Hearing the word “Options” puts fear into the eyes of investors and traders…but it shouldn’t!

Some investors and traders believe that options are high-risk betting instruments… but that is not true!  

Much of the risk associated with options boils down to one of three reasons: a lack of education, experience, and understanding. 

Do you think that trading options can be less risky than trading stocks.

Well, it’s true, they can be far less risky than trading stocks.    

So, with understanding the basics of how options work, you will soon be able to reap the rewards of owning stock all while limiting risk!

But before you can begin slinging options for extraordinary returns… you must master the basics first. That’s what today’s lesson is all about.


Calls and Puts – Overview


You might have had success beating the markets by trading stocks using a strict process anticipating a move up or down. 

But unfortunately this success does not simply translate from stocks to options without fully understanding their unique characteristics.  

It’s important to understand how options work in order to trade them correctly and know where and when your position is open to risk.

Options contracts are priced using mathematical models such as the Black-Scholes and Binomial pricing models.

The primary drivers of the price of an option are:  

  • Current stock price
  • Intrinsic value
  • Time to expiration or the time value
  • Volatility (Historical)
  • Interest rates
  • Cash dividends paid

Let’s start with the primary drivers of price of an option: the current stock price, intrinsic value, time value, and volatility.


The current stock price


This is fairly straightforward, but the movement of the underlying stock price will impact the option pricing.  

If the stock price rises, it is likely the price of the call option will increase and the price of a put option will fall.

And if the stock price decreases, it is likely that the price of the call option will decrease and the price of a put option will increase.


Intrinsic Value


The intrinsic value is the value any option would have if it was exercised today.  This value is the amount by which the strike price of an option is in-the-money (ITM).  It is the portion of an option’s price that was not impacted by the passing of time.  

Note:  Options trading at-the-money (ATM) or out-of-the-money (OTM) have no intrinsic value

This equation is how to calculate intrinsic value:

Call Option Intrinsic Value = Underlying Stock Price – Call Strike Price

Put Option Intrinsic Value = Put Strike Price – Underlying Stock Price

For Example:

Let’s assume Apple (AAPL) stock is selling at $300.  The 295 call option would have an intrinsic value of $5.00 because the option holder can exercise his option to buy AAPL shares at $295 then turn around and sell them in the market for $300, or a profit of $5.00


Extrinsic Value


The Extrinsic Value (time value) of options is the amount by which the price of an option exceeds the intrinsic value.  

This value is directly related to how much time an option has before it expires including any projected implied volatility of the stock.

This equation how to calculate extrinsic value is:

Time Value = Options Price – Intrinsic Value

The more time an option has until it expires, the greater the chance it will end up in the money.  Time value is essentially the risk premium the option seller requires to provide the option buyer the right to buy/sell the stock at or before the date the option expires.    

For example,  If AAPL is trading at $300 and the 30 Days Till Expiration (DTE) call is trading at $6, the time value of the option is ($6 – $5) = $1.00

An options time value is also highly dependent on the volatility the markets expect the stock to have at expiration.  One measurement of volatility in stocks is by using the company’s beta. A “high beta” is said to be more volatile compared with “low beta” stocks.




The effect of volatility is extremely difficult to measure and is highly impacted by a traders fear and greed. 

There are two types, implied volatility and historical volatility.  Implied volatility is the volatility in the options markets, where historical volatility is the volatility in the stock price.  


Historical Volatility


Historical volatility helps a trader to determine the possible magnitude of future moves of the underlying stock.  

Statistically, two-thirds or three-quarters of all recent price movement will happen plus or minus one standard deviation of the stock’s move over a set time period.  Historical volatility looks back in time to show how volatile the stock has been.  

This is extremely important for options traders to determine which price is most appropriate to select for their specific strategy.


Implied Volatility


Implied Volatility is what is implied by the current options prices and is generated from an options pricing model.  

This value helps set the current price of an existing option and helps players assess the potential of a trade.  

Implied volatility is a sentiment indicator as well and helps to give options traders what the current market expects future volatility to be. 

This future sentiment is reflected in the price of the option and has based on current option prices.




The bottom line is this…

Any options trader should really take the time to study the various options pricing models.  This is a must to understand how options are priced.

Besides the underlying price, the key factors of the option price are intrinsic value, volatility, and time value.  Knowing the current and expected volatility in the price of an option is critical for any investor who wants to take advantage of the movement of a stock.  

And this is all available without spending countless hours studying options.  Just click here to start following along as it’s been more than 6 months without a losing trade!

Author: Dave Lukas

Hello trader,

Historical volatility, Implied volatility, greeks…

There is too much to keep track of when it comes down to getting started.  

But the more advanced you get and the more money you decide to pour into your options account, the better you’ll be enhancing your knowledge beyond the basics.  

One of the most critical concepts to learn in all of options trading is Implied Volatility. 

But it’s more than just a concept. It’s an essential ingredient in the options pricing model. 

If you catch yourself on the wrong side of volatility and it can be a disaster. However, when you’re on the right side of the volatility trade, profits can be big and come in fast. 

Today’s lesson is about getting you familiar with implied volatility, and how it affects everything we do with options.


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Implied Volatility – Overview


Implied Volatility represents the expected volatility over the life of the option contract for the specific stock.

As excitement rises and falls, implied volatility will increase and decrease the value of the options contracts.  

Options that have a high level of implied volatility will result in high priced or overpriced options premiums.

Alternatively, options that have a low level of implied volatility will result in a lower price and possibly underpriced options premiums.

If you owned a stock when implied volatility increases, the value of these options will also increase. And the same happens if implied volatility decreases, the value of these options will also decrease.

When looking at the options chain, each listed option has its own unique sensitivity to implied volatility.  This is called Vega.

For example, a shorter-dated option contract will have less impact on implied volatility than a longer-dated option contract.

Each strike price will also respond differently to implied volatility changes.  Options with strike prices ATM are the most sensitive to changes in implied volatility,  while options that are further ITM or OTM will have less sensitivity to implied volatility.  


How to use Implied Volatility


One effective way to analyze implied volatility is to examine a chart of stocks with implied volatility.  

For example, if you look at the chart of  52-week chart of IV on AAPL, you can immediately notice two things. 



What stands out:

  1. Spikes in IV align with larger bar movement of the underlying stock.
  2. IV Ranking is range bound and lets you quickly identify overbought/oversold zones.

Because each stock has a unique implied volatility range, these values are not to be compared on another stock’s volatility.  


Using Implied Volatility to determine a strategy


You’ve probably heard the term, buy low sell high… and there is no difference for IV… 

Buy undervalued options and sell overvalued options.

Now I know it might be sounding too complex but it is much easier than you would think.



In this chart, you can see Theta, or the value added by increased volatility on AAPL.  


Four Things To Consider


  1. Make sure you can determine whether IV is high or low prior to getting into a trend reversal trade.  Remember, as IV increases, options prices are becoming higher.  


  1. If you come across periods of high volatility, it is most likely caused by some external force.  It’s best to check for reasons that may be causing IV to be elevated, such as mergers, earnings or other announcements.


  1. When you see options trading with high implied volatility levels, it’s best to target option selling strategies.  As options premiums are elevated, it’s best to avoid purchasing options and it might be more desirable to sell. Some strategies are covered calls, naked puts, short straddles, and other various credit spreads.


  1. When you see options trading with lower Implied Volatility levels, it’s best to target option buying strategies.  As options premiums are suppressed, it’s best to purchase options instead of selling options. Some strategies are buying calls, buying puts, buying long straddles, and other various debit spreads.  


One way to trade implied volatility is through a strategy called Mean Reversion.  Let’s take a look at that closer.



What is mean reversion 


Implied volatility has a mean-reverting tendency – meaning there are periods when it moves away from its historical average and then reverts back to the average.  

A reversion to the mean involves retracing any price back to a previous average.  In options, it is thought that as price strays far enough away from its longer-term norm it will revert back to an average value.



In this example above, you can easily see the 6 points where implied volatility spiked and relative to historical values suggested that it should revert back to its long-term average.

Another way to determine low vs high IV levels is to use a built-in statistics tool found in Think Or Swim (Make sure to check with your respective brokerage for their IV statistics).



As a general rule, some traders will sell credit spreads when IV is between 67% and 100% percentile of its 52-week range.  

Key points:

  • Mean reversion suggests asset prices and historical returns revert to long term average levels
  • Mean reversion has led to many investment strategies in options trading
  • Mean reversion tries to capitalize on extreme changes in the price of a security, assuming it will revert to a previous price.


Wrapping Up


There are many reasons an options implied volatility may deviate from its averages.  Some examples include upcoming earnings announcements, fed announcements or an upcoming merger and acquisition.

The key is to recognize when implied volatility is high compared to its historical highs.  When it appears to be extended compared to past values, options traders should structure a trade accordingly.  

The process of selecting option strategies, an expiration month and strike price, things can start to get complicated very fast.  

But one factor you never want to overlook is Implied Volatility on that stock.  

It is wise to always gauge the impact of what IV has on selecting your strategies.  

There are a few things to remember about implied volatility:  

  • Bearish markets increase volatility
  • Bullish markets decrease volatility
  • Implied Volatility is a proxy for emotions of the underlying market and can be erratic 
  • It’s possible to align the underlying stock direction to the IV level to combine stock movement with shorting IV
  • Implied volatility trading comes with built-in entry and exit prices for your trade.
Author: Dave Lukas

Most businesses fail because they don’t have a plan. The same can be said about the majority of traders who don’t make it. 

It all starts by having a cornerstone strategy to build your business around. 

My trading business is based on exploiting inefficiencies in the market… taking advantage of investors emotions (fear and greed)… and utilizing a trading strategy that has a proven mathematical edge.  

I think that it is possibly one of the best ways to generate consistent income.  

My secret to steady income is applying an options strategy called spread trading!

And today, I’m going to teach you the nuts and bolts of this game-changing options strategy.


Selling Options For Income


What is credit trading?  

Credit trading is a strategy where you sell options in order to collect a premium and generate income for your business.

Maybe you’ve dabbled in the world of options but never found a strategy that works for you…Or perhaps, this concept is entirely new to you.

No matter who you are, you can benefit from one of the most successful income options trading strategies… just as the pro’s do!

Luckily, selling options for income is far easier than you might think it is.

It’s one of the few strategies where you can get the direction wrong and still win!

Warren Buffet, who is possibly one of the most successful investors of all time, uses this strategy to generate additional income for his business!


Why Does Warren Buffet Use Option Income Strategies


A put selling strategy is one of the most effective options income strategies a trader can leverage for their investment business.  

Don’t believe me?  

Just look at this headline about Warren Buffett who is commenting on selling puts throughout the market collapse!



That’s right…the most famous investor in the world, Warren Buffet, uses a put-selling strategy.  

Buffett made huge sums in the wake of the 2008-2009 financial crisis using options to generate massive income for his portfolio.

To understand how he made this investment and generate those returns, it’s best to first learn how options work.  

Let’s take a look at what an option is…


What Is An Option?


What does the word option mean?  It means to have a choice or an option about what to do with the underlying security.  An option is also a form of security to invest in, or trade, just like a stock.  

Option Definition: An option gives you the opportunity to buy or sell a stock at a certain price at or before a specific date.  

Basically, you are buying the option to buy or sell the underlying stock at a specified price.

Options come in two main forms:  A Call option and a Put option.  

Depending on which option you chose, you’ll have the right to either buy or sell the underlying stock at the set price (the strike price).  The Strike price is a determined price that you can buy or sell the underlying stock for. Regardless of the current market value. 

Now, let’s take a look at how calls and puts work a little closer.


Call Options


Here is a look at the monthly options for Feb 21 2020 for AAPL, which is currently trading at $319.61.

If a trader is bearish on AAPL, they would look to sell call options.








Source: Think-or-Swim


On the left side is a list of the Calls available to trade, with puts available on the right.  

If a trader was to sell a call option, remember, they are expecting the price to decrease. 

As the stock dropped and stayed below the strike price (the middle number) by expiration, the trader would keep the premium sold.  

For example, if a trader was bearish and wanted to collect money as the stock decreased in price, they would be selling the 320.00 calls at $5.00.  

The trader would collect the $5.00 when they sold it, and if the stock closed lower than $320.00, they would keep the entire amount of that option that was sold.  

Here is what the short call risk diagram looks like:


Source: Think-or-Swim


Put Options


Now looking at the same table, let’s see how that same concept works for selling put options.

If a trader is bullish on the stock, they would look to sell put options instead of calls.  

As the stock increased and stayed above the strike price the trader sold (the middle number) by expiration, the trader would keep the full amount of premium sold.

For example, if a trader was bullish and wanted to collect money as the stock increased in price, they would be selling the 317.50 puts at $4.20.  

The trader would collect $4.20 when they sold it, and if the stock closed higher than $317.50, they would keep the entire amount of that option that was sold.

Here is what the short put risk diagram looks like:


Source:  Think-or-Swim


Using Option Income Strategies


Instead of buying a stock or call option if a trader thinks it’s undervalued, option writing traders look to sell the stock (or option) when they are naturally over-valued in order to take the counter move.  

For instance, when a stock sells off, two things occur that will impact the price of the option.  

First, as price decreases, puts will begin to inflate in price as long-term investors are buying puts in their Protective Puts strategy.  

As the put prices are increasing and selling in the underlying stock increases, this drives up a pricing metric called Implied Volatility.

This IV begins to drive up the cost of the puts even further, in turn making them more expensive, and accelerating this vicious circle of buying and selling.  

When a stock is in the middle of a sell-off, the options puts have an elevated IV and premium, and that is exactly what an investor like Warren Buffet is looking for.  Implied volatility measures the amount of fear and greed priced into an option. When implied volatility is high, option prices become overvalued. And this attracts investors like Buffett.

For utilizing an options selling strategy, the trader needs to identify a reason to go short, instead of just selling anything they find.  

As a technical trader, this is where I turn to a proprietary set of metrics to filter out and narrow down the number of stocks to look at.  

Next… let’s take a look at a sample trade that I recently took utilizing the short put trading strategy.


How To Trade Using This Simple Options Strategy


Trading options for income is a relatively simple strategy, but can seem complicated at first glance.  

Let’s take a look at how this works a little closer.


Source: www.tradingview.com


Based on a proprietary technical screener, I was able to identify a great stock that should have found a bottom and is ready to rally higher.

To go long I have three choices:

  1. Buy the stock and tie up investment capital
  2. Buy calls and have a 33% or less chance of winning the trade
  3. Sell puts and have a 60% or more chance of winning the trade with 100% ROI

My choice is with #3 since selling puts allows me to stack the odds in my favor and return 100% on the trade.  If Warren Buffet was taking this trade, he would pick #3 as well!

So what’s my risk on this trade?

Since $5 is an all time low on GSKY and seems that it has a strong technical support level, I would feel comfortable owning stock at $5 if I was assigned.

So, if price falls to $5 by expiration, I have established it is ok that I purchase shares at this price.  And if the stock price is to head higher in the future, I will be able to keep the premium on the trade.

This means that GSKY could remain unchanged, rally, or even drop $1.79 per share or 36% and this trade will still make money!

The key to this strategy is that a put seller wants to own the shares when they’re less expensive… and sellers are also willing to receive income if the price does not drop to their entry level.

The best part of this strategy?  It’s a win-win for the trader.  

It’s a win if the trader buys the stock at a reasonable price (a 36% discount) or keeps the premium from his buyer for selling the option.

Either way, the put seller gets something he wants.


I’m not saying this is entirely risk-free.  

Let’s go over what risks are still out there for the trader to deal with.


Risks:  What Are They


Despite how picture-perfect this strategy sounds, it does come with some risk.  

For example,  if GSKY tumbles well below $5 you are still on the hook to buy the stock at that price, even if it drops to $2.

And since each option contract is worth 100 shares, the losses can add up substantially if you are not careful…

Which is why it’s best to set exit rules and risk parameters to adjust your position when things get problematic.  

When you sell the put, your payoff is straightforward… if the stock goes higher, stays the same, or drops in price (up until the break even) you will make money.  

If the strike price is $5 and the price drops below $5 per share by expiration, you must purchase the stock at that strike price.  Regardless of the currently underlying price.

Breakeven is where you lose money on your position after premium is collected.  The breakeven price is calculated by taking the strike price and subtracting the price paid for the contract.  

Here is a breakout of the trade:

Max profit = $0.50 (the premium collected)

Breakevens = $5 – $0.50 = $4.50 (strike – premium collected)

Max loss = limited (to the stock going to $0)


Putting It All Together


Selling puts is one of the cornerstone credit spread strategies that I run my trading business on.  

To me it’s important that I can determine exactly what my income stream will be each and every month and collect income off of trading great stocks.

The benefit to this strategy?  

Well… There are many as I uncovered earlier. 

But the main benefit to selling puts is that it allows me to set the price I would like to buy the stock for.  It’s like going to a car dealership and picking my own price for the new sports car on the lot!

First, there are a few steps you should take before selling puts.

  • Find a stock you actually want to own.  I use a stock screening tool to find the best stocks to own.
  • Decide on an entry price that you feel comfortable buying those shares for.  This can be based off of technical patterns.
  • Evaluate the options to see if they are cheap or expensive
  • Set risk parameters and know when you roll out the options or exit the position all together.

Once you have completed those stops, you are ready to begin selling puts to generate consistent income for your options trading business.


Final thoughts


The one major benefit to selling options is that it allows a trader to win whether the market moves up, down, or sideways.

And it’s important to remember that there are some risks associated with options trading… this is not a “holy grail” strategy after all…

But, if you understand these risks and how to keep your account safe – selling options is possibly one of the most lucrative systems a trader can use. 

P.S.  According to a major options exchange research, selling options is one of the few strategies that can actually outperform a buy and hold strategy over time.

So what are you waiting for?  Click here and start selling puts with Options Profit Planner!

Author: Dave Lukas

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