Generally, I’m skeptical of investment strategies that try to out-guess market professionals or rely on a “greater fool” to pay more for an asset of questionable value. As for options, I’ve known many investors who use them very successfully to leverage their gains, protect against potential losses and increase income. I know many more who got in over their heads and lost their shirts, despite being convinced they weren’t taking much if any risk. Can you explain to me and my readers--also primarily conservative, income-oriented buy-and-holders--what an option is and how using them can help our approach to the market?
Options are wonderful and flexible tools that can be used by stock investors to reduce risk and enhance returns. For conservative investors, I don’t recommend purchasing options. Rather, I recommend selling options to complement--not replace--their buy-and-hold stock portfolio. All of the risks associated with buying options are eliminated--and reversed--for the option seller. Option sellers actually benefit if the option expires worthless. They get paid up front in cash and earn extra income. This extra income actually reduces the risk of stock ownership. Imagine that: Options can actually reduce risk.
Source: Investing Daily
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