I'm hoping that traders who are new to options take their time to learn, and move into it gradually because there is both a lot to gain and a lot to lose.

As for trading options, the rules for a beginner should be simple:

#1

Only buy calls when you feel sick to your stomach after a major drop in the market or in individual stock prices of ones you like. Then, buy 6-9 month calls on good quality stocks, and watch them daily to see how the price of the option moves with the underlying stock.

Try to sell your call before it gets within 2 months to expiry. After you start feeling comfortable with trading calls, shorten up the time to expiry. Buy a call early in the day (say 10-10:30am) after the stock and the market is already way down, which is when you'll get the best price.

#2

Only buy puts when a stock hits 80 to 90 percent or higher on the hourly data RSI and then starts to drop, going below 70-75. Also, buy 6-9 months puts until you start to feel comfortable with the experience, after which shorten up to 3-6 month puts.

Buy puts close to the end of a very strong up day for the stock and the market.

#3

For writing puts, you must have the capital to buy the underlying stock if it is put to you during the duration of the contract.

I would write puts only when you think the price (of the stock you like) has bottomed out, but the fundamental prospects for the company still look good. Then, by holding a short put, that forces you to buy at lower prices than you otherwise would, but if the stock never gets put to you, then you get to keep the premium (or most of it if you decide to buy back the short put before the contract expires). That's a win-either-way scenario, which is why I recommend it so often.

#4

I would only write a covered call, and not a naked one. Covered means I'd be writing against stocks in my portfolio. And, I'd only write it after I decided a selling point had been reached but for some strange reason I wanted to keep the stock in my portfolio unless somebody made me an offer I just couldn't refuse. Otherwise, when you decide to sell your stock, just sell it. Money managers with very large portfolios will write covered calls against portions of their positions because they (i) like the extra premium income, and (ii) if the (underlying) stock gets called away, there is always a "to buy" list on their trading blotters where they will immediately redirect the proceeds.

I'd not write a naked call unless it was an intra-day trade (probably 2 hours or less). I have in the past watched some naked call writers " and also out-of-the-money call buyers -- take big positions on the very date of expiry " but that is just gambling. If I happened to be a casino patron, and I'm not, then I guess that could be a very intellectual form of gaming.

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I wrote this blog quickly, as a teaser. I hope you read the top banner section on Options. And Yahoo Finance has a terrific edu-section on options.

Good luck.

BCara@BillCara.com