c means call premium and the blue line that you see over here is add expiration the yellow line is before expiration and this one in particular is talking about the day when you buy this call option that we're about to discuss so if we look at this profit loss diagram the y-axis is your profit and loss and the x-axis is s sub zero the current stock price any given stock price that is the current stock price so putting these pieces together what we're looking at is your profit and loss ad expiration for the blue line given certain uh stock prices so the blue line is what is your profit and loss ad expiration so for example if the stock price is all the way down here at zero your call option is going to be worthless at expiration it's out of the money all that extrinsic value is decayed off it's worth zero and so if we follow that down to the blue line and follow it over we've lost five hundred dollars this yellow line is your profit and loss on the day that you bought the option so what is your profit loss on the day that you purchased this option that we're going to discuss given a certain stock price so the option that is in question here is a 95 strike call and the premium we paid for this is five dollars so you can see all in this section right here which correlates with all of these stock prices we incur a loss of 500 the entire value of this option at expiration looking at the blue line past this point you can see that our profit starts to rise such that maybe at this stock price if we follow it down and follow it over maybe we're at a loss of something like minus 200 so we've recouped some of the money that we spent to buy this option so i want you to think kind of for a second where where must our strike price be relative to the stock price at expiration for us to lose all of our money and it sounds like a mouthful but the answer to this is that our option must be out of the money if at expiration it is completely worthless so you can see that in this whole flat area we've lost everything past this the higher stock price we start to recoup some of those losses so that must mean that our strike price is right here right where this blue line starts to bend so our strike price of 95 is right here if the strike price is 95 when the stock price is anything below 95 we've lost everything we put into the trade at expiration because extrinsic value decays to zero above that we start building some intrinsic value because this option becomes in the money and intrinsic value does not decay it does not disappear so at expiration we are going to have some value left now let's look at this yellow line here this yellow line represents your profit loss before expiration the reason that it's higher than the blue line is because any time before expiration your option is going to have some extrinsic value some time value so it will be worth more and as time passes the extrinsic value decays so before expiration your option at any given stock price is always going to be more than if it were any day in the future in this case expiration day which is this blue line so for example right here if the stock price is right here we'll say this is 90 we'll follow this down follow it over at expiration we've lost everything we put into the trade if we paid 500 for this option that is because extrinsic value completely decays and this option is out of the money completely completely consisted of extrinsic value so it decays to zero before expiration and this yellow line we're looking at the day we purchase this option it's going to be worth more than that we won't have lost everything we put into the trade if the stock drops to 90 the day we buy this call if we follow it down to the yellow line and then follow it over we might be at a loss of something like again minus 200 but we haven't lost everything yet however if the stock stays at 90 dollars as time passes as extrinsic value decays it'll start this line will start shrinking converging onto this blue line until it becomes the blue line and at expiration you have incurred your total loss of 500 you know intrinsic value is like this thick cement block on top of it is extrinsic value and extrinsic value evaporates over time at expiration extrinsic value is totally gone all that water is evaporated and all you have left is that cement block of intrinsic value and that's exactly what this yellow represents this whole area underneath this yellow line is extrinsic value and it will eventually decay off until you know it shrinks and shrinks and shrinks until it is this blue line of intrinsic value now let's discuss breakeven on on this profit loss diagram this is our strike right we've already uh mentioned that well let's say remember this yellow line is the day we buy this option what is the stock price or our break even with a lowercase b lower kc when we first buy this option well it's right here that might be something like 95 and 58 cents okay that's the that's the current stock price at which we purchased this option so it could be 98.58 could be anything above 95. i don't know the exact numbers for this option okay so wherever you got in if you buy a call option right now you could sell it again it's for the same price roughly so your break even with lowercase b lowercase c not pertaining to these definitions where your profit loss is zero is gonna be right where you first bought the the call option whatever the stock price is at the moment you buy that call option now as time passes you can see that your break even extends higher to the point where as this yellow line converges on this blue line these blue lines here your break even rises to this point and that point can be calculated break even equals the strike price of your call option plus the premium you paid the reason the stock price must rise is because like we mentioned we have to start uh incurring or accruing some intrinsic value to compensate for the decay of extrinsic value because if we stayed right where we entered right here at expiration we'd be down here and we'd have a loss the stock price must rise and start accruing some intrinsic value in order us in order for us to stay at break even and if it rises even further we can start getting a profit and the reason that this the break even is strike price plus premium paid is because when we pay our that premium and it's gone we have to recoup that money somehow we have to at least get make sure that our option is worth the same amount of money we paid for it in order for us to break even for that to be the case when extrinsic value doesn't exist anymore we have to have intrinsic value equal to however much we paid for the option which is five dollars if we want our call option to equal five dollars of value at expiration it must be five points in the money and in that case the stock price must be 100 in order for us to break even at expiration and we can see that strike price which is 95 plus premium paid which is five dollars equals 100 the value that's left is equal to what we paid the money we paid to the option seller so if we wanted to sell at the last moments of uh right before expiration or if we wanted to exercise we would extract five dollars of value which is exactly how much we paid for the option and so we would break even so break even when we look at strike price plus premium paid it is basically our goal it is where we want the stock price to go above at some point before expiration the sooner the better let's visualize this in a more simple way by looking at optionsproftcalculator.com this is a website optionsprofitcalculator.com that just it's really helpful in seeing what your profit loss could be in the future given certain stock prices in this case we're looking at amd okay the current share price for amd is 95 almost 96. i'm looking at a 95 strike call and you can see the total cost of that call option and you can see that here in premiums terms so here you can see what our profit loss is as time passes and you can see that right when we buy this option okay on the first day of this options lifespan our break even is right where we started okay this black line represents the current stock price so our break even is right where we started as time passes as we move forward into the future the value of this option decays as extrinsic value decays and so we must have a corresponding rise in stock price to mitigate that decay you can see that we have to start increasing our stock price in order for us to reach break even our break even is up here which we can see is let's see break even is 120 50. the stock price must be wet 120 and 50 cents in order for us to break even at expiration war if we were to exercise but as we've discussed exercising is kind of stupid so i like to think of it as just where we want the stock price to go by expiration whether we're going to sell just a few seconds before closing bell or exercise the option after closing bell on expiration date there is no difference but you wouldn't really want to exercise before expiration date anyway so here you can see kind of visualized how extrinsic value decays and how you must have a corresponding increase in stock price to counteract that decay until at expiration you must be above strike price plus premium paid to recoup the money you paid for the option and to break even now something to note now we'll talk about later out of the money options have very very high break evens strike price plus premium paid so if you have an out of the money option with a really really high strike price well the break even is going to be really really high as well let me go ahead and do that really quick actually so i can select we're on june 17th and we can choose a really really far out of the money call option hit calculate look at that break even okay you have to go super high the stock price must rise a ton by expiration the benefit for out of the money options is they're a little bit cheaper and because options are defined with strategy you have less money at risk but the odds of success are slim unless the option is going to rise by a ton in the future so why would you buy an out of the money option well the reason people buy out of the money options is because out of the money options are cheap so you can buy a lot of them and if you buy a lot of them they actually give you more leverage than an equal value in the money option we'll talk about that when we talk about the greeks and talk about delta so they provide a lot of leverage and if things move quick let's say they go from 100 and things pop up 50 to 150 you've made two grand off of something that cost 800 so that's that's over 100 return but you have to hope the stock price moves quickly within the money options if i switch this to very very deep in the money they're very very expensive they still have quite a bit of leverage but their breakevens are so much lower that means that the stock price does not have to rise as far over time in order for you to break even and that's why i'm a big fan of in the money options we're going to discuss this a lot more later but i want to give you a taste of why you might buy it in the money versus out of the money out of the money is more as more risky but can have a higher payoff and the money is less risky per dollar but has less leverage than if you bought a bunch of out of the money options okay let's call it there before i just blabber your ear off this is getting out of hand all right all right questions can you remember the two definitions for breakeven as it pertains to options these are textbook definitions breakeven is uh is a word in the dictionary it's also its own word as it pertains to options okay capital b capital e how do you calculate breakeven and why must the stock price rise over time in order for you to maintain a zero profit or loss those are my three questions if you understand those three things i think you have a good grasp on what breakeven is why the decay of extrinsic value is important to consider and i think you'll be able to use breakeven as a goal for the underlying stock over the lifespan of the option and know why you're using it as a goal all right with those three questions out of the way let's go ahead and head into the next section in this section we're discussing why volatility is good for options and what implied volatility is and why it's important it's an important part of trading options i know we've briefly brought it up and mentioned it but we haven't gone into all the nitty gritty and explaining what it is uh implied volatility specifically and we also haven't explained how you use it in trading and it is actually a very useful tool in giving you an edge increasing your probabilities of success when you're trading options both call options and put options this concepts these concepts we're about to discuss here will apply both to call options and put options but again we're going to discuss put options towards the end of this tutorial because there are so many similarities it would get way too repetitive to do them side by side okay so here we're looking at a stock chart and on the y-axis we have share price on the x-axis we have time just like every single stock chart you've ever seen in your entire life and we're going to draw out some share prices here over time let's say there's an area of low volatility okay and then there's an area of high volatility well why is this area of low volatility not so great for options well when stock prices are trading sideways like this when i say sideways i mean trading with very little volatility across time saying around the same share price over time it's not good for options because that whole time the stock price is staying there your option is not accruing any more intrinsic value and its extrinsic value is decaying so you're not building up intrinsic value compensating for the loss of an extrinsic value that decay of premium in fact you're just experiencing the decay of premium so as each day passes as time goes on you're just losing money and with low volatility there's a low probability that your option will be swung into the money or get deeper in the money building up a lot of intrinsic value that cannot decay off so it's bad this area is terrible you don't want to hold a call option to this area if you could foresee it because you're just going to be losing money as extrinsic value decays off but how about these areas of really high volatility it gives the option an opportunity to be pushed in the money or deeper in the money quite significantly because the swings of the s of the share price are so large but what about to the downside because yes you can swing your option deep in the money you could accrue a lot of intrinsic value and you could incur a lot of profit because the value of your option is increasing just like if you hold the share if it increases in value you're accruing an unrealized profit but what about the downside bigger swings also mean bigger swings to the downside right it could push your option further out of the money it could degrade the value of your option as intrinsic value decreases so why is higher volatility good well we have to remember the idea that options are a defined risk strategy so for example as the stock price swings up here maybe my call is worth five dollars in premium right here and then it swings down and down here it's worth two dollars well what if it swings down here well it might be worth 50. what about lower here it'll be worth one penny if it swung down here how about even lower here it's worth one penny oh wait how about even lower here it's worth one penny an option can never be worth less than zero or less than one it will be worth zero if it expires on expiration date but it won't be worth less than one sure there might not be very many buyers or sellers down here but you won't lose more than the initial premium you paid for this option so when you have high volatility yes there's a higher there's a higher likelihood that you will lose all the money you put into the trade because it could swing you for very far out of the money but that risk is defined and that is the exact opposite case to the upside your risk is undefined this stock price could continue to rise to the upside indefinitely and the entire time the value of your option is going to be increasing as intrinsic value increases and you'll be incurring a larger and larger unrealized profit and you'll become realized if you decide to sell this call option so because this is a defined strategy and high volatility could swing you down and reduce the premium to one penny it can't reduce to less than that but to the upside it can increase indefinitely therefore volatility is good for options because it has a higher potential to swing you indefinitely to the upside but if it swings you to the downside while you just lose whatever you put into the trade that is why volatility is good for options so because volatility is good for options if there is an increase in volatility or an expected increase in volatility options premiums will increase the fact that volatility is good for options must be priced into the option we're going to draw something that you looks pretty familiar kind of looks like that profit loss diagram we were just looking at before but it's actually called a premium diagram because we're not looking at profit and losses time we're just looking at call premium remember c denotes call premium all right so this time we're just looking at call premium where here at the bottom it's worth the zero okay you know up here for blues at expiration you know at expiration up here might be worth a dollar who knows so we're just looking at call premium here with in what's called implied volatility implied volatility is simply an expansion of extrinsic value because people think the stock will be more volatile in the future or just in general demand for the option has increased okay so that if the stock price if the stock price is right here it might be worth a dollar okay we're gonna say it's worth a dollar now if people expect that the stock is going to be more volatile in the future or they just there's increased demand for options for whatever reason for hedging purposes hype just for whatever reason this extrinsic value is going to expand so it'll look something more like this where now where it was once worth one dollar it's now worth something much more might be worth two dollars and fifty cents not because the stock price changed okay doesn't have anything to do with the stock price this is just an increase in expectation that the stock will be more volatile or just increase in demand for the option which expands extrinsic value and makes the option more val valuable people will call this an expansion of implied volatility there is future volatility that is implied by the increase the expansion the inflation of extrinsic value because the option became more valuable for no other reason it must be due to the fact that there is an expectation an implication of volatility in the future and so you'll see this written as a metric you can actually extract the expected volatility based on how much the options premium is inflated so this might this expansion volatility might represent a 25 move in the underlying stock over the next future which would be to the upside or downside so if i have a stock chart right here you might see it represented as 25 to the upside and 25 to the downside and that is implied by the inflation the increase in demand for this option remember an increase in demand uh increases the price of an asset due to the laws of supply and demand so we can actually use this to our advantage if we are able to buy this option for one dollar right here and then you know not much time passes the stock price doesn't really move but the demand for the option increases and expands to 250 okay increases to here well now we've made a dollar fifty in return so we've actually made 150 bucks for no other reason besides the demand for the option has increased and people will say this that implied volatility increased the implied volatility has increased which means extrinsic value has increased which means you made money because the price of the option increased you can now you bought at one dollar you can now sell it for 2.50 cents in premium so 250 bucks so let's discuss how you can maybe predict when extrinsic value is going to expand when implied volatility is going to expand to give yourself an edge so that you can make money not only if the stock price goes up but also if implied volatility increases a lot of times you'll see charts of implied volatility okay it's represented as percentage moves of the underlying across over the next year because they're extracting the implied future move of the underlying from the inflation and the pre the options premium but you'll see that graphed out over time so we'll put implied volatility over time and let's just draw it out here okay like this there's a concept called mean reversion that applies to a lot of things in life but specifically applies to both implied volatility and i mean you'll hear day traders talk about it a lot but it's the idea that anything outside the average will eventually return back to the average and this applies to an implied volatility in a way that we can utilize if we draw a line that kind of represents the average like if it were a regression line for instance we can say that this is below the average and this is above the average so that if we buy a call option when implied volatility is low so we buy an option here for one dollar well we expect that it will return back up to the average which is this line represented by this line it has a tendency to return to the average it's more likely that it'll go back up to the average then it will keep going down so because of this tendency we can expect or reasonably expect that if we buy when implied volatility is low we can expect implied volatility to increase and in this case it does rising back up to the average such that right here your option might be worth something like 250 as we discussed before so we can use this idea of mean reversion and the fact that an increase in implied volatility is basically the same thing as an increase in extrinsic value which means an increase in premium of your option which means you can incur a profit so we can we can take the idea of mean reversion and the idea that options premiums increase with the uh the an increase in implied volatility and combine them together to give ourselves an edge so that we not only make money when the stock price rises but also if implied volatility rises and i'm going to show you how you can a tool you can use to help find stocks that are in this region of low implied volatility so you can give yourself an edge and it works against you too if you buy in an area of high implied volatility up here and maybe you pay five dollars here well if it reverts back to the mean you that extrinsic value is going to decrease the value of your options going to decrease and it might be worth something like three dollars down here so you don't want to buy in areas of high implied volatility now that said if the stock price rises substantially it couldn't negate this effect okay so maybe if yeah sure implied volatility decreased but if the stock rises 50 percent this could be worth a ton of money so the only reason you want to buy and imply low implied volatility situations is just to give yourself an edge to increase the chances of making making money or to curb your losses if things go down your main goal however when you buy a call option is that the stock price rises and you incur a lot of intrinsic value and you sell for a profit let me show you a tool that you can use to sort through stocks to find ones that are in low implied volatility environments if you want to give yourself an edge so the tool i use to find stocks that are that have low iv implied volatility is through tastyworks they're their own brokerage okay so in order to use this tool you do have to sign up and you can sign up using a link below in the description uh it doesn't cost anything you can use your trading platform and use this tool i'm about to show you so i highly encourage that you do so okay and they're actually a pretty good options focused brokerage so if you decide to use taste your works to trade at any point and you're going to be depositing at least 2 thousand bucks you can use the link below and it will help out the channel as well but more importantly let's focus on what uh tool we can use to find environments of low implied volatility so we can capitalize on that mean reversion characteristic of implied volatility to do this sign up and then sign in and you see this guy's god-awful face it is just terrible it's been here for years i wish they would get rid of it it kills me every time i see it i honestly just want to die and then you click on trading platform go ahead and log in and on the left click on grid here you can see a bunch of different stocks laid out and you can change what stocks are shown but what we want to focus on here is something called iv rank what iv rank does is it ranks the implied volatility of the underlying between 0 and 100 where anything above 50 is high relative to its historical average anything below 50 is low relative to its historical average so obviously these underlyings are zero one four four and five those are very very low implied volatility environments they might have a tendency to for the implied volatility to rise back up to the average and you can make money as it does so so low implied volatility is great for buying options in now something we'll talk about later in a future section is liquidity and uh even though these these underlyings have low implied volatility their liquidity may not be so great so they may not be the best for trading options on we'll talk about that later but this is a great way if i click on iv rank i can sort from highest to lowest so i can find high iv which we're not really interested in i just want to find a stock that has low implied volatility and use that as an edge you also of course of course want the stock to go up so that is your primary thesis is that the stock will go up if you're buying a call option and your break even is going to determine how high up you think it's going to go but low implied volatility will give you an extra edge and increase your probability of success and this is a useful tool to finding low implied volatility stocks when you look at implied volatility that's graphed out like we saw before or we're looking at iv rank it's looking basically at the average at the money implied volatility okay so even though all options will have their own implied volatility it kind of smooths it out averages it out okay so feel free to use this there may be other sources where you can see implied volatility graphed out historically but the sources i once used to see a historical graph of implied volatility are now you have to pay for it and i i'm just unwilling to do that so i recommend you use this all right got some questions for you questions for implied volatility what is implied volatility why is it called implied volatility what is it implied by why do we want to buy options in low implied volatility environments and do we make money as implied volatility increases or decreases what portion of premium expands and contracts when implied volatility increases or decreases all right if you've got those questions let's move on to the next section you've made it very very far through this tutorial and you've made it through a lot of the very very dense material this is the last section that i feel like will have some pretty dense information in it so i encourage you to really engage your brain for one more section and then the following sections will be pretty easy and it won't require so much thinking power so put on your thinking cap engage your brain and get ready to focus because there's there's important information in here that you don't want to miss as always i will do my best to explain it in uh bite-sized chunks okay so this section we're talking about something called the greeks the greeks are option statistics that define how options prices change and they're called the greeks because these statistics are named after greek letters let's go ahead and dive in and it'll make sense as we go here so i've taken a screenshot from the desktop flat platform you can add the greeks which are delta gamma theta vega and row on the desktop platform by selecting this button and adding them on your phone you can select the cog in the upper right hand corner of your options chain and you can add them there the first greek we're going to look at is called delta delta attempts to define how your options premium changes given changes in the underlying stock price we know that you make money as the stock price rises and you lose money as the stock price goes down if you own a call option and so delta defines exactly how much your option is going to change when the underlying stock price changes my definition for delta is how much premium change is given a one dollar move in the underlying so if we look at this option right here the 525 strike call option and we follow it over to delta we can see that has a delta of 68 or 0.68 what this means is is if the underlying stock goes up by a dollar your option will increase by 68 cents and that's in premiums terms so if we talk about profit and loss you would make 68 dollars if the stock price goes down by dollar you will lose 68 so it defines how much you make or lose given a 1 change in the underlying stock delta is between 0 and 1 and it will never exceed 0 and 1. for put options it will because it's between zero and negative one but we'll discuss that later for now with call options it's never less than zero or greater than one the further in the money you get you can see as our strike price decreases your strike price is going down there you can see that delta increases as you get further out of the money or less in the money your delta is going to shrink when you're really really far in the money like way up here you know let's pretend that this this options chain continues upwards you're way up here you're gonna have a delta that is very very close to one where if the underlying stock rises by a dollar you'll make a hundred bucks and vice versa as you get very very far out of the money it's going to approach a zero to the point where you're not going to make a whole lot of money if the stock rises by a buck or goes or lose a lot of money when the stock goes down by a dollar now there's a really good reason why this is why it's between zero and one and why it decreases as your strike increases and why it increases as your strike decreases but we have to go back and take a look at intrinsic value i know you're probably sick of me talking about extrinsic intrinsic value but it's they're fundamental to everything options so to kind of explain why delta works this way because it's very it's very common sensical it makes logical sense let's take a look at an example let's say we have a an option whose call option is strike is 100. let's say that the underlying stock price is 101. well we know exactly how much intrinsic value is here because it's one dollar in the money if it's one dollar in the money and i exercise i'll extract 100 of value or written in premiums terms i'll extract one dollar of value and that's exactly what intrinsic value is it's whatever you could exercise it for so this has one dollar of intrinsic value it's also going to have some extrinsic value if it's some time before expiration so we're just going to attribute a random number to this because we can't exactly this isn't enough information to determine how much extrinsic value this option has so we're going to say this option has 30 cents of extrinsic value so what's the total value of this option well if we just add these two together intrinsic and extrinsic we have one dollar and 30 cents so if you wanted to buy this option it would cost you 130 bucks okay so what happens if the stock price rises then well let's write out our strike here again we'll say strike is 100 same option same underlying just time has passed and the stock price has risen and we'll say the stock price is 102. well we still know what the intrinsic value of this option is because it's one dollar further in the money which means we have one dollar more of intrinsic value because we can exercise for one dollar more value so the intrinsic value of this option is two dollars however something interesting happens to extrinsic value it doesn't stay the same yes we talked about how extrinsic value is based on time to maturity and implied volatility but it also changes depending on where the strike is relative to the stock price as you get further in the money or further out of the money in other words as you get away from at the money extrinsic value shrinks in other words extrinsic value is highest at the money and as you get away from at the money it shrinks and that's represented by those triangles there so if we're getting further in the money here we know that this extrinsic value has to shrink the reason for why extrinsic value is highest at the money is because there's more emphasis put on time till expiration and implied volatility for at the money options because those two things which constitute extrinsic value are going to determine whether or not these options end up in the money if you're out of the money there's more certainty that there's going to stay out of the money if they're in the money there's more certainty certainty they'll stay in the money but if you're at the money there's a lot of uncertainty and what determines the fate of those options is going to be implied volatility and time until expiration so there's more premium given to the option more extrinsic value before at the money options as you get away that extrinsic value shrinks so in this example our extrinsic value might be something like 25 cents such that the total value of this option is let's see 2.25 cents so what's the difference between these two well the difference between these two is not one dollar it's 95 cents this characteristic of options the idea that extrinsic value shrinks the further away you get from at the money it explains exactly why delta is not equal to one if this were not a thing if extrinsic value changing we're not a thing all of these deltas would say one i mean if we think about if we ignore these two things we get one dollar in the money while we accrue one dollar more of intrinsic value but because extrinsic value shrinks the further in the money you get it's going to curb some of those gains so that instead of going from one dollar thirty cents to two dollars and thirty cents we've gone from 1.30 to 225 because extrinsic value shrunk by five cents so that explains why all of these deltas are not equal to one but as you get really really far in the money the extrinsic value is going to be so small there's not that much left to shrink off as you get further in the money so your delta is going to be very very very close to one because this shrinkage of extrinsic value is going to be curbing less and less of your gains from intrinsic value and the shrinking of the extrinsic value explains why premiums for out of the money options are like continually decrease the further out of the money you get because they completely consist of extrinsic value and extrinsic value shrinks the further out of the money you get because there's more certainty that they'll stay out of the money so they're just cheaper there's less hopes that they'll have an opportunity to build up intrinsic value which you want to build up in order to get above breakeven by expiration okay and this idea that extrinsic value is highest at the money will play into more complicated strategies like spreads and also play into some other greeks here in a minute let me clean this up next up is gamma gamma is to delta as delta is to the underlying gamma explains how much delta change is given a one dollar move in the underlying so as we said because extrinsic value shrinks the further in the money you get or the further out of the money you get we know that delta must change too because as you get as this extrinsic value shrinks maybe right there there's not that much left to shrink off so it's gonna be shrinking by a smaller and smaller amount a smaller smaller factor so delta therefore increases as you get in the money and decreases as you get out of the money and gamma defines exactly how much delta changes by giving a one dollar move in the underlying so if we look at this 525 strike call and we follow it over to gamma we see that 0.01 to the upside it'll increase by 0.01 if the underlying increases by a dollar it'll decrease by 0.01 if the underlying decreases by a dollar gamma in my opinion not super important delta is much more important than gamma is next up is theta theta is how much premium decays as each day passes it's how much extrinsic value decays by as each day passes we know that with less time until expiration there's less time for that option to get in the money or get deeper in the money which means there's less time for the option to start building up that concrete block of intrinsic value that we're all seeking so therefore the the price tag of the option is going to be reduced and that is represented as a decrease in extrinsic value and that happens as each day passes theta is constantly degrading the value of this option and this is written in premiums terms as well so what this is saying theta is saying that this option is going to decrease by 70 as each day passes and it's pretty high 70 bucks is pretty high for this option we can see that it's roughly worth between 1300 to 1500 we'll discuss a bid asking a little bit but it's pretty high because we're really really close to expiration and there's something unique about theta that you need to understand so let's graph out call premium here against time call premium stays relatively flat okay extrinsic value does not decay all that much for quite a while by the time you hit about one month out 30 to 45 days out something kind of bad happens and that is that extrinsic value quickly decays off and if your option is out of the money it will decay off at expiration to zero so there's this pivot point at 30 to 45 days out where theta really starts to ramp up and the value of your option will decay quite quickly you'll start losing money quickly and you have to hope that the stock price starts moving quickly to get above your break even otherwise you're going to end up at a loss or if it's out of the money you're going to end up at a total loss so when you look at theta think am i willing to pay that much each day in hopes that the underlying stock will rise and i'll make money with this call option theta is going to be a smaller percentage of in the money options premium and it'll be a larger percentage of out of the money options premiums so yes the the number itself if we look at down here we can see it says 71 at the very very bottom you can barely see that it says 71 up here it says 75 so yes out of the money is going to have a smaller theta it'd be more significant if you could see further out strikes but it's going to be a larger percentage of the value of the option so if i buy a bunch of out of the money options that have the same that were worth the same price as a single in the money option which is more expensive this bunch of out-of-money options is going to have a lot more theta and that's why when we discussed breakeven we could see that the break even rose really quickly for uh out of the money options and that's because theta really degrades the value of out of the money options quickly because theta affects extrinsic value and out of the money options consist entirely of extrinsic value so their entire their entire premium all of it is decaying while within the money options they have intrinsic value which is not decaying it's also worth noting noting something about delta with out of the money options delta is a higher percentage i'm just going to write this in shorthand in the money delta is a smaller percentage so that's important to realize because with out of the money options delta is just going to be a smaller number we can see here this is 39. up here it says 68 for the in the money option it's higher than the out of the money option but this 39 is a larger percentage of the premium of the option versus up here so let's say i have an out of the money option that's worth one dollar and there's an in the money option that's worth two dollars well i could buy two of these and buy one of these for the same price okay both of this both of these equals two dollars right so i paid two dollars for each of these now i have two in the out of the money options and one in the money option which one has higher leverage well it's going to be the out of the money option because delta's a higher percentage of the overall value of the option my delta here might be something like 0.8 while my delta here might be something like 0.7 just just as an example so you have more leverage with out of the money options if things move quickly you can make more money than buying in the money options but as we discussed with both theta and breakeven out of the money options have very very high break even so if the stock price doesn't start moving quickly the value of your out of the money options are going to decay very very fast while within the money options yes they're more expensive yes they have less leverage as a percentage of the overall value but their break-evens are lower so there are less risky trade there is a higher chance of success and that is very important to consider because a lot of times if you've seen wall street bets what they're doing is they're going out and buying really really far out of the money options and hoping that the stock price moves an insane amount so that they can make money quite quickly but what really happens is that the stock price doesn't move as much as they expect it to and their out of the money options decay fast they evaporate quite quickly and in the money options in my opinion are much more preferable they're more expensive they have less leverage as a percentage of the value of their options still plenty of leverage though but their break evens are so low and their theta is so low that it especially with expirations that are far out due to that ramping exponential increase in theta we discussed that they make a very they make a very appealing investment strategy as compared to just out of the money options all right last one ladies and gentlemen is and or actually we got two more but basically the last one because the last one the very last one is stupid so vega what is vega well i guess i'll write it out huh sorry it's getting kind of cramped here but vegas how much premium change is given a one percent change in implied volatility so given a one percent move in implied volatility how much does it how much does a premium how much is uh the options value change by so if we look at this option right here the 530 we follow it over to vega as a 0.24 that means if implied volatility changes by 1 the value of your option is going to change by 24 cents so if implied volatility goes up by one percent we'll make 24 bucks if it goes down by one percent we'll lose 24 bucks remember we know that implied volatility or volatility in general is good for options so volatile volatility anticipated volatility increases so will our extrinsic value and vega defines how much increases by and you can see that vegas highest with at the money options see how this is 24 24 but as we get in the money it's 22 out of the money 21. because extrinsic value is a portion of premium based on days till expiration and implied volatility vega defines how extrinsic value changes based on changes to implied volatility so vega is going to be highest where extrinsic value is highest which is found at the money i mean if we remember we can draw out our call premium diagram right we have call on the y-axis called premium and we have stock prices on the x-axis we have our intrinsic value so i'm just going to shift the screen i'm not going to worry about that and then we have our extrinsic value you can see that our extrinsic value which we can shade this in that's all extrinsic value we can see that extrinsic value is highest at the money if i drew this better it'd be more obvious okay it's highest at the money at the money's right here this is our strike price when the stock price is equal to the strike price then our option is at the money and our extrinsic value is going to be the highest and when we have changes to implied volatility this area expands if implied volatility increases our extrinsic value increases this line expands upwards and the poor the part where you're going to experience the largest expansion is going to be right where your start your strike price is right when your option is at the money changes to implied volatility are going to have minimal effect the further out of the money or the further in the money you are same with implied volatility decreases if it decreases you're going to experience the largest impact at the center when you strike when your option is at the money i might as well mention it now too when you look at this line like this the act of extrinsic value decaying where this line shrinks down and further and further down until extrinsic value no longer exists and all that is left is the blue line which is intrinsic value this process is called convergence and it's really a word given to everything we've been talking about today the idea that extrinsic value decays until all that's left is intrinsic value if there is any if it's out of the money there is no intrinsic value so that process of that yellow line converging that extrinsic value line converging on the intrinsic value line is called convergence so if you want the most exposure to implied volatility you would buy an at the money call option last one is called row we don't really care about row it doesn't really move the needle all that much it says how much your option changes given a change in uh interest rates and i forget if it's like a basis point or what but it's so unimportant it literally does not matter you could delete it and never see it again and you wouldn't be affected by it at all do not worry about row in the slightest everything else is relatively important important i would say delta is more most important theta is important as well to consider how much your option is decaying by are you willing to pay that much uh i had an old professor that you say theta's how much you pay to play every day that's exactly true every day that passes you're losing this much money so you better hope that the stock price rises to outdo um the money you're losing there you better hope that you get above break even so you have a nice concrete block of intrinsic value that won't decay so delta is important to examine your leverage theta's important to examine how much you're paying to play every day vague is important to take a look at your exposure to implied volatility gamma's not really all that important we understand that delta increases as you get in the money and decreases as you get out of the money the factor of which at which it increases or decreases by in my opinion is not all that important so these three delta theta and vega are the ones that you're going to hear the most about and the ones you should be paying the most attention to all right let's call it for that section i think that's enough all right guys some questions for you pretty straightforward i just want you to be able to define delta theta vega and gamma don't worry about rho i don't i really don't care about rho i want you to point out which ones are the most important to pay attention to and why hint there's going to be three out of four of them and lastly i just want you to know which type of option has the highest extrinsic value is it in the money at the money or out of the money okay with those questions answered let's move right along and i know that one was especially brainy in my opinion it's going to become less and less brainy going forward so i hope that makes you happy let's do it okay so we're working towards sections that are going to hurt your brain less this one's still a little bit brainy but it's less brainy than the other stiff other stuff we've done so far in my opinion its importance however is exceedingly high this is a very very very important section if you don't pay attention in this section odds are you're going to get in a situation where you're losing money and don't know why or you're going to leave a lot of money on the table so this section is incredibly important and i want you to pay extra special close attention to the topics we're going to discuss and what we're going to discuss is the bid ask spread and volume and open interest to find these statistics which we'll define here in just a moment go to your options chain and tap on the cog in the upper right hand corner okay this is where you add or subtract any you know any uh statistics you want to take a look at so here you can see at the very top you can see open interest volume bid last and ask and that's what i want you to be taking a look at throughout this section okay this section is really important so i want you to pay attention okay it has caused a lot of newbies to lose money it's caused a lot of beginners to leave money on the table it you can get stuck in a position that you don't want to be stuck in if you don't understand the topics we're about to discuss so pay attention all right listen up the bid and the ask are two different prices for the same thing uh shares have uh bid and ask if you go try to buy a share of microsoft you're gonna see a bid price in the ask price the bid price is where the best available buy order is it is the highest buy order if you wanted to sell this option that is the best available price that you could sell it at the ask price is the best available selling price it is the lowest price that someone is willing to sell this option for and you might sometimes see it with a time symbol or an x and it might say something like 50. that means there's 50 sell orders at the price of one dollar and 20 cents there might be ask orders that are somewhat higher there might be buy orders that are somewhat lower on different exchanges but though all that's going to be shown when you look at the bid ask is the best available price who cares about a lower buy order if you're selling you want to sell at the highest price possible who cares about the higher ask order if you're buying you want to buy at the lowest price possible these prices are generated by market participants like you and i but a lot of the times are generated by an entity called a market maker market makers are usually financial institutions or banks some some big boy with a lot of money and they simultaneously enter a buy order at the bid price in a sell order at the ask price and a bunch of them and so as they get fill where they buy at one dollar and then they get filled over here and sell at 120 they're constantly collecting the difference between these two prices and this difference between these two prices which in this case is 20 cents this is called the bid ask spread so these market makers are gonna have to hold a lot of these options in their in their possession if they want to enter a bunch of ask orders here so they do carry some risk by carrying those options but they try to make up for the risk by also entering a bunch of buy orders on the bid side and collect the bid ask spread over and over and over for a profit this bid ask spread will change it'll expand and contract it'll contract if there's more market participants if there's more people buying and selling this option the reason for this is because there's going to be more price competition and with price competition it's going to push the bid ask together you're going to get more fair prices on both sides the bidders are going to constantly be trying to outbid each other which is going to push the bid price higher and the askers are going to constantly try to sell for a lower price out asking each other which is going to push the asking price lower so the bid ask spread will be tighter and the situation in which the bid ask spread is tighter where there's more market participants is when more options contracts are being traded if we come down here that's exactly the definition of volume volume is never contracts traded per day i really should say that day so if you see volume next to an option it says 15 so far for that trading day that option that type of option that one with that strike and expiration has exchanged hands 15 times so the higher the volume is the more price competition there is going to be and the bid ask is going to shrink and we'll discuss why that's important here in a minute open interest also ties in with volume if there's a lot of volume generally speaking unless everyone's closing out their positions there's going to be high open interest open interest is the number of contracts currently open if there's high open interest it likely means there's high volume if there's high volume it likely means that this bid-ask spread or i guess with the arrow down here this bit-asp spread is going to be tight there's me a small difference between the bid price and the ask price and this is good for you and i let me explain why let's think about how this works if this is the price of an option we're interested in we have buyers lined up at one dollar the highest bid price is one dollar and the lowest asking price is 120. well where can we go and immediately immediately buy this option we can see right here in front of us the best selling price we have to buy from someone who's selling we don't join the ranks of the bidders we have to meet an asker we have to meet a seller wherever they're asking and also for what price they're asking at so in this case if we bought this option and we wanted to buy it immediately we'd meet the available seller and we'd pay 1.20 so that'd be dollar 20 cent debit again that's premium so you pay 120 dollars for this option if then all of a sudden immediately i decided you know what never mind i think i made a mistake i would like to sell this option well you can't sell it to the sellers there's no buyers up there you have to look at where the buyers are which is on the bid side and that's the best available price it's the highest price that you can sell for so if i went and wanted to sell it immediately i would sell for the price that is listed as the bid price which is one dollar i'd sell that for one dollar and that would be a credit overall i would lose 20 cents of premium that's why it's important to have high open interest high volume because that means it's going to push the bid ask together and the smaller the bid ask is the less money you're going to give up by getting in and out of the trade immediately by meeting the sellers where they're at when you're buying and meeting the buyers where they're at when you're selling so it's important to look at volume and make sure that there's high volume you definitely want to see it at least in the hundreds but generally speaking the best representation of both volume and open interest and in general liquidity the ability to get in and out of the trade quickly the ability to exchange an asset for cash is by looking at the bid ask spread and seeing what how wide is it is it wide is it a large percentage of the value of the option in this case it is pretty large you could say it's at least 20 so you have to consider when you're looking and speculating about what your profit might be in the future and we'll discuss how you do that in a little bit using options profit calculator we briefly mentioned it before but we'll dive more into that so if you're when you're thinking about what kind of profit you're going to get you have to think about well am i willing to give up 20 cents just to get in and out of the trade at some point for the profit i'm going to receive or expect to receive by buying this option some options will have a bid ask spread that is one cent wide these options are great that means that the option's liquidity is high volume is high open interest is high it's a very popular underlying to trade options on that's a good thing if you have options contracts for the bid ask is hundreds of dollars wide avoid it like a the plague you know unless it's a really small percentage of the overall value of the option but generally speaking that's i mean there's low volume and there's low open interest and you have a wide bid ask and that means one you're going to have to give up a lot of money just getting in and out of the trade and two it also means that there's a potential for volume to dry up entirely in which case you'd be stuck with the option with no one to sell it to and that is possible it's kind of rare but it is possible or three you would have to sell it for just such a ridiculous price that you would lose so much money because if volume dries up the bid ask will become even wider and that might happen if your option becomes even more in the money because the further in the money you get or the further out of the money you get the more liquidity drives up the less volume there is so if you buy a call option that's deep in the money with a wide bid ask and and it becomes more in the money liquidity might dry up volume might dry up the bid ass might become even wider and you'll have to give up even more money to sell this option so there's a lot of reasons why you want to look at the bid-ask spread and make sure it's tight before entering an options trade another thing to keep in mind is that sometimes for not really any good reason the bid ask will will expand wildly maybe all of the sudden there are no bid orders and if there are no bid orders for even just a second it's going to show that your bid price is zero dollars and if you bought this option for the original 120 debit your brokerage is now going to show the middle price of 60 cents so it's going to basically show that you have a 50 loss if you paid 1.20 and now this option is listed at 60 cents you have a 50 loss but it might show that right into close it's going to lock that price at close and it's going to show a 50 loss over maybe the entire weekend and then on monday volume will move back in that bid ass will shrink back together and the price will be more normal but all the while over the weekend you're panicking thinking you've had a 50 loss if that happens if you see a wild change in your options price all of a sudden it might could be because of a weird expansion of the bid-ask spread in that case come look at volume look at open interest if those two are still high if there's anybody out there still trading these things don't panic generally speaking volume will move back in and it'll push that bit ask back together especially if it locks the price right in the close that happens happens a lot where the bid asks expands wildly right at close and it'll lock in a very strange price and you'll see a very ridiculous profit or loss well don't panic or don't get too happy because the next open volume will move back in pushing the bid ass together and it'll show a more reasonable price let me clean this up a little bit because i have one more thing to say so i said you have to pay the asking price to get filled immediately and you have to pay the bid price or sell at the bid price to get filled immediately when you're selling so when you're buying buy bask sell sell at the bid but does that mean you have to set your order you're the price of your order at one of those two prices no it doesn't and generally speaking i don't unless you're in a huge hurry you probably shouldn't the best way to handle this kind of situation is if you're wanting to buy this option enter a price somewhere in the middle it's called the mid price you might see it on your brokerage actually actually so in this case i might enter an order for one dollar and 10 cents this way i'm trying not to pay the whole and if i set an order for 1.10 someone that's on the asking side of things might meet me in the middle and i could get a fill there same goes with when i'm selling i could enter a sell order at one dollar and 10 cents and someone from the bid side of things might one of those big buyers will move up to the middle and meet me there if you don't get a fill when you set a limit order a limit buy order at 110 uh if you're buying move it up a little bit move it up a little bit move it up a little bit until you're at either get a fill or until you hit the asking price if you're selling this option and you don't get a fill in the middle move it down a little bit move it down a little bit move it down like keep replacing the order and see if you get a fill and just keep doing that until you get a fill or until you hit the bid price at which you definitely will get a fill and just in case you're not familiar a limit order is very easy to understand so if this were a limit order if i enter a limit buy order what that means is i want to buy at one dollar and 10 cents maximum maximum nothing more than that so if i enter a limit by uh buy order here i could get a fill out one dollar and ten cents i could get to fill out a cheaper price which would be great but i won't get it filled at a higher price when i'm selling if i enter a sell limit order it means i want to sell for a dollar and ten cents or more but never less so i could sell for one dollar and 10 cents might be more than that but never ever will be less than a dollar and 10 cents that's the bid ask spread and volume and open interest you want to look at this every single time when you're getting into an options trade what is the options been asked how wide is it that's going to be representative of high volume and high open interest so you're going to get more fair prices you're going to give up less money by getting in and out of the trade and you won't get stuck in a situation where you're having a hard time selling the option which is not a very great situation to be in it's pretty rare generally speaking you can always sell or buy an option but the less liquidity the more ridiculous you have to pay when you're buying or the more of a ridiculous price you have to pay sell for so liquidity is very important to look at and to do that you look at the bid-ask spread which is going to be really driven by volume and open interest the width of the bid ask is driven by volume and open interest okay so some questions to make sure you're tracking what the bid-ask is and why it's important as well as volume and open interest well first what is the bid price and what is the ask price define volume and define open interest as well why is the difference between the bid and the ask aka the bid asks spread important when it comes to trading options and what is the relationship between volume and open interest and the bid ask spread and really the main important question is what is liquidity what is options liquidity and why is it important when it comes to trading why is it the first thing you look at when you go to look at an option to purchase we are approaching the finish line quite quickly all that we have left is explaining the difference between puts and calls which is actually surprisingly easy and then after that i'm gonna go through step by step through my thought process as i enter an actual trade so it's gonna be a real trade on weibull you'll see me enter it and everything the difference between puts and calls is actually there's not much calls you're betting on the stock going up right your delta's positive puts you're betting on the stock going down your delta's negative now the reason why you make money as a put goes down is based on how exercising differs for puts than it does with calls so here's here's what i mean before we're looking at calls right before we were looking at calls on this left side we don't care about these right now okay we're looking at puts put options are very similar okay they these puts share the strike prices with the calls so there's a 925 call on the left side 925 put on the right side okay so all these strikes apply both to these calls and these puts let's talk about what exercising means for a put because it's different than with a call with a call when you exercise you buy 100 shares at the strike price where they put you sell 100 shares at the strike price at k remember k strike price and if you don't own those shares you're selling short selling short means you automatically borrow some shares from your brokerage and sell it for some money you hope that the stock price goes down so that you can pay less to get those tiers back and return them to your broker so when you exercise a put you buy 100 or excuse me you sell 100 shares at the strike price so that changes things that changes how intrinsic value is built and it changes what options are in the money and out of the money to illustrate this let's go through an example here this 98 strike put okay we're gonna look at this guy if this were a call it would be out of the money correct the strike price is higher than the share price but in this case it's actually in the money for puts and we'll just explain why let's run through an example let's say we have this put option in our possession and we exercise it so we sell 100 shares at the price of 98 per share and then what could we do we could go buy to close this position at the current trading price when we sell these these shares we're selling short we have a short position to close it we have to go buy 100 shares so we can return them to our broker and we can buy those hundred shares at the current stock price of 96.84 so we buy 100 at 96.84 so we're paying here's your brain adam one dollar sixteen cents less we're paying one dollar and sixteen cents less to close our position so we receive ninety eight hundred dollars but we pay back ninety six hundred and eighty four dollars we get one dollar and sixteen cents of value out of this per share of the hundred shares so in in essence we would extract 116 of value the exact same way as if you exercised an in the money call option the value that you extract is identical it's just that where calls would be out of the money puts are actually in the money and where calls would be in the money puts are out of the money so puts gain intrinsic value as they become more in the money and that's the same as with calls except for they gain intrinsic value as the stock price drops but the amount of intrinsic they get per dollar the stock decreases is the same as with calls it's one dollar in premium that they gain as intrinsic value so intrinsic value and extrinsic value work the same for both puts and calls it's just that calls gain intrinsic value as a stock rises while puts lose intrinsic values to stock prices calls lose intrinsic values as stock drops puts gain intrinsic value as the stock drops all because exercising is different where and with puts you sell 100 shares with calls you buy 100 shares so they're different so they're flipped and this changes a few things when you're actually trading them as well let's take a look at the greeks really quick so we have delta vegas theta gamma we don't give a flying f word about row i really don't care so we're looking at calls and puts in the greeks with calls delta's positive you make money as the stock goes up you lose money as the stock goes down there's a positive correlation with puts it's the exact opposite it's negative as the stock rises you lose money through delta as the stock goes down you gain money through delta there's an inverse correlation vega positive for calls that means that you make money as implied volatility increases implied volatility is good for all options because all options are defined risk strategy the more anticipated volatility the better because if things go against you your la your losses are capped if things go in your favor there's basically uncapped potential profits so vega is good for both calls and puts so positive for both positive correlation between implied volatility and call premium and premium and put premium theta negative for calls and negative for puts both lose value as time passes both have extrinsic value which is given to the options premium based on implied volatility and they still expiration working together and that decays off both call premium and premium as time passes therefore theta is negative gamma is positive because gamma just represents how much delta changes by a one dollar move in the underlying so the only greeks that's different is going to be delta rho as well but we don't care about rho it's going to be delta you make money as the stock price goes down with put options but you still have to deal with time decay and you still want to buy options put options in low implied volatility environments to capitalize on that mean reverting characteristic of implied volatility because implied volatility is good for both puts and calls okay a couple more things to note as differences uh let's write out break even down here breakeven is different because we want the stock price to drop and for every dollar the stock price drops we gain one dollar of intrinsic value we want the stock price to decrease in order for us to reach our break even by expiration we must have a thick concrete layer of intrinsic value that is equal to however much we paid for the option because at expiration all our extrinsic values decayed off so we have to have that cement block of intrinsic value in order for us to break even at a certain stock price by expiration so if our option you know for a call option if our option's worth two dollars our option our strike price has to be two dollars in the money by expiration in order for us to break even which means that break even for calls is strike plus premium paid call premium so if my strike is 96 then i want the stock price to be strike plus call premium of two dollars 98. when the stock price is 98 at expiration we'll have two dollars of intrinsic value so our option will be worth the exact same as it was when we first bought it so we'll be at break even this is different with puts in the sense that we don't want it to be plus we want it to be minus put premium so if our put option is worth two dollars well and our strike is 96 what do we want the stock price to be by expiration to break even we want it to be 96 minus 2 which equals 94. so we want the stock price to be at 94 because if we're not 94 that means our option is two dollars in the money two points in the money if we exercise this option we can sell 100 shares at 96 and then buy for the cheaper price of 94 collecting two dollars uh per share of those 100 shares so at 94 we will have two dollars of intrinsic value after extrinsic value has completely decayed off which will be equal to the initial price of that option so let me write it where i initially wanted to write this break even for put options for puts equals strike minus put premium breakeven for calls just to give you a comparison is strike plus call premium so it's flipped because intrinsic value for puts grows as the stock price decreases then you want the stock price to go down in order to build up intrinsic value therefore your breakeven is going to be below your strike the opposite is true for calls and lastly i just kind of want to draw it out for you so you can visually see the difference between puts and calls so here we'll do call premium okay this is going to actually do profit loss this is a profit loss diagram that we discussed before here's the call option okay our strike is right here when the stock price sub zero on the x axis is below our strike we'll be at a max loss and let's say we paid let's say call premium equals one dollar we'll say put premium over here is one dollar as well if the stock price is below strike add expiration after extrinsic value is decayed off or if you exercise where you give up extrinsic value you'll be at your max loss of minus 100 for a little bit past your strike you'll be recouping some losses and then right here will be your break even which is strike plus call premium after that you're making profits that are potentially uncapped but really are they uncapped no because within the lifespan of your option the stock is gonna go to a certain price okay it's not gonna go to infinity so even though theoretically the stock price could go up to any number really it is capped it will end up at some number at some point okay there's only a certain amount of reasonable stock prices the stock could go to unless you're looking at tesla so really it is capped although we theoretically think about it as uh uncapped now let's look at a put option how is that different all right here is our put profit loss at expiration or if we exercise right here is going to be our strike and above our strike is when our our put option is going to be out of the money if the stock price is above our strike and at that point we'll hit our max loss of minus one hundred dollars for a little bit uh below our strike we'll be recouping some of those losses and then we'll have our break even which is going to be k minus c i'll just write that again right here past our break even by expiration we will have a profit and our profit is capped because the stock price can only go to zero so we can't build up more intrinsic value than is available if this stock price went to zero it can't go negative but the odds of it going to zero are pretty slim and if you held a put option to zero you'd be pretty lucky although by the time it hit zero i think it would be delisted and nobody would be trading options anyway so you might actually be screwed but so it is capped but is it really capped you know is it capped in the sense that it's said here like if the stock price goes to zero no you're not going to buy a put option in the stock price it's going to go to zero it's capped in the same way that calls are capped which is the stock price is only reasonably going to drop so far it's going to stop at some point if you're buying calls well if things go your way the stock price is only going to go up so far it's going to stop at some point so in my opinion i like to think as both of these are capped and not because the stock price will go to zero like with puts i'm just saying that the stock price will only go up so far or down so far within the lifespan of the option so i don't think as call of calls as better because they're uncapped because statistically they are kind of capped and same with put options as well everything else we discussed between puts and calls work the same between the two okay they're very similar they you can almost just think of put options as calls in reverse just flip them in the money and out of the money and that's basically it then they're they act the same way as same way as calls do they build intrinsic value as they get more in the money they have extrinsic value based on implied volatility and time which decays off as time passes by the rate of theta theta will exponentially increase for both puts and calls within 30 to 45 days out at expiration if you're puts in the money you better exercise it to prevent it from expiring worthless if it's out of the money all of its extrinsic value is decayed off and it will decay it'll expire worthless and all the money you put into the option will be gone the bid ask spread between calls and put options work the exact same you want to look at them in a tight bid ask spread is very important for both puts and call options the way you sell and buy is exactly the same the way you choose expiration dates is exactly the same the further out expiration you have the more expensive the option is going to be but also you have more time in order to reach break even because no matter what expiration date you choose your break even will always be k plus c or k minus p i'm sorry i wrote k minus c here i'm gonna put premium i'm a donkey so yeah you if you the further out you buy uh an option the more expensive it's going to be the more money you're risking because it has more extrinsic value because there's more time until expiration but the benefit of buying an option further out and i often buy options very very far out is that you have more time to reach your break even if you have a very very high break even which means you bought an out of the money option whether it's a put or a call and you have a very very short expiration which expires maybe in a week you'll have a lot of leverage that delta will be a massive percentage of the value of that option but you're gonna have a really really high break even or really really low break in for break even for puts in other words the stock price will have to go very very far for you to break even and you'll have a very small amount of time to do that so if you look at wall street bets that's all they do they buy what's called weeklies they buy options that expire maybe in a week and they choose out of the money options okay that way delta's a very large percentage of the overall value of the option and then they buy a bunch of them so they have a ton of leverage but they evaporate quickly and there's not enough time for them to reach break even the stock price isn't going to move that quickly so they expire worthless and they lose all their money that applies to both puts and calls and it's important to choose expiration dates that are pretty far out especially when you're buying puts and calls if you can afford it if you can keep a good diverse portfolio because then you're going to have more time to reach your breakeven and theta will be a smaller percentage of the overall value of your option although yes you are gonna be spending more money which means if things go really really wrong you will lose more money when you buy a more expensive option as a later expiration date i also want to say that buying in the money lowers your break even as well so if you buy in the money with a far out expiration well buying in the money makes it more expensive buying farther out makes it more expensive when you buy in the money it's more expensive because it has more intrinsic value when you buy further out expiration it's going to make it more expensive because it's going to have more extrinsic value if you do both of those things yes the option is going to be more expensive yes technically you're risking more but your probability of success is going to be much higher because you have more time to be correct you have more time to reach your breakeven and your breakeven is going to be lower and these are all things we're going to take a look at when we actually trade options but i'm just giving you some more tidbits into my thought process when i'm looking at options why you choose a further out expiration uh why with put options and call options generally speaking your probability of success is going to be higher when it's in the money and a further out expiration because it lowers your breakeven and you have more time to reach that break even and i also just want to warn you that a lot of people do trade out of the money options with short expirations and use them as lottery tickets but in general the majority of people and it's a fact that statistically the majority of people will not be successful trading out of the money options frequently i'm not telling you what to do i'm just saying i've seen it all over the place where people think they'll get lucky and they don't and they burn their money and i've done it myself a few times okay so with that said uh i'm gonna ask you some questions just about the the differences between the two and then we'll move on to some real live trades you ready for calls versus puts uh you know i want you to think about what the differences are kind of to yourself how does exercising differ between calls and puts how does break even differ between calls and puts what about with the greeks what are the different greeks between calls and put options is implied volatility still good for put options or no you make money with calls when the stock goes up how about with puts and if you can answer why that is that's even better so i just want you to run through those things and think about how they're different and then check down in the description below to make sure that you you got everything you're not missing anything once you've reviewed that let's head on to the next section congratulations you have slogged through a lot of dense material and we're actually getting to the fun bit here so we're actually going to do a real trade um we have some money queued up in in weeble so we're going to actually do it but before we do i just want to analyze two types of trades i want to analyze uh what buying out of the money call options on microsoft and i want to analyze buying it in the money call option on microsoft and take a look at the difference between the two so you know exactly why you choose certain strikes and why you choose certain expiration dates while your thought process when when trading options may differ from mine as you gain your own experience the basic process that we're going to go through today is probably something that you should be doing every time you buy an option or at least your decision making process should be a good reflection of what i'm doing here because everything that we're going to go through to buy this call option is pretty fundamental to making sure you don't screw yourself over so that said let's go to optionsprofitcalculator.com and take a look at two potential strategies that we could implement so we're going to do a long call on on microsoft long call means you're you're bullish if you did short call that means you sold sold to open an option but we're doing a long call we haven't talked about selling it open in this tutorial and we are going to type the symbol of microsoft msft and we're going to buy an option we select the option we're going to do some out of the money options first and see what our profit loss could be in that scenario so we're going to choose an expiration that's about one month out so short expiration very far out of the money so we'll do the 242 50 strike call option it's very far out of the money uh so you can see the bid price on the left and the ask price on the right we're gonna choose the mid price because like i said yeah we if we wanted to get filled immediately we'd buy it to ask generally speaking though i enter a limit order limit buy order in the middle of the bid ask which is aptly named the mid price so we're going to select that and we're going to buy a bunch of these we're going to buy 30 of them we're going to hit calculate you can see the total cost is 3960 okay now open a new tab if you're following along or if you're just watching that's fine and we're gonna do one call on microsoft and we're gonna do it in the money option so select option we're gonna choose a very far out expiration about nine months from now and we're going to choose an option that's about the same value as these out of the money options all 30 of them so these are worth 3960. so we want that call option that's about the same so we'll choose this 195 strike that's 3985 dollars worth and it's just one of them so we'll hit calculate okay let's pop back over to these out of the money options look at that do you see how your break even rises super fast that's because theta is a large percentage of out of the money options and when you buy a bunch of out of the money options that means you're gonna have a super super huge theta so the value of your options is decaying quite quickly and because also out of the money options have a high break even due to this which correlates to the high rate of decay of the premium you better hope the stock price moves quickly then gets above your break even of in this example 243.81 before expiration or you're gonna your money's just going to start evaporating very very fast because these out of the money options are completely consisted of extrinsic value and as you know extrinsic value decays off as time passes and in this case the theta the rate at which they decay is very high because they're out of the money and because they are within 30 to 45 days until expiration at which point theta ramps up exponentially so you can see that theta degrades the value of these options very very fast but let's say we get lucky let's say that microsoft pops up to 234 234 dollars today the day we buy it how much do we make seven thousand one hundred forty dollars now this doesn't account for changes in implied volatility which will affect your profit loss somewhat but it is a good estimate of what our profit would be so the seven grand well how about with our in the money option which is worth the exact same amount or pretty much the exact same amount as our out of the money option so let's save it pops up to 234 today we make 763 dollars we make a fraction of what we make with out of the money options okay well out of the money options sound pretty good so far what happens if it stays at 234 for a month well if we follow that over it goes to zero we lose everything we put into the trade not only do we lose all those profits that's seven grand we also lose that four grand we paid for these options because they're out of the money they'll expire worthless how about with our in the money option if it pops up to 234 it trades sideways for nine months we lose 85 bucks as compared to losing 4 grand if it trades sideways for a month 4 grand plus our profits is what we lose so you can see that yes if things go quickly out of the money options are your friend how often do things go quickly or at least how often do you guess the right stock when things go quickly not very often and what people at wall street bets do while it may be funny sometimes is they will buy a bunch of out of the money options and they'll have these positions that have a large amount of theta but they also have a huge delta because delta is also a large percentage of the value of out of the money options if you buy a bunch of them you'll have a super huge delta in fact the delta of this out of the money position is larger than the delta of this in the money position because there's so many out of the money call options in that position if we look at one out of the money call option and one in the money call option we know based on everything we've discussed this out of the money call option has a smaller delta because as you get closer or deeper in the money the larger your delta becomes approaching one but because delta is a larger percentage of the value of out of the money options if you buy a bunch of them you can have that's the same value as one in the money option it will have a higher delta than this one in the money option so you have more leverage but theta is also super super high so you also have more time decay what was i saying oh yeah so so the wall street bets guys they'll look at this and go hmm i have no self-control i'm also a stock picking genius so they'll buy a bunch of out-of-the-money options on some meme stock and watch their money light on fire indicated nothing and then they'll do it again and again and again and again and again and again and again and again again they're constantly buying and selling panicking doing all sorts of stuff and then at the end they take a step back and they see they're down 99 percent over the last four months that's what that's that's what idiots do that's what gamblers do that's what wall street bets does no offense because i know some of you guys are out there you know you guys are my og homies but you're also kind of dumb and i appreciate that at least you know that instead of what you could do is yes give up somebody the leverage but increase the probability of success by having a lower theta and a lower break even and more time to reach that break even by buying in an in the money option with a forward expiration now this might be too expensive for your portfolio it'll be cheaper with cheaper underlyings or lower implied volatility but if this is too expensive for your portfolio and you're like i can't do this well you can give up some time of expiration but you also have to realize that you're gonna have less time to reach your breakeven that'll make options cheaper you could uh increase the strike but that's also gonna increase your break even so you're giving up some probability of success to have a cheaper option instead what you can do is trade debit spreads or credit spreads i encourage that you learn about those if you want to reduce the buying power necessary to enter an options trade i also encourage everybody to learn about cash secured puts or covered calls but me personally i generally stay away from this option strategy because yes once in a blue moon someone gets really really lucky makes a ton of money but more likely you're going to lose your money and if you don't lose your money and you win generally speaking i've seen people just get overconfident and they repeat the strategy and the strategy is the losing strategy over time it has a negative expected uh value so they'll repeat the strategy and then lose the gains that they made okay now no anytime i see someone say i made 10 grand first of all i want to see their all-time chart second of all i want to see them how they're doing in six months because generally speaking they'll lose it all if it's 10 grand on a 500 account okay so this is my preferred strategy so this is what we're going to roll with today we have a nice slow break even it's even lower than our out of the money position over here even though we have nine months to reach it that's great so we had a higher break even and one month to reach it with our out of the money position but now we have a lower beacon break even and nine months to reach it so how do i determine where i think the stock is going to go well generally speaking when i buy call options i don't really have a price target which is probably kind of weird to hear i don't have a price target i don't care there's one thing i care about and that's that the stock gets above my break even that is it and what is my break even it's 234.85 which is about four percent above the current stock price do i think that microsoft is going to be above 234.85 that's going to go up four percent over the next nine months yeah i think microsoft is gonna go up four percent over the next nine months and if i'm wrong i'm willing to pay the price do i know exactly where it's going to go no what's the point what's the point of choosing an upside did you depict the favorable risk reward ratio that makes you feel good there's no point do i think it's gonna be my above my break even yes and that is what i meant when i said use your break even as your target that's what i mean you want it to be above your break even if you have a really really high break even like with these out of the money options we're like yeah but i think the stock price is going to be up up here by december 30th i don't i don't really care about expiration what if things go wrong okay you have to think use your braking minister target because it's your worst case scenario it's after it's the lowest value your option will be which is add expiration after extrinsic value is decayed off so you have to pick worst case scenario and that is going to be where your break even is so i look at my worst case scenario four percent to the upside yeah i think that microsoft will rise by four percent it could do so in the next three days not let alone the next nine months so this is why i buy these options anyway i say all this to say the longer you give yourself and the deeper in the money you give yourself the higher probability of success although technically the more you're risking because the more expensive the option is going to be as far as stop loss goes where you're going to sell that is up to you to decide where you're comfortable selling where you you or where you'd be uncomfortable holding i guess is a better way to put that for me though generally speaking nowadays i buy um call options that are very deep in the money very far out expiration year or more and i don't ever think about selling them that's just me though all right so now that we've gone through the differences of uh you know expiration strike and out of the money and versus in the money let's actually buy this call option so you can see what it looks like all right so let's buy this call option on microsoft so when you have weibull open on your phone and you have the account you want to trade in selected you want to tap on quick trade in the middle of your screen towards the left the blue hammer there and then microsoft and bottom right select options okay by default you're only going to see 10 strikes okay we want to change that so well first let's collapse this options chain by tapping on the expiration date the 24th to december 2020 and then we'll open up 17 september 2021 which is the expiration we want then to see more strikes because we can't see our 195 strike call here we want to tap on the 10 in the bottom right you see that the one zero in the bottom right tap on it we'll change it to 50 for now and then we will find the 195 strike call which is worth the mid price or the last traded price was four thousand dollars let's tap on that and we want to see more statistics because we want to see the liquidity of this option right we want to make sure that yeah i mean looking at the options profit calculator everything looks good but it's only good if we can buy and sell it for a reasonable price so let's tap on the 195 and the bottom left you see 195 17 september 21 call tap on that guy now we can see some option statistics first thing we're going to look at you know uh would be volume and open interest volume is five open interest is 469. is that super high not necessarily but it's good enough for me because volume any volume on an option that expires nine months from now is a good thing if someone's trading that option today and expires in nine months that means there's some interest in that option and the open interest is decently high okay it'll increase both volume and open interest as the expiration nears so for an option that's far out in expiration this liquidity is decent and to confirm that we want to take a look at the bid ask spread the bid ask spread is 3915 to 39.55 which is 30 40 40 cents wide 40 cents is about one percent of the overall value of this option which is a small amount 40 cents is uh one percent of forty dollars and then we can see on the bid side we have five bid orders stacked up and on the ask side we have 130 ask orders stacked up and you will see that that will change you know just as time passes so this is looking good to me okay there's there's plenty of orders on both sides there's some open interest some volume and the bid ask spread is relatively tight which means there's there's market makers that are uh participating there's traders that are participating that are engaging in price competition that's pushing the bid ask uh closer together so this is looking decent to me so we're gonna go ahead and buy it but let's make sure that before we buy it that we have oprah real time quotes remember in the top where that blue i guess in my case it's a lightning strike is for you it might be a blue clock if it's a blue clock that's no good that means your data is 15 minutes delayed and you have to sign up for oprah real time quotes you get a quote you get a quote so once you do that then you'll see accurate information we definitely want to see accurate information before we enter any any orders here so let's buy this option so we tap on it okay we're gonna hit edit in the bottom left can change the strike if we want but we selected this strike with intention and let's take a look we have a limit buy order underneath the limit order type we can see limit price and underneath that we can see the bid ask spread the bid ask spread is three eight nine five two three nine three five and it's constantly changing the mid price is 39.15 so what we're going to do is we're going to enter a price at the middle and see if we get a fill so let's do that let's change the limit order through 39.15 word of caution you can change this from limit order to market order market order will get you filled at the best available price but you have to be careful because options prices change pretty pretty significantly it's not like with shares where buying markets totally fine because shares generally have a bid ask spread of one penny if the bid ask changes wildly or someone places a really extreme order and no one else is trading even just for one second and you hit market order you can get a ridiculously expensive fill so you want to always do limit orders with options don't do market orders okay it's just not worth the risk so set a limit order at the mid price we're going to change it to the mid price which is 39.32 this has to be in the 5 cent increment so we'll do 39.35 so it's leaning towards the ask price so it's more likely to fill and then we'll hit buy here we can see the symbol microsoft you always want to go through make sure everything's looking good otherwise you can make a mistake there's plenty of times where i've bought calls when i want to put some puts when i want to call this guy it happens to everybody so go through everything microsoft 1.95 strike call expires on 17th september 21 21 correct we're buying it yes contract one we only want one of them yes order type is a limit buy order great limit prices in the middle price good and time and force is day which means that if we don't get a fill by close today it'll cancel if we set that for good till canceled on the previous page that means it'll stay pending for 90 days and if it doesn't get a fill it'll cancel great and we can see our breakeven last price or max loss and our unlimited max profit which is not unlimited it's just capped by wherever the stock is going to go before expiration which is limited it can't go up to infinity hit confirm now we have an open order and let's see what's 39 35 is what we're trying to buy it for the middle mid price has jumped up a little bit so to save us time generally i would just wait and see if i get a fill over the next 10 15 minutes uh but to save us time let's move the price up a little bit so if i tap on open orders at the bottom then tap on the microsoft call we can cancel and replace this order so we'll hit modify and we'll set it for 39.50 which is now around the new mid price because the price is fluctuating it's moving up so hit by confirm oh it got filled that's why okay so it actually got filled before i can modify it great so we can see our position now if we go back a bunch back back back back back here in our portfolio you can see the microsoft call and we've made five dollars already easy money and it'll always show the last or average price and not the bid or the asking price okay so this is where i'd hang on to it it would sit there and it would accrue some profit or increase some loss and increase in value or decrease in value the the factors of uh the greeks of vega and theta and delta are gonna all affect the value of this option and that's something that you have to consider too is that if the stock price rises and your option loses money or does not also rise there's two a few reasons for this to happen one is theta if theta's out doing uh delta then you're losing money or you're not making any money another cause for this might be if uh implied volatility is decreasing so you're experiencing a little bit of iv crush it's counteracting the the positive effects of delta as the stock price rises on your option so if implied volatility is going down even though stock price is going up it is possible that you don't make money or that you lose money another reason might be that the option is not very liquid and so the prices are kind of irregular and jumping around a lot that might be another reason so don't be surprised if you know your option doesn't increase in value immediately when the underlying increase is in value okay so we've made five bucks on this you know let's just take our money and run right how do we close out of this position well we'll tap on it and in the bottom left we can sell now look at that in the bottom left it also says do not exercise at expiration if you don't want this option to exercise tap on that hit okay it won't exercise at expiration but that means that if you hold it into expiration and it's in the money well it'll just expire worthless which is stupid you should sell it before expiration if it goes into expiration you absolutely should exercise it if you could afford to otherwise you're gonna lose all the money you put into it so personally i'd leave that unchecked um but generally speaking i would probably intend on selling this option before expiration anyway but just if i have the funds available to exercise or the margin available to exercise i will do so to prevent it from expiring worthless even if you just use a margin for a day and then you sell all the shares by the current market value that'll prevent your option from expiring worthless okay so something to consider now if you want to close this position we could hit sell okay that would sell this exact type of option but if you want to make sure that we don't accidentally sell an option we don't own tap on close selling an option you don't own is writing a totally new contract here we set a limit order okay and we'll set it somewhere near the middle price of 39.40 to exit out of this position and when we look over that and that looks good we'll hit sell look over this really quick and confirm and you can see that i went into open orders and then got filled so if i go back to my home screen you can see our position is gone now if we want to see how much money we've made we can see our history of our trades by going to more and the top you see orders and we can see that we bought and then sold a microsoft 195 call so let's tap on the buy we bought it for 39.35 and then we sold it for 39.40 so we made five dollars and in the time we're talking thank you for letting me do this example for you to make a smooth five bucks so that's how you buy and sell options and you have to consider all the things we talked about especially when it comes to expiration and uh strike all the fundamentals that we discussed tie into how the options premium changes as time passes and relative to where the strike is and relatively where the stock price is it's a lot of information that once you take a step back and you have it all in your noggin it actually is pretty simple and it's pretty glassed over and pretty intuitive when you actually start trading them but you have to understand everything so that you you you you don't miss anything you don't make any stupid mistakes that cost you money and you can go out there and trade these effectively and really know what you're doing and why you're choosing certain numbers choosing certain expirations choosing certain strikes why you're making money while you're losing money and it'll give you more ammo when it comes to learning more complicated strategies as well now at this point i just want to say thank you if you made it to this end of the video i know it's really long and i'm it is absolutely astounding that that you're willing to sit through all this to learn this kind of information but i think it'll prove uh useful as as your investment career goes forward and if you haven't noticed i started this video a few days ago maybe four days ago and i haven't shaved since so this is my stubble and uh i i apologize it looks like uh pubes taped to my face but uh maybe don't put that in there jesus christ and it's been an absolute pleasure and i've had an absolute blast doing this okay brain dumping all the information that i've learned over the past four or five years is super rewarding to me and i appreciate you watching this video if you have any questions you can ask them in the comments section if you want uh me to answer your question in video form it'll cost you a little bit of money but you can click on the link to hey hero down below there's also free stocks down there you can check out fantasy invest it's an app that will allow you to potentially earn prizes by paper trading stocks with other people thank you so much for coming along on this journey i wish the best of luck to you and i hope to see you around the comment section and maybe elsewhere you take care bye bye and remember by the dip [Music] dying

Channel: InTheMoney

Views: 1,824,792

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Id: ZJjRnKpwDyw

Length: 144min 15sec (8655 seconds)

Published: Mon Jan 04 2021