Which Are Better For Trading - Options Or Equity?

By: Mark Soberman

Options vs. Equity In any group of traders, the question will often arise, "Which are better for trading, options or equity?" Better, in this context, usually means more profitable, so often the answer will be options because of their potential reward for the size of investment. This is a superficial response, and denies all the other reasons that you may prefer one to the other.

If you're comfortable trading with both stocks and options, and have a good options trading education, then you will discover for yourself that there are appropriate situations for both types of financial instruments, and may even use them together, as for example in a "covered call".

Consider first the amount of risk with each security. When you trade equities, you stand to lose all your money, but only if the value goes to zero. In the meantime, you would not be standing back and watching the price plummet but would hopefully have a stop loss plan and sell at a loss before your account was too depleted. In almost all cases you can see it coming and take appropriate action when you trade equities.

On the other hand, when you are trading the options market you need significantly less capital to control the options for the same number of shares, but that amount of capital will be lost totally if the option reaches the expiration date and is does not become "in the money". It is realistic to regard it as a sum that may be totally lost. Because it is much less cost than buying the original shares, it could be regarded in the same way as a stop loss order, with a defined amount that may be lost.

Now think about the potential rewards from each type of trading. The reward from trading equities is obviously the increase in value less any dealing costs, and this requires you to tie up a great deal of capital while you wait for the price to change.

When you trade options, your initial investment is far less. You have no reward at all until the underlying price increases to make the option in the money, and this is the extent of your risk, as noted above. Once your target price is achieved, as the share price increases you will gain as much by having an option as if you had invested in the equity, and at much less initial investment.

A good options trading course will explain how options can be used in conjunction with equity investment to increase the yields and to hedge against risk. The key to understanding options and their position in the traders’ toolbox is to realize that they involve much less investment than equities, but only profit in the same way as equities once they become in the money.