Thanks so much for checking out this 4-part course on options trading. I promise it won't be a waste of your time and I'm excited to share some of the stuff that I’ve prepared for you guys.
Here's what you can expect out of this 4-part series on options trading. Video #1 which is the video we’re now, we're going to talk about why options versus stock. Why are we trading options versus stocks? What are the benefits, the drawbacks?
What's the real underlying fundamental reason that we decide to go with options as opposed to just simply trading stocks? In Video #2, we’re going to talk about the top 7 options trading principles.
These are the seven options trading principles that I’ve put together that I think are the most important for beginners to get started, but are also great for those of you who have traded options for a long time, but just haven't found success.
In Video #3, we’re going to talk about managing risk and the fulltime business aspect of trading. We want to talk about making this a fulltime, long-term income generation system for you guys and how we can manage risk appropriately during that process so that it becomes a profitable venture for you.
And finally, in Video #4, we’re going to take a detailed look at the strategies that I use personally month after month to generate income at options trading.
Some words of caution before we begin: This is not a “get-rich-quick” system. I cannot stress that enough. So many people try and believe and think that I'm the end-all-result to get-rich-quick in options trading, but this is not a get rich quick system by any means.
This does require you to do some work which some of you might be surprised and possibly even turn off the video at this point. But as with anything that's worth going after in life, it does require some work on your part.
For a moment, I just want you guys also to forget everything you know about investing just for now. Take out all of the reading and knowledge and education that you might've heard and come at this with a clear mind and open mind to understanding a new way of possibly trading and making money.
Let's lay the foundation for why options are much more profitable and safer for your portfolio, but first, let's cover some of the reasons why people like to trade stocks when they first start out.
It seems reasonable. Let's understand why people go after stocks before they even come into the options trading world because it's likely that you started trading stocks before you even considered options.
First, for stocks, it’s is a single dimensional profit, it's very easy to understand. You get the direction right, you either buy or sell the stock and then you profit. There’s nothing else to it.
You make money by buying low and selling high or selling high and buying low. #2, it’s easy to purchase. Like I said before, buying a stock is very simple, people understand this. It’s a concept that's been reinforced for years and years.
Going out there and buying a stock versus a very detail option is a lot easier for people to understand. Naturally, they go towards that arena first. #3 is that you have a lot of luxury and time.
You can hold positions for many, many years, decades even. And what this does is this allows you the affordability to wait out a losing trade for years and years until it becomes a winner, but this also ties up your capital for a very long time.
#4 and probably the most important point here is that it's considered “safe, ” and hopefully, I’m going to debunk this myth today. But it's accepted as an investing form. People all over the world for years and decades have invested in stocks, and generally, the news media and the investment community consider stock is investing to be rather safe.
Of course, these are all valid reasons why nearly all investors know, understand and trade stocks versus options, but does this mean it’s the best possible avenue for your money? Consider the following facts: The market is 100% random.
No matter what anybody says, the stock market has always been and will always be a random occurrence environment meaning that a normal distribution is typically how each day and each month will lay out as far as profits and losses.
In this chart here, you see this is a normal distribution diagram which I'll be using frequently throughout these videos, and if you're a member, you'll see this a lot in the educational presentations that we have.
But every stock and every market trade in a normal 100% random fashion. What this means is that the majority of the action will occur within one standard deviation of the current position or price of the underlying market.
68% of the move roughly in stock will happen within this timeframe, and then you’ll have some of these longer, thinner tails wherein these are your anomalies in the market, the market is up 10% or down 10%, whatever.
But generally speaking, the market is 100% random, and this has been proven time and time again. Statistically, stocks will follow this normal distribution pattern and therefore, have an equal chance of going up or down.
And this is the most important part to remember here. If this wasn't true and if you thought that stocks were not normally distributed, then we would all be making money trading stocks. It would be an easy bet for us to go one way or the other. But we’re not.
And that’s because it's a 50/50 bet each time. Each time you make a stock trade, whether you're buying or selling a stock, there's a 50% chance it’ll be higher and a 50% chance it’ll be lower, nothing else, that’s it.
You’ll say to yourself, “Kirk, what about these professional money managers? Surely, they know better. They get paid thousands of dollars. They know more than we know as just average retail investors.”
A study was done which took the top 14 investment firm’s expectation of where stocks would be each year on January 1st, going back to 2006. The expected returns from those top 14 investment firms were then averaged and compared to the actual market performance during the same period from 2006 onward.
What this study did is it said, “If these people are so much smarter and so much better than the average retail trader, surely they have better expectations and on average, will be around where the market performs or even underperform the market as far as the expectation.”
Here’s the interesting facts of the study: The average return the analyst predicted over that period was 10.32%. The actual average move for the market (specifically being the S&P 500) was 4.76% during that period.
This means that the top money managers in the world who get paid to know what the market will or will not do were off by over 100%. They over-predicted what the market would do by 100%.
If someone told you they would pay you $100 and you get $50 in return, how long would you continue to do business with that person? Probably not very long. And unfortunately, this happens all the time in our industry, and it's never discussed or questioned (more importantly) at length.
Moreover, if we even look back further, their estimates were always above the average market increase during the last 50 years of 6.26%. This begs the question. If you knew that the last 50 years averaged 6.26% return, why not assume that that is the average next year?
Why did these analysts continue to overestimate by nearly 100% more return each and every year? You pay them thousands of dollars to be 100% wrong each and every year, and this honestly blows my mind. Hopefully, this sheds a little bit of light on what happens in the stock trading world.
What’s the point of all this, Kirk? The point is neither you nor I, have any clue which direction the market is headed. That’s the fact. I have no idea where the market is headed and neither do you.
We have to make trades based on their probability of success. This is where options trading comes into play now more than ever. Let's now look at some of the advantages of trading options. #1 is multiple ways to profit.
With options trading, the direction is not the only solution. With stocks, when you buy a stock, the only way you make money is if the stock goes up. In options trading, we also consider things like volatility, time decay and premium received and you can make money if the stock is going up down, or sideways.
There's multiple ways to profit with options trading. #2 is leverage. You control a lot of shares with a little upfront capital investment. This always means that it's going to be a little bit riskier if you use this in the inappropriate manner.
You over-leverage your portfolio and take on too much risk, this can be a huge detriment, and this is why a lot of options traders who start out who don’t know the right way to trade blow up their accounts.
Even though I listed this as a major benefit, please understand that this is also something that you can get wrong. #3 is that we know our probabilities. We know ahead of time the chance of making a winning trade at each strike.
This is paramount to why options trading is way more profitable and way less risky than stock trading because ahead of time before we even enter the trade, we know exactly what we can make on the trade and the probability of making that return.
And #4 is volatility and time decay. These are what I call “third dimension factors.” Determine which strategies we use. It’s never as simple as buy or sell, but it's a combination of option strategies like iron condors, strangles, straddles, credit spreads that we’ll use and determine which one we use based on volatility and time decay.
Like I said, with options, you can make a trade and know on order entry that you have a 70% chance of making money and a 30% chance of losing money.
Compare this to any stock trading, I don't care what stock traded is, what security it is, and it is a 50% chance of making money and a 50% chance of losing money, throwing commission costs and how could you ever profit long-term.
I’ll end this video with this. Options are by no means an end-all solution for investors. You can and will lose money trading options, bad trades happen all the time and do cost money.
However, this is a numbers game and options are the only tools right now that allow you to make smart high probability trades that match appropriate levels of risk and reward. Period. It’s my goal here at Option Alpha to show you how to do this, and that's what I want to do through these videos.
I want everyone watching this video to be educated on exactly how options can help you make more money with less risk over time. In the next video which you’ll get via email in a couple of days, we are going to go over the top 7 options trading principles in detail.
It will be less of this whiteboard text (I promise) that I did here and much more hands-on, so I hope you get excited and are ready to get started. Until then, please add your feedback, questions, comments below.
I want to know if this changes how you think about stocks and options going forward. What questions do you have? What things have you heard that you'd like to get answered right away?
And oh yeah, if you found this helpful, please share it online, spread the word, let others hear about what we’re doing here at Option Alpha. And until then, I’ll wait to see you in the next video.