You Have Better Options Than Options
Posted on June 28, 2010
Filed Under Mutual Funds, Personal InvestingWho makes money trading options?
I don’t know anyone who has done well, long-term, in the options market.
Nonetheless, there seems to be a rush towards these lesser-known investment vehicles. (I am loath to call them investments.) From 2004 to 2009, the volume of options trades done by individuals increased an astounding fivefold at Fidelity Investments.
Options are a class of “derivatives” contracts that give buyers the right, but not the obligation, to buy or sell a security, a commodity, or an index’s cash value at a set price by a specific date. There are two basic kinds of options: call and put. A call option confers the right to buy the underlying asset in the future at a specific strike price, while the put option gives you the right to sell.
Before you can do any options trading, you must provide details of your finances and trading experience to a broker, and you need to sign a document saying you received and read “Characteristics and Risks of Standardized Options” from the Options Clearing Corp. In other words, the people who know options from the inside recognize that these things have the potential to be riskier than traditional investments in, say, mutual funds, where no such document is required to be signed.
Nothing sums up my feelings about options better than this quote from Whitney R. Tilson, founder of the T2 Partners hedge fund: “Trading options is one of the all-time sucker’s bets…Most experienced professionals lose money doing it.” (Business Week, 6/ 7/10)
If that is true, what chance does the non-professional have? Not much, in my opinion.
Still, there is money to be made in this field; you make money by teaching others how to trade options. E*Trade Financial reports a 600% increase in attendance last year at its training events, with fees ranging from free to thousands of dollars.
I concede that in the short term, money can be made using options – assuming you have done intensive study. But if you have a long-term horizon, stick with a disciplined and patient approach using no-load mutual funds, and you will probably be far better off.
Still not convinced? In the section of Wikipedia that explains options, you will find this:
As with all securities, trading options entails the risk of the option’s value changing over time. However, unlike traditional securities, the return from holding an option varies non-linearly with the value of the underlier (the underlying security – KW) and other factors. Therefore, the risks associated with holding options are more complicated to understand and predict.
The risks “are more complicated to understand and predict.” The next time you see an offer to teach you how to make big bucks from options, please re-read those words.
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