Introduction
An option is a contract that gives you the right, but not the obligation, to buy (call) or sell (put) a stock at a set price before a set date. Beginners can use options the way hedge funds often do: to reduce risk, for example by buying puts to protect a stock holding, rather than only to speculate. The key inputs are the strike price, the expiration date, the premium you pay or receive, and volatility, which the VIX index tracks for the S&P 500. This article explains those basics, common volatility-based strategies, and spreadsheet templates for tracking trades. Options can lose value quickly; this is educational, not trading advice.
In this article, I explain some of the tools and strategies used by hedge fund managers to negate some risk by including some derivatives in their portfolios. By the way, who are these hedge fund managers? Though the definition has evolved, the basic idea is that they are just like mutual fund managers, only with more diverse portfolios. Unlike mutual funds who like to stick to equities and bonds, hedge funds want to have various asset classes ranging from commodities to derivatives and many more to have a more risk mitigated portfolio.
The VIX
The role of the VIX (volatility index) cannot be overlooked while trading options. VIX gives an idea about the implied volatility of the market over the next month. Volatility in sync with a good expiry date and premiums can work wonders. The best part is there are strategies both for high and low volatilities. The aim is to gain from the swings in a particular underlying and limiting the risk involved.
Historical VIX spikes include the 2008 global financial crisis and the period when the whole world was shut down because of covid. Therefore, it gives a clear picture of the market sentiment soon.
Strategies
Unlike stocks where strategies are limited, options traders are blessed with flexibility as they can play around with expiry date, premiums, and volatility to forge a strategy of their own. I have tried to table down some of the most commonly used option trading strategies used by hedge fund managers.
Volatility is a factor to consider when comparing options strategies. Hence, the role of VIX on options trading cannot be negated.
Templates
Just like trading stocks, options trading also requires constant monitoring and adjustments in the trades along the way. Professionals use templates and advanced tools to keep a track of their profit growth. But these tools are very expensive and most of them are not even available for retail traders. MarketXLS comes with excel templates for all types of options strategies. You can not only download option chains directly to MS excel but also chose strategies based on your requirements and risk appetite. You can also track profit and loss as prices update (options data is end-of-day on the Standard plan and real-time on the Advanced and Business plans).
Follow the input instructions in your selected workbook to calculate the net investment for a trade. This just a glimpse of what marketXLS is capable of as it encompasses all the major options templates in its template repository.
The bottom line
Options trading is learnable with a basic understanding of derivatives and the right tools, but options carry real risk of loss, so start small and understand each position's maximum loss. Volatility is a major component in options as you have already seen.
Disclaimer
None of the content published on marketxls.com constitutes a recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person.
The author is not offering any professional advice of any kind. The reader should consult a professional financial advisor to determine their suitability for any strategies discussed herein.
the article is written for helping users collect the required information from various sources deemed to be an authority in their content. The trademarks if any are the property of their owners and no representations are made
References
Learn more about options strategies OptionsTrading.org strategy library.
Learn more about VIX Investopedia VIX definition.
