by CareyAnn Peterson
Options are the bread and butter of the Snider Method. If you are a Snider Method Alumni, you most likely have a solid understanding of the reasoning why we sell options, but you are probably less familiar with the strategy of those who buy options. Recently, I have received more questions than normal about the rights of those who buy options and how they work. I will address a few of the most frequently asked questions.
Do investors who buy options have to wait until expiration to exercise the option? The answer to that question is no, they don’t have to wait until expiration to exercise the options they purchased. We trade American-style options and they can be exercised at any point before they expire. You might find that your stock gets called away early if the option is deep in-the-money or if the buyer wants to own the stock to take advantage of receiving the next payment of dividends.
Why would an investor buy a put? When a trader buys a put, they are buying the right to sell you their stock. If they see a potential for a stock to decline in price, they can hedge that risk by buying the right to sell you that stock at a certain price. If the price drops below that strike price, they will exercise their right to sell you their stock. If the price does not decline in price, the option will expire worthless and the seller still keeps the option premium.
Why would an investor buy a call? When a purchaser buys a call, they are paying for a right to purchase your stock at a certain strike price. During the time before expiration, they are hoping that the price of the stock appreciates above the strike price and they can purchase your stock at a lower price than where stock is currently trading.
If your stock gets called away before expiration, should you try and trade a second time in your account before Trade Day? There are times that your options may be exercised before expiration, but that does not mean that you should try and trade in your account before the next Trade Day. The Snider Method is a rule-based system that was developed to take the emotions out of your investing. Between Trade Days, you should be in the caves of Bora Bora not worrying about your investments. We recommend that you wait until you do your Sunday Evening Bookkeeping to view which options were exercised or expired.
There are many strategies that investors employ when buying and selling options. Some are riskier than others, but the only strategy that you need to worry about understanding is that of your own. There are times that you will see opportunity to tweak the method, but we always recommend that you stick to the rules of the Snider Method to prevent yourself from making emotional or irrational decisions when it comes to your investments.