Pros and Cons of Options Investing
Disadvantages:
Options are wasting assets. That's because when you buy an option, you are essentially buying time. So if the market remains unchanged, the value of the option will naturally decline as time goes by.
This follows from the first disadvantage: The expected market move has to happen — or at least get underway — before the option expires. Otherwise, the option could expire worthless and you could lose the entire amount you invested in that option.
Advantages:
Absolute risk limitation. When you buy options, you can never lose a penny more than you invest. You always know, ahead of time, exactly how much is at risk. However, since you may have to purchase several options over a period of time to maintain the protection you need, the costs can add up. Therefore, you must budget your purchases and not spend too much on any one individual option.
Listed on the exchanges. In the 1929-32 bear market, put options were simply not available. And in the early 1960s, puts and calls were only available "over the counter." There was no formal options exchange.
But today, options are widely available and are listed on official exchanges that are closely regulated. They are bought and sold just like any other security. And they are traded in large amounts by many thousands of investors.
Potentially very large leverage. These are investments which truly have the potential to deliver windfall profits. Not just 20% or 30%, but often 100%, 200% or even 1000%. Naturally, you cannot consider these profits without also considering losses on options that don't work out and produce losses. But I know of no other vehicle that provides this combination of absolute risk limitation on the losing side PLUS virtually unlimited profit potential on the winning side.
Warning: Options are extremely volatile. They can fall in half or double in value in a heartbeat. And unless you have an adept professional watching them daily — even hourly — it is very difficult to consistently make money with short-term options.
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