One of the most exciting financial instruments available comes in the form of derivatives. The versatility of derivatives, allows for many different investment goals to be reached. Derivatives are growing in popularity and are quickly emerging as an essential financial investment tool. One of those derivatives is Futures, which are a financial contract obligating the buyer to purchase an asset (or the seller to sell an asset), such as a physical commodity or a financial instrument, at a predetermined future date and price. Futures are most common among institutional investors and large firms because of the high risk that comes with trading the volatile futures market. Another growing derivative is Swaps, which is an exchange of streams of payments over time according to specified terms. Although both of these are growing derivative fields, this focus is solely on another type of derivative, options.

A stock option is a privilege sold by one party to another, which gives the buyer the right, but not the obligation, to buy (call) or sell (put) a stock at an agreed-upon price within a certain period or on a specific date. An option is a contract for 100 shares of an underlying security at a particular strike price, which is the price per share for which an option holder upon exercise of the option contract may purchase underlying stock. While the 100-share contract size seems quite small, it does limit the use of options in a portfolio to individuals and managers that have the purchasing power for at least 100 shares of a particular stock.

A common misconception with the option market is that it is very risky and volatile, capable of causing fortunes to erode in one swift blow. This, however, is due to the speculative aspects, to which only a small minority of traders is actually attracted. These two markets can give the trader the ability to minimize risk and to create lower volatility returns, which is the opposite effect of the commonly accepted opinions as mentioned above. In my paper, I will describe how investors can utilize options to manage risk and create predictable future returns.

Over the course of the next few posts, TheFinancialWhiz.Com will examine various options trading strategies that can be used by investors to lower the risk of a particular position or overall portfolio. The strategies that will be covered are:

• Covered Call Writing
• Cash Secured Put Writing
• Protective Put
• Stock Option Collar

For questions regarding any of the strategies or explanations of options strategies not covered, please feel free to comment or email me. Happy Trading!