Standardized Contracts

Stock options are derivative financial instruments. Unlike many derivative instruments, option contracts are standardized for size, strike prices and expiration dates. Standardization allows traders to easily understand the features of any option contract and compare different contracts.

Widely Traded

The Chicago Board Options Exchange reported that over one billion contracts were traded in 2008. High liquidity allows traders to move in and out of positions quickly with low transaction costs.

Established Strategies

Option traders have developed a diverse range of strategies to profit in a wide range of market conditions. New option traders can use these strategies for their own trading without the need to come up with their own ideas. The risk and profit potential of the different strategies are well publicized and an option trader knows exactly what is the potential of any trade.

Leverage

A single stock option contract gives the holder the right to buy 100 shares of the underlying stock. The option premium or cost is just a fraction of the stock value, allowing the trader to leverage her capital many times. A small percentage change in the value of the underlying stock can result in a very large change in the value of an option contract.

Protection

Options can be used to hedge or protect investment values. An investor who is worried that the market value of his stocks will decline can buy put options that increase in value by the same amount as any stock decline. Although many new traders see options as speculative instruments, hedging with options has very widespread use.

Volatility for All

References

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