This is an updated version of a similar posting placed on this site about a year ago. I think the best place to start would be a good primer book. This one is as good as any, and better than most.
Options Plain and Simple by Lenny Jordan. Published Prentice Hall ISBN 0 27363878 5
Available from this site at :-
The London International Financial Futures Exchange (LIFFE) site is a mine of information, and gives 15 minute delayed prices on all UK equity and index options for free - which is quite adequate for most purposes.
Most option traders cut their teeth in the UK on the 76 (or so) optionable shares before moving onto the US, where there are over 2200 optionable shares! The equivalent to LIFFE is the Chicago Board Options Exchange (CBOE) which also gives 15 minute delayed prices. The main difference is the contract size (1000 shares in the UK, 100 shares in the US). Lots of useful
educational material here.
I rarely trade equity options, confining most of my activities to ftse 100 index options, European style, which are usually less volatile.
and also :-
It is useful to have a good payoff diagram calculator. The one I use can be downloaded for free from :-
You will need a reasonably up to date version of Excel to run it - I use Excel 2000. It does not run properly on pre-1997 versions.
There is an excellent series of online tutorials to use this calculator :-
The basic position calculator is free, and although I say "basic", it is in fact incredibly sophisticated - esp for a freebie. I had a look at the additional programming you get for the princely sum of about £11, and it takes it on another quantum leap - probably more than most people will ever need, unless their style of trading is very frenetic.
One observation is that when you are choosing the graph increment, it must be in a denomination that allows the strike prices you are charting to coincide with the increments on the chart. Turns on the chart can only take place on an increment, and not between them. e.g if you have strikes at 180, 200 and 220 - do not have increments of 15, as not all the strikes can fall
on an increment. Instead choose (say) 10 or 20 as the increment, and then check on the graph that the strikes selected are shown on the increment lines.
It is absolutely essential to understand (and to be able to draw) these from first principles on a piece of paper rather than rely on software. If the software shows that you have designed a strategy that looks too good to be true, then it probably is and you need to check the accuracy of your work!
Play with these pay-off diagrams until you can stand it no more. Very useful for getting to understand the practicalities of spreads, ratio spreads, strangles and synthetics which should be your main tools.
There are a number of brokers that will deal in options. The one I use is ODL Securities. They are very helpful, the dealing costs are reasonable, and they will either take orders on an execution only basis, or on an advisory basis for those new to options (highly advisable unless you have an experienced hand to hold). You can either place your long orders online or by telephone. Short positions can only be opened by telephone, although you can close them online.
You should consider the need to cover all positions to avoid the risk of unlimited loss. I would never have an uncovered position on a share option - a profit warning or a takeover bid can cause the price to spike down or up by 40 or 50% immediately (remember Marconi). The same is not necessarily the case for Index options. I will regularly have an uncovered call position on the FTSE 100 (about 300 points above) on the basis that
entire markets tend not to spike up hugely, and if there is a spike up, it tends to be containable and will pull back later. Or the position can be rolled out into the next month. I cannot think of anything that would cause the market to open up (say) 500 points. But I can think of plenty of causes for a potential instant fall of 500 points - earthquake in Silicon Valley, a US Presidential Assassination, or just a plain old fashioned financial crisis - remember that in 1987 the FTSE dropped 12% on 2 consecutive days, and nothing had happened! It was the Kobe earthquake
that finally destroyed Nick Leeson's uncovered Nikkei Index put positions. Incidently, his book, RogueTrader - is quite an interesting read when you understand the positions he had placed.
I hope you find this helpful. I find that options allow you to profit from any market scenario. It is less frenetic than day-trading, and for me at least, less stressful. The days of just buying a share in the hope that it will rise in value are over for the time being. Options enable you to profit from sideways and falling markets, as well as rising ones.
That should keep you busy for a while.