selling options versus buying options David Jaffee with Beststockstrategy.com and in
this video we are going to discuss whether selling options is better than buying options
we've all heard a lot of bad stories about selling options where people trade too large and then
you have optionsellers.com where they blew up their account by selling calls on natural gas
and a lot of people say that selling naked call and put options is very risky and it
definitely is because you do have unlimited risk especially when you sell call options
and you can lose a lot of money especially with leveraged products however when you sell options
there's a very high probability of profit when you buy options it's actually different where
the probability of profit is very low but it's also a defined risk trade inherently
because you know your maximum loss as you enter the trade it's only the amount of premium that
you paid for that position and additionally when you buy options you can make a lot of
money you can buy cheap options for a quarter and then a stock can go up 10 in one day and
that same option position that you bought for a quarter is now trading at about 10 the issue
with buying options is that the probability of profit is extremely low buying options to me
is very similar to buying lottery tickets where yeah there are a few winners but by and large
the more times you play the higher probability is that you're going to end up losing money and the
primary reason for that is that risk is overpriced and the expected volatility is almost always
less than the actual volatility so if you're overpaying for expected volatility then what's
the best way of consistently making money and in my opinion that is selling options the problem
with many traders when they sell options is that your enemy is not necessarily where the stock is
trading relative to the strike price that you sold instead your enemy is going to be the expansion
in volatility during this small percentage of times that the actual volatility is more than
the expected volatility and a lot of people don't realize this and one of the primary reasons why
your enemy is the volatility expansion is that when volatility expands almost all of
your existing option positions are going to be showing you a loss and you're going to have to be
in a defense and you're going to have to defend those trades when you defend trades it's going
to end up using a lot of your buying power and you're not going to be able to deploy that capital
to open up new positions which can be very profitable during volatility expansion events
additionally if you trade too large and you run out of buying power then your broker can force you
to close out that position at the most inopportune time and force you to sustain massive losses
that's why options trading and specifically selling options can be very risky because
the enemy is not necessarily your strike price relative to where the underlying stock is trading
but rather the enemy is the volatility expansion associated with when volatility is greater
than the estimated or expected volatility so how can you mitigate the risk when actual volatility
is greater than expected volatility the best way of doing that is when the vix is trading under 20
sell vertical credit spreads by buying the long call or the long put that option will
inherently protect you because it is going to gain value as volatility expands what i like to do
is when the vix is trading under 20 i'll sell vertical credit spreads and the vix is trading
over 20 then i'll sell naked options this protects me against the large volatility expansion event
because like i said previously your biggest enemy is going to be volatility expansion
because then all of your existing positions are going to be showing you a loss and in the worst
case scenario if you trade it too large then you're going to use up all your available buying
power and you're going to be forced to close out the position in general with very few exceptions
the only times that you're going to lose money by selling options is if you run out of buying
power or you run out of time even during march of 2020 when amazon fell even if you were short a put
as long as you had enough available buying power you easily could have rolled that position forward
and then in just two weeks and beginning of April that position would have started to show you a
profit as volatility continued to contract and as the underlying stock price increased in value
as a result when you look at buying options versus selling options selling options requires
significantly more discipline it requires more finesse it requires more patience where buying
options is almost like buying lottery tickets and yes there are a lot of people who do make money by
buying options but i think that for a long term strategy selling options is significantly better