Posted On: 2006-10-23
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We want to welcome everyone to another session of on-demand radio with The Market Guys. This is Rick Swope and with me today is AJ Monte, and we are actually calling in from our overseas trip right now. I am in London as we speak. AJ's going to be calling in from Spain. And we wanted to talk to you this week about something that's very timely, and that is, talking about options expiration week, which just happens to be coming up tomorrow, as we're recording this, and talking about some of the factors you want to consider when you're trading options as it relates to time decay. Now AJ you're on the line with us also, you want to give a little color around that concept and why this is something that's important, not just for the advanced option trader, but for any option trader to pay attention to.
Well you know Rick, this is a concept that's fairly easy to understand, but you have to have someone actually introduce it to you to for you to be able to digest the information. Now this is options made easy. We're going to be fair and those who have never even studied options, but the fact remains that whether you're a basic or novice option trader, just getting started or into maybe even an advanced, you'll find that people tend to make the same mistakes, and one of the biggest challenges I would say that most people have is understanding how time decay, or time erosion works with the options. Now Rick, you have some experience here, and I think your track record has been really picking up because of this concept. You know exactly which options to buy and which ones not to buy. Cheap options is what we would have to stay away from.
I was just going to mention that point. I think that is probably where most novice option traders are introduced to this concept is because the temptation is to go in and try to find the cheap option. And one of the reasons options are cheap, if we look at the breakdown in what an option premium contains, there's one of the considerations is time value. And if you're looking for a cheap option, well you're not going to have a whole lot of time value because of this decay, or time erosion. When we're coming right up against the wall for when an option is going to expire, that just doesn't exist, but that catches the attention of someone who's looking to buy a cheap option.
That's right. Now we don't have to understand what a call and a put is right now to get over this obstacle that people are challenged with. It's really an understanding that an option, whether it be a put or a call is nothing more than a contract where two people bind themselves to a pre-arranged trade at some time out in the future. And that's exactly how we get a leverage, because when you pre-arrange a trade you don't have to lay out the money or the cash for that trade until it comes time for the option to expire. And it's...