Options trading can give investors another way to participate in the stock market without simply buying or selling shares, but getting started requires a basic understanding of how options work, how contracts are priced, and how much you could potentially lose. If you are new to options, learning the fundamentals before placing your first trade can help you make more informed decisions and avoid some of the common mistakes beginners make.
Before you place an options trade, there are a few things you need to have in place. Unlike buying shares of a stock, options trading usually requires a brokerage account that has been approved for options trading.
You will generally need:
A brokerage account with options trading access
An understanding of calls, puts, strike prices, premiums, and expiration dates
Enough money to cover the cost and potential losses of your trade
A basic understanding of the options chain
A trading plan that defines your risk before entering a position
The exact requirements can vary between brokers because each brokerage determines which customers are eligible for different levels of options trading.
An option is a contract that gives the buyer the right, but not the obligation, to buy or sell an underlying asset at a specific price before or on a specific expiration date.
The two basic types of options are calls and puts.
A call option gives the buyer the right to buy the underlying asset at the strike price, while a put option gives the buyer the right to sell it at the strike price.
Several terms are important to understand before trading:
Strike price: The price at which the option can be exercised.
Strike price: The price at which the option can be exercised.
Expiration date: The date when the option contract expires.
Underlying asset: The stock or ETF associated with the option.
In the money (ITM): An option that has intrinsic value based on the current price of the underlying.
Out of the money (OTM): An option that currently has no intrinsic value.
Most standard stock option contracts represent 100 shares, so an option quoted at $2.00 generally costs $200 per contract, before fees and other considerations.
Once you understand the basic terminology, the next step is choosing a brokerage account that offers options trading.
Not every brokerage account automatically provides access to options. Brokers typically ask customers to complete an options application that considers factors such as trading experience, financial information, investment objectives, and risk tolerance.
Your broker may also assign an options trading level, which determines which strategies you are permitted to use.
Before opening or using an account, it can be useful to understand:
Trading commissions and fees
Options approval requirements
Exercise and assignment procedures
Margin requirements
Available trading tools and educational resources
The goal is not simply to find a broker that allows options trading, but to understand the rules and costs associated with the account you will actually use.
An options chain displays the available contracts for an underlying stock or ETF, organized by expiration date and strike price.
At first, an options chain can look complicated because it contains many prices and data points, but the basic structure is relatively straightforward. Calls and puts are usually displayed separately, with different strike prices and expiration dates available for each.
Some of the information you may see includes: Bid price, Ask price, Last price, Volume, Open interest, Strike price, Expiration date
The bid is generally the price buyers are currently willing to pay, while the ask is generally the price sellers are currently requesting. The difference between the two is called the bid-ask spread, which can be an important consideration when entering or exiting a trade.
Options with greater trading activity often have tighter spreads, although liquidity can vary significantly between contracts.
Before selecting an option, you first need to decide which stock or ETF you want to trade.
The underlying asset matters because the option’s value is directly connected to changes in that asset’s price. Instead of choosing an option simply because its premium looks inexpensive, consider whether the underlying asset has enough liquidity and whether you understand the factors that may affect its price.
For example, a trader who expects a stock to move higher may consider a call option, while a trader who expects it to move lower may consider a put option.
The important point is that the option is not separate from the underlying asset. Its value is influenced by the price and behavior of that underlying asset.
Every option has an expiration date, which means you must decide how much time you want the trade to have.
An option that expires in a few days behaves differently from one that expires several months from now. Generally, the more time an option has until expiration, the more time there is for the underlying asset to make a favorable move, although longer-dated options also tend to cost more.
Some traders use very short-term options, including 0DTE, 1DTE, or 7DTE options, while others use contracts with several weeks or months until expiration.
There is no single expiration period that is appropriate for every trade. The expiration should be consistent with the reason you are entering the position and the amount of time you expect your trade idea to need.
The strike price is another important decision because it determines the price at which the option gives the holder the right to buy or sell the underlying asset.
Suppose a stock is trading at $100 and you are considering call options. You might see strikes at $95, $100, $105, $110, and other prices.
A $105 call, for example, gives the buyer the right to purchase the stock at $105 before or at expiration, depending on the contract terms.
Strike prices closer to the current stock price generally have different premiums and risk characteristics than strikes that are further away. Choosing a strike should therefore be based on your overall trade plan rather than simply selecting the cheapest contract available.
Once you know the underlying asset, expiration, and strike price, you need to determine how you want to use the option.
Some common strategies include:
Long call: Buying a call when you expect the underlying asset to rise.
Long put: Buying a put when you expect the underlying asset to fall.
Covered call: Holding shares while selling a call against those shares.
Cash-secured put: Selling a put while setting aside enough cash to potentially purchase the shares.
Vertical spread: Combining two options with different strike prices and the same expiration.
Iron condor: Combining multiple options to create a defined-risk position designed for a specific range of price movement.
There are many different options strategies, and each one is designed for a different market outlook and risk profile. The following video from Dorian Trader walks through several options strategies and explains how they can be used in different market conditions.
Each strategy has its own potential profit, loss, and risk characteristics, so understanding how a strategy works is more important than choosing one simply because it appears popular or inexpensive.
One of the most important habits for new options traders is knowing the potential loss before entering a trade.
For example, if you buy one option contract for a premium of $2.00, the cost is generally: $2.00 × 100 shares = $200. If the option expires worthless, the buyer could lose the entire $200 premium, plus applicable fees.
Other options strategies can have very different risk profiles, and some forms of selling options can expose traders to substantially greater losses. This is why it is important to understand the maximum potential loss of a strategy before placing an order.
A simple trade plan should answer questions such as:
How much am I willing to risk?
What needs to happen for the trade to work?
When will I take a profit?
When will I exit if the trade moves against me?
What happens if the option approaches expiration?
Options prices are affected by more than just the price of the underlying stock. The Greeks are measurements that help traders understand how different factors can influence an option’s price.
The four commonly discussed Greeks are:
Delta: Measures an option’s sensitivity to changes in the underlying asset’s price.
Gamma: Measures how quickly delta can change.
Theta: Measures the effect of time decay on an option’s value.
Vega: Measures sensitivity to changes in implied volatility.
You do not need to master every Greek before learning how options work, but understanding the basic concepts can help explain why an option may lose value even when the underlying stock moves in the expected direction.
After choosing your underlying asset, expiration, strike, and strategy, you can enter the trade through your brokerage platform.
Before submitting the order, review the contract details carefully, including the number of contracts, expiration date, strike price, premium, and order type.
It is also important to have a plan for what you will do after entering the trade. Depending on the position, you may be able to close it before expiration, exercise the option, or allow it to expire.
Having an exit plan before entering the trade can help prevent decisions from being made solely because of short-term price movements.
Options can be more complicated than buying and holding shares, and beginners often focus heavily on the potential return without fully considering the risks.
Some common mistakes include:
Choosing an option simply because its premium is cheap
Ignoring the expiration date
Trading contracts with wide bid-ask spreads
Risking too much money on one position
Entering a strategy without understanding its maximum loss
Holding an option until expiration without understanding what can happen
Focusing only on whether the stock direction is correct while ignoring time and volatility
Understanding these factors before entering a trade can be just as important as predicting the direction of the underlying asset.
There is no single dollar amount required for every options trader. The amount you need depends on your brokerage, account requirements, strategy, option price, and position size.
For example, if an option costs $1.50 per share and one contract represents 100 shares, purchasing one contract would require approximately $150 in premium.
However, the amount required for other strategies can be significantly different, particularly when margin or multiple contracts are involved.
Instead of starting with a specific dollar target, beginners may want to focus first on understanding the risk of each position and trading an amount they can afford to lose.
Options can be more complex than trading stocks, so beginners should first understand how contracts, premiums, expiration dates, and risk work before placing trades.
There is no universal minimum. The amount depends on the broker, strategy, option premium, and position size.
Yes. Depending on the strategy, you may lose some or all of the money invested, and certain options strategies can involve substantially greater risks.
Long calls and long puts are often among the simplest options positions to understand because the buyer pays a premium upfront in exchange for the rights provided by the contract. However, understanding the risks and expiration behavior is still important.
No. Options can expire in the money or out of the money. Depending on the position and brokerage rules, an option may also be closed before expiration or exercised.
Learning how to trade stock options starts with understanding the basics and knowing the risks involved. Once you understand calls, puts, strike prices, premiums, expiration dates, and the mechanics of an options trade, you can begin exploring different strategies and developing a trading process that fits your goals and risk tolerance
If you want to continue learning options trading with practical education, market insights, and a community of traders, consider joining the Dorian Trader Trading Club. It provides additional resources and ongoing support to help you build your understanding of options and become a more informed trader.
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