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Welcome to the Options Section of Options Realm |
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Hedging: The way to eliminate risk If you are like me then the prospects of looking into more risky securities in order to find big potential gains is something that most likely interests you. I like to trade stocks that are often very volatile and have large price movements. One strategy that has been very helpful when dealing with volatile stocks is the use of options for hedging. The use of options in order to hedge positions in equities is a very simple practice that can be used in order to limit the downside of a trade. The use of options in order to hedge a stock position is not something that will be used during every trade but in the right situation can be extremely beneficial. In my current trade with ARLP I do not have this trade hedged with options because I believe that ARLP is a relatively stable stock and is not likely to go bankrupt any time soon. One case where options I would have use options is if I was going to buy a more speculative stock such as GLW. As a speculative play I see GLW having a lot of upside but I also see based off of the 5 year chart that the stock could drop much lower. In order to limit my downside if I was to enter this trade I would buy 100 shares of GLW and buy 1 May 07 put for GLW at 20.00. The price of buying insurance in this case is $60.00 plus cost of commissions. This means that the total loses I can acquire from this trade is $221 plus the cost of commissions. I feel that when trading in riskier stocks that you are expecting to make big moves it pays to hedge using this simple method. Discloser-Author owns ARLP stock. Does not own GLW stock or options. |
