When buying a stock, you have a desire for the stock price to rise. When selling a put, you have this same intention. So which one is the better trade? In this article, I am going to explain the pros and cons of trading both and reveal why I personally choose to sell options as opposed to buying stocks.
Buying Stocks
To make money buying stocks, you buy a share at the CURRENT stock price, and hope for that price to rise.
Pros
- Unlimited profit potential: If the stock price continues to rise you will continue to make money
Cons
- Stock needs to rise in order for you to make profit
- You only have a 50% chance of making profit
- Very difficult to predict what will happen in the market
Selling Put Options (OTM)
If you are unfamiliar with selling put options, this section will be a short review.
What is a put option?
A put option is a contract which allows the buyer to sell 100 shares of stock at a certain strike price within a certain period of time.
What happens when we sell a put option?
If you sell a put option, you are giving someone else the right to sell you 100 shares of stock.
OTM- Out of the money
When we sell a put OTM, we are collecting a premium for selling at a strike price that is LESS than the current stock price.
While this may seem confusing, the main thing to grasp here is that when you sell a put OTM, you can profit when the stock price stays the same, when the stock price rises, or even when the stock price decreases by a little bit. When you sell a put, you collect money, and this is what gives you a little wiggle room in the case you are wrong in your directional assumption.
What happens when you are in the green zone?
If you let the stock price expire in the green zone, you will keep your $100 premium as a profit.
What happens when you are in the red zone?
If you let the stock price expire in the red zone you will have to buy 100 shares at your chosen strike price. From here, you could potentially just wait until the stock price rises to your strike price to breakeven.
Pros
- You have more than a 50% probability of making profit
- You can make money if the stock price goes up, down a little, or stays the same
Cons
- Your profit is limited to the premium you collected when entering the trade: In our example- $1.00 *100= $100 max profit
Why I Choose to Sell Options
The main reason I choose to sell options is because the odds are in your favor and you have more room to be wrong. Additionally, for me forecasting the direction I believe a stock will go is nearly impossible, and with options you do not always need to forecast a direction. While many traders are very successful with stocks, my inability to predict movement in stock prices, and a desire to have the odds in my favor is what ultimately led me to choosing to sell options over buying stocks.
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