Poll: Is understanding options easy?

[Overnight]

I mean when you sell a put at $100 strike then you’re selling a $100 spread because that’s how much you can lose. Buying a put at $100 strike means buying $100 spread because that’s how much you can make if the stock goes to $0. Of course you’d never cross the full width of that spread so indeed a better example would be a $1 put spread like between $99/$100 strikes that can be purchased for $0.50 near ATM, if stock price is at $99 for example, and stays there or lower at expiration.

I dunno man. It's just that I've heard that selling naked puts is a bad idea. Especially in NG. You options people are nuts.

 

[Wheezooo]

I dunno man. It's just that I've heard that selling naked puts is a bad idea. Especially in NG. You options people are nuts.

Nah, in NG it was selling calls - naked or hedged - you had to sweat over.

 

[ironchef]

I'd say yes it is. A house buying analogy is enough for someone to intuitively understand options. Imagine you wanted to buy a house but only if the new best school is built. You may try to get a contract from the home owner stating that you have the option to purchase the house on or before the date specified in the contract (the date of the opening of the school). The home owner doesn't want to do this for free, however, because they could sell the house immediately to someone less picky and the market could go down.

They charge you a premium for the privilege of holding the contract. The home owner is betting your condition (the new best school being built) doesn't happen because the city is also thinking about building the new highway. Additionally, if it does happen, they have secured a price on their home in the event it may go down. If they are right, they keep your premium and you didn't have to move in. You paid a small fee for the right, but not the obligation to purchase the house. It benefits you because you didn't want to own the house without the school being built (your kids are very talented and you only want the best for them). It benefits the home owner because not only did they collect a small sum from you for writing a contract, they protected their asset from a perceived drop in home value (maybe because the school will bring more riff raff to the neighborhood).


Of course this analogy is simple (it can also be used to describe a future with some small modification). From this analogy it's a relatively small step to understand a vertical spread, and from there combinations of verticals (iron flys, iron condors, etc). Calendars might take a little more thinking, and based on the analogy above straddles and their family of spreads should be relatively straightforward as well.

So how much should I pay? Premium, I mean, what is a fair price in your example?

 

[gaussian]

So how much should I pay? Premium, I mean, what is a fair price in your example?

That's not important to gain intuition into options. Moreover, the contract in my example is not exchange traded so the idea of a "fair price" (that really only concerns an MM or arbitrageur) is sort of vague anyway.

Someone just wanting the intuition of options doesn't need to concerned with the price in my example. The fair price is whatever they decide on. The contract being exchanged in my example isn't even standardized so it could literally be anything. It would probably involve the interest rate return on the value of the home, some insurance, and other things - intuitively speaking.