The following is an excerpt from the eBook, Options Trading 101, authored by MarketClub Options lead trainer, Trader Travis. Learn more about MarketClub Options and how to obtain this entire eBook.
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If you recall from the earlier chapter I told you that buying put options gives you the right, but not the obligation, to sell shares of a stock at a specified price on or before a given date.
A "put option" will increase in value when the underlying stock it's attached to declines in price, and it decreases in value when the stock goes up in price. Read that sentence again. Really, do it.
Most of the people I teach have a hard time wrapping their head around the concept of making money when stocks fall in price. But once I break down how calls and puts work it should be easier to understand the above concept.
Remember, put options give you the right to "sell" a stock at a specified price. When you are buying put options you are preparing for, expecting, or want the price of the stock to decline.
Imagine that, wanting a stock to fall so you can make money. It's so counterintuitive, but that's just how these contracts work.
Over time you will begin to like bear markets (market crashes) as you make your money much quicker because stocks fall faster than they rise.
Put Examples
If you bought a "May 120 put option" on stock XYZ, the option (contract) gives you the right to "sell" stock XYZ for a price of $120 on or before the 3rd Friday in May.
If stock XYZ falls below $120 before the 3rd Friday in May you have the right to sell the stock for more than its market value.
So let's say that stock XYZ falls in price to $50. Everyone else who owns the stock has to sell it for $50, but you own a contract that says you can sell it for $120.
Can you now see why put option contracts go up in value as the underlying stock goes down in price? Continue reading "The Secret To Make Money When Stocks Go Down In Price"
