How To Calculate The Right Price For Your Stock Options
Option trading can be quite confusing and complex. At "Option Trading Advice" our mission is to help you understand the right way to trade stock options.
First and foremost, please understand that options are a wasting asset. As time progresses, if the underlying stock goes no where, the value of your option goes down. This is due to the fact that stock options are made up of two values, time value and intrinsic value. So the goal with option trading is to minimize the time value and maximize the intrinsic value.
In this article I will help you calculate stock option prices that so you will get the best price when option trading.
To start with, you should buy "in-the-money" options (an option that has an exercise price lower than the current market price).
Limit time value to 1% of stock price per month. For example, ABC stock sells for $100. The option you are buying or selling has 3 months to expiration. Limit time value to $3.00. 1% of $100 stock price = $1 x 3 months = $3.00.
Let's use BAC (Bank of America). It's currently trading for $7.49. 1% of $7.49 is 7.5 cents. That's the most you should pay for time value per month on BAC. Right now you can buy a $7 Call option that expires in two weeks for .51 cents. That's a good deal as the intrinsic value of this option is worth .49 cents, so the time value is only 2 cents. That is less than 7.5 cents.
Let's go out one more month to July. I can buy a $6 call option for $1.60 or a $7 call option for .79 cents. Which is the better deal?
Since the option expires in 1.5 months, we want to pay no more than about .11 cents for time value. The $6 option has $1.49 intrinsic and .11 time value versus the $7 option with .49 intrinsic and .30 time value. The obvious winner is the $6 option.
I hope you have found the option trading help in this article of use and you follow the advice every time you buy an option.
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