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    Well Reasoned Strategies For Stock Market Investing

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The Philosophy Behind The Woodyard Option Report

The evaluation model used by the OptionSelector results in a list of options that should expire worthless to the buyer (see long term performance page). Bear in mind that as a subscriber to The Woodyard Option Report you will only be selling PUT OPTIONS.

Most of the time when you talk to someone about options you will here that options are risky. Yes, there are options that you can buy/sell that are riskier than others but our strategy for options is conservative and reduces your risk versus buying stocks directly. To illustrate, here is a hypothetical situation. XYZ Company has an option listed in The Woodyard Option Report for $25.00 and the next business day you see that the option can be sold for a fee of $0.75 and the stock is currently trading at $27.00. Your research indicates XYZ's fundamentals and technicals are favorable. You could decide to do one of two things- buy the stock or sell a put option.

Selling The Option
If you sell the put option, you would collect the $0.75 fee per share the next business day. Using the same assets you employed to conduct this transaction, you could conduct at least 6 transactions like this in a one-year period. This would net you $4.50 per share, in this example assuming a fee of $0.75 per share for each of the 6 transactions (not including transaction fees) over one year.

Buying The Stock Instead
But, if you chose to buy the stock at the current price of $27.00, that stock would have to increase in price by 16.66% over a year to equal the profit you would have made simply by selling the put options. Moreover, you would have to cover the entire cost to purchase the stock. That investment's growth is now tied solely to the growth of that stock. However, with an option, you are not obligated to purchase the stock unless the option is exercised. Therefore, the money that would be used to purchase the stock can remain in your investment portfolio and can continue to work for you.

What If The Stock Price Falls
Until the price falls below the strike price it is still worthless. But remember, before you sold the put you did research on the company and determined that the stock was a good buy at the currently trading price at the time. So if the stock goes down and the put you sold is exercised then you get the stock at a better price that you would have if you had bought earlier. This is like finding the item you wanted at the department store when it was ON SALE. Also, bear in mind that at any time, the option can be bought back. If the cost to buy it back is less than the price you sold it for, then you make money and you are finished with that option. If not, you can sell an option that is further out that could possibly sell at a higher fee than the option that was just bought back. Also, if you think the fundamentals and technicals are still favorable you can let the option be exercised and, if you are correct, and the price goes up you may make money. Remember, the only options you should sell are those whose underlying stock you have researched and would consider owning shares of that company at the price at the time of your research.

The Secret Power Of Options
But perhaps the greatest secret to making money with options is how you can realize a profit even when stock price drop or remains stagnant. Let's say you sold a put option in XYZ at the strike price of $25.00. Using the example above, you collect your $0.75 fee per share the next business day regardless of what happens to that stock's price. Since the stock is currently trading at $27.00, you already have a $2.00 per share cushion before that option would be exercised. And, since you have already collected a $0.75 fee on every share when you sold the option, the price would have to fall below $24.25 before you would lose money. However if you purchased the stock, any drop in price is a loss for you. (The above calculations do not include minimal transaction costs.)

What Do I Need To Trade Options
There are two ways to satisfy the requirement of being able to buy the stock should the option be exercised. They are:

  • Cash Backed- the cash needed is in your brokerage account.

  • Margin Backed- the brokerage account is a margin account and the cash plus the stock owned is enough so that any shortfall can be borrowed from the broker.

The cash-backed is the most conservative and, depending on your risk tolerance, this may be the method you use. For those who can tolerate higher risk, margin backed may be used. A benefit of the margin-backed method is that your cash is being utilized twice - once for adding stock to your portfolio and the stock is used for backing up a possible future loan.

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