Notwithstanding the historic bull run we’ve seen, it’s safe to say that current market conditions demand a bit more attention than simply buying stocks and forgetting they exist. We can all agree that it is somewhat demoralizing buying stocks only to watch them sink or do nothing but collect dust and tie up your capital.

At OptionFlair, we believe anyone who is serious about investing should trade options. Options have gotten a bad rap over the years, but the fact is they are merely derivative products based on the value of underlying securities like Apple or Microsoft.

Options have historically been viewed with suspicion, especially by older investors who have had limited access to them and therefore don’t always understand how they work. As the saying goes: “People fear what they don’t understand.”

“Options are complicated” is a common refrain, but as with most things in life, once you learn the basics, they’re not as scary as they seem. Options offer flexibility, and without their use, there’s simply no way to make money in the stock market other than buying a stock at what you think is a low price at the time and hoping it goes up. This approach to investing is analogous to being a helpless bystander and is not how most successful traders build their portfolios.

Options can be as safe or risky as the strategies you employ. You can make a lot of money really fast, but you can also lose a lot of money really fast. The safest strategy, and what we strive for, is preserving capital while compounding option income over a reasonable time frame. OptionsFlair’s general methodology is to stick with safer strategies while being “net sellers” of options. That is to say we favor selling puts (somewhat bullish) or covered calls (somewhat bearish).

Example of a low-risk option strategy – selling a put

Let’s say you want to purchase 100 shares of Intel (INTC), but it’s currently trading at $35.68 and the most you’re willing to pay is $34. Rather than waiting for it to go down and collecting no money, you can sell a put option one month out for about at a strike price of $34 and collect about $70 of premium up-front. If Intel does not drop, you can repeat this the next month. The annualized ROI for this strategy is about 25%. ($70 option premium times twelve months over the put collateral of $3,400.) Your worst case scenario is the stock drops below the strike price and you are forced to buy the the 100 shares at $34.

An even simpler strategy – selling covered calls

Continuing with the above example, let’s say the price of Intel drops to $33 and you are assigned the shares. As the owner of 100 shares, you are now able to sell covered calls. A covered call is when you sell a call option against 100 shares of a stock you own. Let’s say you are comfortable selling your shares for $36, so you decide to sell a covered call with an expiry date one month away for a premium of $40. Your annualized return on investment is 14%. ($40 option premium times twelve months over the stock purchase price of $3,400.) However, because you also now own the 100 shares of Intel, you are entitled to their dividend, which is about 4% annually. Assuming all your calls expire out-of-the-money, your annualized return is about 18%.

As you can see, simple option trades like this are not as complicated as you’ve been lead to believe. If you’re not using these basic strategies to generate cash from your portfolio, you’re leaving money on the table. The compounding effects of these returns are powerful if you consider that a paltry 6% annual return will double your money in 12 years.

For stocks that are more volatile, your potential annualized returns can be as high as 50% or 60%, but we recommend working with less risky stocks which you are comfortable owning if you are a beginner. After all, an 18% ROI isn’t too shabby, is it?

Closing thoughts

We’ll be sharing a lot of information over the coming weeks and months that will help you, whether you’re an experienced investor or just getting started with option-trading. If you’ve been trading options for awhile but have had trouble being consistently profitable, we’ll have some useful tips to help you turn that around.