How Options Work

First off, there are: Five Levels of Option Trading. When you have option trading privileges in your brokerage account, there are 5 option trading levels which measure how risky you can be with your option trading strategies.

• Level 1 – Selling Covered Calls
• Level 2 – Buying Calls and Puts
• Level 3 – Spread Trading
• Level 4 – Selling Naked Options
• Level 5 – Selling Naked Index Options

Options, Calls and Puts are traded over a regulated trading exchange such as the CBOE (Chicago Board Options Exchange).

A “Market Maker” is the term used to identify a professional floor trader or trading firm that facilitates and takes the other side of your trade, if there is no preexisting buyer or seller in the marketplace.

Options can be considered complex and confusing, but they are rather simple once you learn the basic fundamentals and the primary risks involved.

The main risks of trading options include:

1. Never sell naked index options (Level 5 and Extremely Risky)
2. Every option contract has an expiration date that will be the 3rd Friday of the month for equity options, and the 3rd Thursday of the month for index options
3. When trading options, you should understand how option assignment works in case you ever get assigned securities from the result of options trades
4. Always have a plan and predefine/accept your risk on every trade

The beautiful thing about options is that, unlike stock, it is NOT a “zero sum” game. What I mean by that is I can make a bullish option trade on a particular stock, while you could take the other side of the trade, and we both can still profit in the end. This is because options are multifaceted and versatile by offering many different ways to profit.