Stock Trading .vs. Options Trading - Pros and Cons

People ask me the following question all the time:

Which one is better - Stocks or Options Trading?

And to be honest, the answer isn’t as simple as it seems at first glance. Both Stocks and Options Trading have their advantages and disadvantages. In this post, I’ll try to break down and compare Stocks .vs. Options, and you can make the decision for yourself, as to which one you think better suits your Skill Level, Financial Situation, etc…

Stock Trading:

Risk Level: Low to Medium

Advantages:

1) Heavily traded Financial Instrument and highly Liquid. Fast order execution.

2) Good for Day Trading or Swing Trading or Long-Term Investment Goals.

3) On top of Capital Gains, you can earn additional income through Dividends.

4) You can buy Stocks on Margin.

5) More predictable and simple to trade, as the only thing you need to focus on is the Stock’s Price. No Time-Decay or any additional factors. You can hold a stock for as long as you choose, or unless the company goes bankrupt.

6) Tight (Narrow) Bid-Ask Spreads.

Disadvantages:

1) You need a lot of money $$$$ to trade Stocks. Ideally, $100,000+.

Assuming that you have a $100,000 account, and you are a Day Trader, you can expect to make somewhere around $3-4K a month, after all the commissions and interest expenses.

Options Trading:

Risk Level: High to Extremely High

Advantages:

1) You need a Fraction of money $$$$ to trade Options, as opposed to the $100,000+ for Stocks.

2) Good for retail investors, who don’t have a lot of money to invest. You can theoretically make $2,500 to $3,000 a month trading Options, with just a starting account value of $5,000. That’s some insane amount of ROI.

3) Good Instrument for Hedging Risk.

Disadvantages:

1) Leverage ALWAYS Kills. Since Options are more like Coupons that give you the right but not the obligation to Buy or Sell a certain stock, they trade for a Fraction of the price of the Stock, thus allowing the Buyer to control very large nominal positions; for example, you can control a $100,000 Stock Position with just $1,000 of Options. That’s a leverage of 100:1. Not Good. Because the greater the Leverage, the Higher the Risk. A move of 10-20 Cents on the underlying Stock, can result in a 40-50% loss on your Options position.

2) Since Options are Derivatives, they are a Complex Financial Instrument to trade. Unlike Stocks, calculating Options prices requires complex mathematical calculations; the good thing is, these days the Broker’s Trading Platforms, do these calculations for you.

3) Unlike Stocks, Options have an Expiration Date, thus exposing Options to Time Decay.

4) Wide Bid-Ask Spreads, unless you are trading Options on a heavily traded stock, like JPM or GS, in which case, the spreads are much tighter.

5) No Margin. You cannot trade Options on Margin.

6) Not suitable for people with High Blood Pressure, or Diabetes, or any Heart Conditions for that matter.

In Conclusion, I’ll just say this:

When it comes to Trading/Investing, the Higher the Risk, the Higher the Return.

As such, you can earn more $$$$ trading Options, than Stocks.

But Stocks are more Safer, than Options.

Ultimately, you gotta choose which one suits you individual situation/circumstances, i.e. Skill, Finances, Risk Tolerance, etc…

Trading is a Business, not a Hobby. Don’t Fuck With The Market !!!

Wall Street Fool

Wall Street Fool provides unbiased real-time market analysis and commentary for Stocks, Bonds, Futures, Forex, Fixed Income, and Derivatives markets.
Share

About Wall Street Fool

Wall Street Fool provides unbiased real-time market analysis and commentary for Stocks, Bonds, Futures, Forex, Fixed Income, and Derivatives markets.
This entry was posted in Observations, Stocks, Trading Tips and tagged , , , , , , , , , , , , , , , , , , , . Bookmark the permalink.