Here’s what you need to know about double calendar spreads and how they are used in options trading.

What Is a Double Calendar Spread and How Does it Work?

To understand the workings of the double calendar spread, you first have to know how an ordinary calendar spread works.

This type of spread involves opening two positions on the same underlying asset simultaneously, but with two different delivery months.

A typical calendar spread involves a near-term sell option with a buy option in a later month.

Importantly, the two options that make up the spread will also share the same type and strike price. Thus, a single calendar spread might look as follows:

• Sell 50 ABC June 20 strike calls
• Buy 50 ABC July 20 strike calls

Under ideal conditions, the near-term option will expire out of the money, allowing the trader to capture the premium from it. After the first option expires, the long-term option stands on its own.

From that point on, the long-term option can have a potentially unlimited profit, provided it moves in the direction the trader predicted when constructing the spread. In this sense, the premium from the short-term option offsets the cost of the long-term option, reducing the overall cost of the trade.

The same basic structure is used in a double calendar spread. When the spread is doubled, however, each delivery month will include both a call and a put option, as opposed to the single option type deployed in a standard calendar spread.

If the strike prices in each leg of the spread are the same, each month’s options effectively form a straddle.

Alternatively, the spread can be constructed with each leg at a different strike price, in which case each month’s options take on the characteristics of a strangle strategy.

An example double calendar spread of the latter type might look as follows:

• Sell 20 ABC October 35 strike calls
• Sell 20 ABC October 30 strike puts
• Buy 20 ABC November 35 strike calls
• Buy 20 ABC November 30 strike puts

>> How To Trade Covered Calls

Why Trade This Spread?

The point of all calendar spreads is to profit from increases in implied volatility over time.

When a particular security is expected to experience low volatility in the short term but higher volatility during a later time period, a calendar spread can be quite useful. For this reason, a calendar or double calendar spread may be preferred when an election, earnings report or other news event is likely to increase an asset’s volatility after a certain date.

Because a double calendar spread can have two legs that form a strangle in each month, it offers two areas of maximum profitability, with one peak at either of the two strike prices.

This contrasts with the strictly neutral single calendar spread, in which profits are maximized when the price of the underlying asset is at or very near to the strike price of the options.

As a result, there is more potential for profit across a range of prices when using a double calendar spread, while the potential downside remains well defined.

>> How To Protect Against Falling Share Prices

Building a Double Calendar Spread

To build a double calendar spread, it’s important to first select an appropriate underlying asset.

Generally, you’re looking for a security that you believe will be stable in the near-term, then trend moderately bullish or bearish on a longer time scale. After that, you will have to decide on your expiration dates.

Most traders construct their double calendar spreads with a gap of one month between the first and second expiration dates, though this may vary depending on your market expectations.

It’s also important to understand that calendar spreads can be adjusted after they have been placed. For instance, market movements may make it profitable to buy long-term options at a higher or lower strike price after your initial purchase.

As with any options trading strategy, careful risk management is important when trading double calendar spreads.

>> Selling Calls For Passive Income

Understanding the Risks

While double calendar spreads can offer reasonably good profits and defined, manageable downsides, they are not without their risks.

Even with a straddle or a strangle in each of the two delivery months, market conditions can turn against your position and prevent you from realizing the gains you expected.

Likewise, if the event you’re expecting to produce enhanced volatility later on fails to do so, you may find yourself holding options without much in the line of upside.

For these reasons, calendar and particularly double calendar spreads are usually recommended for reasonably experienced options traders.

>> Options Trading For Dummies

How to Place a Double Calendar Spread

To put a double calendar spread in place, you should start by opening an account with a leading options trading broker such as tastyworks.

Brokers that understand the risks and rewards of complex options strategies are in the best position to ensure your success when constructing spreads.

Often, the resources, tools and research materials a broker makes available to you are instrumental in helping you execute profitable trades.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

>> Call Options Vs Put Options

The article What Is A Double Calendar Spread? was originally posted on Investormint

Of course, investing in stocks can be costly – you need enough cash to cover your transaction. More importantly, there is a substantial amount of risk involved. Unexpected events within the market, the industry, or the individual company can suddenly reduce stock value, leaving you with shares worth far less than the prices you paid.

Trading options is an attractive alternative to buying and selling shares outright. Your options contract gives you the right to buy or sell stock at a pre-determined price – the strike price – until the contract expires.

A contract to buy stock is referred to as a call option, and a contract to sell stock is referred to as a put option.

The most you can lose is the premium you pay for the options – and that’s only if you choose not to sell or exercise your options, allowing them to expire instead.

Understanding how the premium is calculated is key to making smart decisions about options trading.

What Factors Are Considered in Options Premiums?

Two primary factors affect the premium you pay for options.

First, there is the intrinsic value of the contract. That figure is calculated by measuring the current price of the underlying stock against the option’s strike price.

For example, if you have a call option to buy ABC at $45 per share, and it is currently trading at $50 per share, your option is “in the money”. The intrinsic value of your contract is $5 per share.

If you have a put option to sell ABC at $45 per share, and it is currently trading at $42 per share, your option has an intrinsic value of $3 per share.

How Does Volatility Affect Option Prices?

The second element that contributes to premium pricing is less straightforward. It is the time value of the options contract.

This is an extra amount that investors are willing to pay based on their expectations about how the stock value will change before the options expire.

Typically, the more time remaining before the contract’s expiration date and the more volatile the underlying stock is, the more you will pay in options premiums.

Consider some of the most volatile stocks on the S&P 500 versus the least volatile over the past three years:

Highly Volatile

• Nektar Therapeutics – Monthly Price Volatility 29.80
• Twitter Inc. – Monthly Price Volatility 14.27
• Nvidia Corp. – Monthly Price Volatility 14.13

Limited Volatility

• Twenty-First Century Fox Inc. Class A – Monthly Price Volatility 8.13
• Walmart Inc. – Monthly Price Volatility 5.39
• Western Union Co. – Monthly Price Volatility 4.40

>> Related: What Is Option Vega?

What Does Implied Volatility in Options Mean?

Implied Volatility (IV) is a calculation of how much an option’s underlying stock price will change before the contract’s expiration date.

While the figure is based on historical information, like price changes over time, recent price changes, and available information on the future of the industry and the company, IV is not a guarantee. It is a prediction. The future of the underlying stock price could be higher or lower than the IV used to calculate options premiums.

Stocks with low IV aren’t expected to fluctuate dramatically before the options expire. Conversely, stocks with high IV are expected to increase or decrease in value – sometimes both – during the period covered by the options contract.

You can learn what investors and analysts expect from a particular stock by examining the IV, which is written as a percentage. For example, if a stock has an IV of 10%, the market has predicted that a year from now, the stock will be priced within 10% of today’s value.

>> What Are The Best Options Trading Books?

How Is Implied Volatility Calculated?

Calculating the Implied Volatility of an option can be complicated.

Fortunately, there are tools available online to assist. If you prefer to find the IV yourself, you will need five pieces of information:

• Option’s market price
• Price of the underlying stock
• Option strike price
• Time to expiration
• The risk-free interest rate

These figures can be entered into a mathematical equation called the Black-Scholes model to determine an option’s IV.

>> Options Trading For Dummies

Why Does Implied Volatility Change with Strike Price?

As you become more familiar with options pricing, you are sure to notice that the Implied Volatility of a particular stock is not necessarily the same between options contracts.

This makes sense when the options have different expiration dates, but it doesn’t quite seem logical when the options have identical terms except their strike prices are different.

Mathematical models for calculating IV show that the strike price shouldn’t affect Implied Volatility. There should be a direct unit for unit increase in IV as expiration dates lengthen. On a graph, this would be a straight line.

In reality, IV doesn’t follow the expected pattern. Options with strike prices at the money form the base line, and the upwards curve on either side reflects strike prices that are more out of the money and more in the money respectively.

The reasoning for this pricing phenomenon has more to do with economics and human nature than mathematical equations.

>> What Are The Best Options Trading Platforms?

How To Trade Implied Volatility

Speculators may purchase out of the money options as a high-risk, high-reward strategy to capitalize on sudden market declines.

Though chances are slim that they will get the timing just right, they could be in for a massive payout if they have the right options at the right time.

Investors may also purchase options at different strike prices in an effort to mitigate the risk inherent in other investments.

Other Ways To Profit From Implied Volatility

If you own stock and want to earn passive income, covered calls are a popular way to generate income.

The strategy involves selling call options against your shareholding. For example, if you own 100 shares of Facebook, Netflix or Alphabet, you would sell 1 call contact to create a covered call position.

In the run up to earnings, the expectation for underlying stock prices to rise or fall more than normal is high, and so implied volatility rises, resulting in higher call option prices.

If you have a plan to hold your stock for the long-term, you could view this hike in option premium as an opportunity to create some passive income short-term.

Sometimes, the call option premium can be as much as 5% or more of the entire value of the stock price!

>> Call Options Vs Put Options: Pros and Cons

Best Brokers To Trade Implied Volatility

Regardless of whether you are buying put options out-of-the-money to capitalize on expected share price declines or selling covered calls to profit from a current spike in implied volatility, you’ll want to select a good options broker who understands the risks and rewards of trading implied volatility.

Not all brokers are made equal when it comes to options trading and profiting from implied volatility swings in particular. For example, you can trade options on Robinhood, but its options trading tools are basic.

The article What Does Implied Volatility In Options Mean? was originally posted on Investormint

A poor man’s covered call is a trading strategy that limits risk and, as the name implies, doesn’t require a large financial commitment.

The strategy works similar to the typical covered call strategy. The poor man’s covered call, however, doesn’t force you to buy stock. Instead, you buy in-the-money long-term equity anticipation securities (LEAPS) call. When the time comes, you sell a near-term out-of-the-money call against these LEAPS call options.

If you don’t have experience with LEAPS, then you can think of them as options contracts with expiration dates longer than a year. By choosing LEAPS, you get long-term exposure that reduces the risk of your investment.

Need to revisit the basics before learning more, check out this Options Trading for Dummies guide.

The Poor Man’s Covered Strategy

The poor man’s covered call strategy is an alternative to a traditional covered call. Most people use a poor man’s covered call strategy because it requires less buying power.

In other words, you don’t need a lot of money to invest in the strategy. Even though you don’t need deep pockets, you can still generate significant profits.

Experts break the poor man’s covered call into two main steps. These steps include:

• Buying a call option in a long-term expiration cycle
• Selling a call option in a near-term expiration cycle

>> What Is A Synthetic Long Call?

Example Poor Man’s Covered Strategy

Let’s use an example to gain a better understanding of the poor man’s covered strategy and how you can execute it successfully.

To start, you should choose a low-beta stock. A stock with low volatility typically makes the poor man’s covered strategy more effective because you don’t get as many price swings in the share price.

A rule of thumb is to look for stocks with betas less than 1. You want to choose an option with less volatility than the overall market.

Once you find a stock, purchase one options contract using a limit order so you don’t pay the full ask price. Any good options broker, like tastyworks, will make it simple to specify a limit price.

Now, choose a strike to sell against your LEAPS contract.

Each month, you can sell calls against your LEAPS contract to reduce the amount of risk you hold in the trade overall. As you get closer to the LEAPS contract’s expiration, it is usually best to sell the contract, otherwise time-decay (or theta) erodes the premium of the option at a faster pace.

You can use the money you receive from selling shorter term call options to invest in another poor man’s covered call or try a different strategy.

>> What Are The Best Options Trading Books?

Risk and Rewards of Poor Man’s Covered Call

The great thing about a poor man’s covered call is that you spend less money than you would on a typical covered call. You can often save as much as 80% or more on out-of-pocket costs versus a traditional covered call.

When you don’t have a large amount of money to spend that kind of percentage reduction gives you more opportunities to invest. Ideally, you will use your profits to fund more investments.

The downside to a poor man’s covered call is that the LEAPS call option premium erodes in value over time, albeit at a slower pace than the short call premium.

That means you will never make as much money from it as you would from a standard covered call. Expect a max profit that is around 10% or more lower than the max profit that you could get from a standard covered call.

No one likes the idea of making less money than possible. On the other hand, most investors do like the idea of spending less money and lowering risk.

You won’t make as much money from a poor man’s covered call but your return on risk could be significantly larger. In a covered call you might aim to make $1 per month for each $100 at risk, or 1% per month. With a poor man’s covered call, the return on risk might be $1 on each $14 risked, leading a 7%+ return in the same time frame.

It’s important to focus on the long-term effects of your investment. You might not profit to quite the same extent, but you could earn money that eventually makes it possible for you to place larger bets with larger returns.

Is a Poor Man’s Covered Call Right for You?

A poor man’s covered call could work for anyone. More often than not, though, the people who use the strategy include:

• New traders worried about losing money
• Traders that want to offset the risk of other investments
• Traders looking to explore market and stock price fluctuations without investing much money

If you fall into any of these categories, then a poor man’s covered call is probably right for you. Then again, anyone can use the strategy. You need to understand, though, that the lower risk means that you lower your max profit.

How to Place a Poor Man’s Covered Call

So, you’ve decided to place a poor man’s covered call. Follow these steps to initiate a successful strategy.

1. Find a low-delta stock that you want to own long-term
2. Instead of buying 100 shares of the stock as you would for a standard covered call, purchase a LEAPS option
3. Adjust your investment when necessary, such as when a stock price increase and you want to roll your investment over with additional capital
4. Collect your earnings by letting your calls expire worthless

There’s always the possibility that a stock could lose value before it expires. When this happens, you may want to consider reducing the capital that you have in the investment.

Whether you do that, however, depends on how you think the stock will move in the near future. If it’s a short-term drop, then you should probably leave the investment alone and wait for the value to rebound.

Trying an investment strategy is the best way to understand its underlying mechanisms. If you’re interested in the poor man’s covered call, go to your trading platform and give it a try. It requires relatively little capital and has a low risk, so you can learn a lot without jeopardizing much money.

To get started trading the poor man’s covered call, sign up at tastyworks and practice risk free. The broker also has a live streaming network featuring top options traders so you can learn throughout the trading day, or view a back catalog of educational videos designed to get you up to speed in a hurry.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

The article What Is a Poor Man’s Covered Call? was originally posted on Investormint

The higher and lower strike prices always have an equal distance from each other. For example, you might have strike prices of $45, $50, and $55. You will notice that the values increase by $5. But you can choose other distances, which will affect risk and reward.

In the above example, you would call $50 your at-the-money strike price. The $45 represents your lower strike price. The $55 represents your higher strike price.

A butterfly option strategy can include a combination of calls and puts. They may also include in-the-money and out-of-money options.

Because butterfly spreads can take many forms, they give you opportunities to make money regardless of how a stock’s value changes. You do, however, need to guess whether the price will stay within or outside of a certain range. That range is the butterfly. You can think of the range as stretching from one tip of a butterfly’s wing to the tip of the opposite wing.

Since there are several types of butterfly option spreads, let’s look at a few examples to get a better understanding and decide which options you want to try.

What Is a Long Call Butterfly Option Strategy?

A long call butterfly option strategy involves:

• Purchasing an in-the-money call option (the low strike price)
• Writing two at-the-money call options
• Buying an out-of-the-money call option (the higher strike price)

For example, you can initiate a long call butterfly option strategy by writing two call options at $30, buying a call at $25, and buying a second call at $35. The investor earns money when the stock price is above or below $30 by a certain amount.

To make the most money, the stock would need a value of $30. As long as the stock’s value doesn’t fall outside of the range, though, the investor earns a profit.

What Is a Short Call Butterfly Option Strategy?

A short call butterfly option strategy involves:

• Selling an in-the-money call option (the lower strike price)
• Purchasing two at-the-money call options
• Selling one out-of-the-money call option (the higher strike price)

In this situation, you want the stock’s value to fall outside of your range at expiration.

If the value falls within the range, then the lower strike gets initiated while the others become worthless.

As long as the value is higher than the higher strike price, you can initiate it to pocket the premium.

What Is a Long Put Butterfly Option Strategy?

A long put butterfly option strategy involves:

• Buying a put (the lower strike price)
• Selling two at-the-money puts
• Buying a put (the higher strike price)

Much like the long call butterfly option strategy, you want the stock’s value to fall as close to the middle as possible. The investor will earn the most money when the stock’s value is equal to the two at-the-money puts.

If the stock’s value falls outside of the spread at expiration, then the investor doesn’t make anything. The total loss, therefore, would equal the premiums and any commission paid to the brokerage.

To lower brokerage commissions, tastyworks is an attractive option because no commissions apply to closing stock and option trades (*clearing fees still apply).

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

What Is a Short Put Butterfly Option Strategy?

A short put butterfly option involves:

• Writing an out-of-the-money put option (the lower strike price)
• Buying two at-the-money puts
• Writing one in-the-money put option (the higher strike price)

When using a short put butterfly strategy, an investor can earn money when a stock’s value lies outside of the spread at expiration. When the value is lower than the lower strike price or higher than the higher strike price, the investor earns premiums.

The investor will lose the most money when the stock’s value equals the higher strike price.

What Is an Iron Butterfly Spread Option Strategy?

An iron butterfly spread involves:

• Buying one out-of-the-money put option (the lower strike price)
• Writing one at-the-money put option
• Writing an at-the-money call option
• Buying one out-of-the-money call option (the higher strike price)

Obviously, this approach covers a lot of bases. Most investors choose it when they believe a stock will experience low volatility between the investment and the expiration.

Investors earn the most money from an iron butterfly spread when the stock’s value equals the at-the-money put and call options. The further the stock’s value strays from the middle, the less the investor will earn.

The investor will lose the most money when the stock’s price equals or exceeds the out-of-the-money call option. In this case, the investor loses the amount of the call option as well as any premiums owed to the brokerage.

Since you have at least five butterfly option strategies to learn, it may take you some time to master the concepts. Unless you already have a lot of experience as an investor, you shouldn’t expect to understand the mechanics of every strategy. You will, however, learn quickly.

The good news is that butterfly option strategies don’t force you to choose specific stock values. That means you can use them to learn more about stock movements without putting much money at risk. Ideally, they will help you earn money. Even if you don’t, you can limit your losses while you grow as an investor.

How To Place Butterfly Option Spreads

To place iron butterfly spreads, long call butterfly option spreads, short call butterfly spreads, long put butterfly spreads, or short put butterfly option strategies, you will want to select a broker who understands complex options strategies. Not all brokers are created equal so choose wisely.

Some brokers like Robinhood are excellent for beginner stock and options traders but offer very basic orders and tools. Others are aimed at experienced options traders. Not only are the tools more advanced but you will be able to visualize risk and reward more easily by using risk graphs.

The article What Is a Butterfly Option Strategy? was originally posted on Investormint

A call credit spread is a trading strategy that utilizes both short calls and long calls to profit when stocks move lower.

It is often referred to as a “bear call spread” because it helps investors make money primarily from bearish – or downtrending – moves, but it can also be lucrative in sideways markets.

The basic strategy is called a vertical call credit spread and requires you to sell a short call at one strike price and buy another call at a higher strike price.

This strategy can also offset losses on other bullish positions in your portfolio to some extent when the market turns south.

There are limited rewards to using such a strategy, but it is appropriate if you are expecting a decline in value of your stocks, a flat market or even a sluggish climb higher.

This strategy offers limited profit potential but also limits losses to a fixed amount when an equal number of call contracts are bought and sold.

Call credit spreads offer limited profit potential as long as the stock does not rally and move up past the strike price of the call sold – in which cases losses can mount quickly.

How A Call Credit Spread Option Strategy Works

There are two basic elements to this strategy.

1. Sell a call at a lower strike price
2. Buy a call at a higher strike price

When you do this, the trade will be profitable as long as the stock doesn’t rise up beyond the price of the short strike.

In a best case scenario, the stock will continue to fall, and the call credit spread maximum reward will be realized.

Some risk-seeking traders sell the short call first and then buy the long call later. They are betting that the stock will continue to fall after placing the order and hope to buy the higher strike long call cheaper later. This version of the strategy is known as legging in.

Beware that the short call is considered “naked” when no long call is bought simultaneously and, for that reason, this approach can be very risky. For example, if the stock gapped higher unexpectedly, you could be saddled with a hefty loss.

Also when legging in you need more margin than is required when trading a traditional call credit spread.

For a traditional call credit spread, the margin required is the maximum loss minus the premium received when placing the trade.

Time decay works in your favor using this strategy. The short call is usually placed at a lower strike price than the long call you buy, and so time-decay affects it more than it does the long call. That means time-decay is your ally when trading call credit spreads.

It is worth keeping in mind that your calls will expire eventually, and that is the primary goal of the strategy.

>> Options Vs Stocks

Call Credit Spread Example

Suppose you have stock in Bear Company that is trading at $70 per share.

You expect the stock price to fall over time and could use a call credit spread trade to profit from the stock’s downward trend.

So you might sell a strike 70 call at $5 per share or $500 per contract and buy a strike 80 call at $2 per share or $200 per contract, for a net premium of $3 per share or $300 per contract.

As long as Bear Company stock does not rise above $70 per share, you will make a profit using this strategy. At any price below $70, the profit will be $300 per contract.

>> Options Trading For Dummies

Call Credit Spread Risk Graph

Call Credit Spread Profit, Loss and Breakeven Levels

The maximum profit on this kind of spread is the premium received. In the example above, your premium is $3 per share or $300 per options contract – the difference in price between the short credit and long call debit.

The maximum loss is the width of the strikes minus the premiums received, which is $7 per share or $700 per contract [($80 – $70) – $3].

To calculate your breakeven point, add the net premium received to the strike price.

In our call credit spread example above, your net premium is $3, so your breakeven point would be $73. If the stock were to rise above this level by the expiration date of the call options, you would lose money.

>> 3 Ways To Trade The Most Volatile Stocks

Why Trade Call Credit Spreads?

A good reason to trade a call credit spread is to limit the maximum potential loss otherwise incurred on a stock you own that is moving downwards.

This strategy allows you to use time decay to your advantage – as the option decays over time you make profit, and your losses are limited thanks to your strategic use of both the short and long calls.

Of course, you don’t need to own the stock to trade a call credit spread, you could simply place the trade because you believe a stock will move lower and want to profit from its decline.

The advantage of this strategy is that you can make money in lots of scenarios.

If the stock moves up only slightly or doesn’t move at all, you will profit, and of course you will also profit if the stock crashes. The time you lose money trading a call credit spread is when the stock rallies higher and exceeds the breakeven level. 

Worst case, the stock soars up to the call strike price and beyond. Even then your losses are limited to the amount defined when the trade began. In this call credit example above, the maximum risk is $700 per contract.

>> What Is A Married Put Options Strategy? 

When To Exit A Call Credit Spread?

The basic rule for exiting a call credit spread is to let the two options expire worthless, meaning that you capture 100% of the premium received upfront. This way you avoid paying commissions costs to exit the trade.

However, if the stock crashes lower soon after you enter the position, you can also close it out when your premium begins to approach zero. That way you will not lose money on the spread if the stock bounces back.

This can be a good approach if there is little premium on the options but expiration is still a long way off because holding on will not lead to much more profit so your reward is low for the level of risk assumed.

Many investors only close out the short call to eliminate risk too. The long call will expire naturally and is not worth closing out if its bid price is zero – why pay commissions to close a trade and receive nothing in the process after all?

The process of closing out the short call of a call credit spread (or only the long call) is called legging out.

>> Options Trading Tips

How To Trade A Call Credit Spread

To place a call credit spread, choose a broker that has expertise in options trading, such as tastyworks or thinkorswim.

You will enter a Sell to Open order to place the short call at the lower strike price and a Buy to Open order to place the long call at a higher strike price.

Top options trading platforms allow you to place both trades simultaneously as part of a call credit spread trade. That way you don’t take on any risk of legging into the position whereby a stock could rise or fall before executing the other leg.

If you did enter the lower strike short call first you would also need much more margin than if you simply entered the call credit spread as part of a spread trade.

Generally, it’s a good idea to select a limit order and pick the credit you wish to receive. That way you will guarantee that you receive at least that amount and no more.

>> How To Trade A Bear Put Options Spread

The article What Is A Call Credit Spread? was originally posted on Investormint

You are already familiar with the time value of money and the magic of compound interest. The longer you leave your savings untouched and accruing interest, the more your wealth will grow.

The time value of options is a little different, but it’s equally important to successful investing.

Understanding how time impacts the premium you pay for an option is critical for making smart decisions around this type of investment.

Options: An Overview

Trading options gives you an opportunity to profit from changes in the market without the large cash outlays required when purchasing individual stocks.

Instead, your options contracts gives you the right to buy or sell the stated number of shares for an agreed-upon amount until the option expires. This pre-determined amount is referred to as the strike price.

Note that while you have the right to exercise your options, you aren’t required to do so. On the other hand, the contract writer must honor the terms of your options contract if you choose to exercise your rights.

There are two types of options:

Call options give you the right to purchase an asset or call it away from the current owner.

For example, if QRS shares are currently trading at $45, and you expect the value to increase in coming months, you could purchase a call option to buy shares at $45. If, in fact, shares go up to $55 before your option expires, you can still make the trade at $45.

Put options give you the right to sell an asset or put it to the contract writer for the agreed-upon strike price.

For example, if QRS shares are currently trading at $45, and you expect the value to decrease in coming months, you could purchase a put option to sell shares at $45. If, in fact, shares go down to $35 before your option expires, you can still make the trade at $45.

When you trade options, you pay a premium to the contract writer. If the contract expires without being exercised, your total loss is the premium you paid.

The amount of the premium is based on the level of risk the contract writer takes on by agreeing to buy or sell shares at the contract price. Risk is determined by the time value of options.

Intrinsic Value and Time Value: The Basics of Options Pricing

There are two factors that contribute to the premium amount you pay for an options contract:

1. the intrinsic value
2. the time value

The intrinsic value of an option is the difference between the current price of the underlying shares and the options strike price.

For example, if you hold a call option for 100 shares of QRS at $45 per share, and QRS shares are currently trading at $55 per share, the intrinsic value of the option is $10 x 100 or $1,000.

If you hold a put option for 100 shares of QRS at $45 per share, and QRS shares are currently trading at $35 per share, the intrinsic value of the option is $10 x 100 or $1,000.

In other words, for call options, Intrinsic Value = Price of Underlying Asset – Strike Price.

For put options, Intrinsic Value = Strike Price – Price of Underlying Asset.

You will notice that options often trade for more than their intrinsic value – and that the more time remaining before the option’s expiration date, the higher the premium.

Investors are willing to pay more when an option’s expiration date is months away, because there is more opportunity for the underlying stock price to change.

Conversely, when options are going to expire in the near future, the premium is quite close to the intrinsic value. There isn’t much time for the underlying stock price to change.

The difference between the intrinsic value and the premium paid is the time value of options.

In other words:

• Time Value = Premium – Intrinsic Value; so
• Premium = Intrinsic Value + Time Value.

Calculating the Time Value of Options

If you would like to know how much you are paying for the time value of options, start with the underlying stock price. Then, consider the terms of the options contract.

If the underlying stock is trading for less than the strike price of a call option or more than the strike price of a put option, the option is out of the money. The intrinsic price of the option is $0.

If the opposite is true, and the underlying stock is trading for more than the strike price of a call option or less than the strike price of a put option, the option is in the money. The option has intrinsic value, which you can calculate using the formulas above.

Next, have a look at the premium charged for the options contract. Once you subtract the intrinsic value of the option from the premium, the remaining amount is the time value of the option.

For example, a $50 call on QRS has a premium of $6 per share. QRS is currently trading at $55 per share, so the intrinsic value is $5. The time value of the option is $1 per share.

For out of the money options, the entire premium is time value – a calculation of the likelihood that the option will be in the money before it expires.

For in the money options expiring soon, the premium is likely quite close to the intrinsic value of the contract. When there is no time remaining before the expiration date, the option has no time value.

How To Profit From Time Value of Options

An almost limited number of options trading strategies exist to profit from time-decay, the process by which the time value of options diminishes. The most common is the covered call strategy.

The covered call is created when a shareholder sells a call against their underlying stock position. For example, if you owned 100 shares of Netflix and sold 1 call option, you would create a covered call position.

The reason to sell the covered call is because the shareholder may believe the stock is unlikely to rapidly rise higher but will instead either meander sideways, slightly higher, or even fall slightly.

As time goes by and the expectations of the shareholder are fulfilled, the time value of the call option is steadily eroded – all else being equal.

By the expiration date of the call option, all the time value of the option will be worthless and so, assuming the share price remains below the call strike price, the shareholder enjoys an income equal to the call option premium originally sold.

Covered call traders have to be wary about the share price rising above the call strike price. When that occurs at expiration, the call is assigned automatically upon expiration and the shares are sold.

Other strategies like the bull put spread also profit from time value of options decaying due to theta.

Get Started Trading The Time Value of Options

To being trading and capitalizing from the time value of options, you will want to choose a broker who understands options well.

Some of the best options trading platforms including thinkorswim and tastyworks. Both platforms were built by stock and options traders for stock and options traders, and can cater to basic strategies like covered calls and married puts, as well as more complex multi-legged strategies like iron condors and ratio backspreads.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

If some of this options lingo sounds like double dutch to you, check out this Options Trading For Dummies guide or the best books on options trading.

>> What Is Options Vega?

>> How To Trade A Bull Call Options Spread

>> How To Trade A Bear Call Options Spread

The article What Does Time Value of Options Mean? was originally posted on Investormint

A sell limit order allows you to control the price at which you sell stock. Instead of selling at the current market price, the sell limit order instructs your broker only to sell once your stock hits a certain price point. For example, if you have a sell limit order of $95, your broker cannot sell unless the stock rises to $95 or higher.

Similarly, you can create limit orders on stock purchases which instruct the broker not to buy stock until it falls to a certain price. In this case, your limit order of $95 would instruct your broker not to buy the stock until its price falls to $95 or lower.

Limit orders are not exact price orders. In other words, they don’t tell your broker to buy or sell at exactly $95 but only if the stock exceeds that price (in a sell limit order) or falls below it (in a buy limit order).

What Is The Difference Between A Sell Stop and Sell Limit?

A sell limit tells your broker only to sell shares of your stock once a specific price becomes available. You cannot set your sell limit below the current market price, as the current price would be better than your sell limit price.

A sell stop order tells your broker to sell the shares once a certain price point has been hit. You can set sell stop orders below market price so that if your stocks go down instead of up, it will trigger a sale of those stocks.

Some orders are stop-limit, meaning once your stock hits the stop sell price, it triggers a limit order. This can be risky if the limit order price isn’t the same as the stop sell price because you may find yourself in a situation where you want to sell but there are no buyers at your limit price.

For example, if your stop sell order is $85 and your limit order is $86, then if the stock drops to $84 it will trigger the stop order, yet you won’t be able to sell because $84 is below your sell limit price.

You also risk losses due to partial fulfillment with stop-limit orders. For example, suppose your limit order is to sell 800 shares at a certain price but only 350 shares are available at that price. You’ll only be able to sell 350 shares and may incur losses on the unsaleable portion of your investment.

Sell limit orders are visible to the market, while stop sell orders are not visible until they are triggered.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

What Is A Sell Limit Order Example?

Suppose you have shares of stock in company XYZ. It is currently trading at $135 and you want to sell only if the stock goes up to $143.

In this case, you would set a sell limit order of $143. This tells your broker not to sell unless the stock hits that price.

However, if the stock exceeds expectations and surges up to $155 overnight, it will trigger a sale because $155 exceeds the sell limit order of $143.

What Is The Difference Between A Stop Order and a Limit Order?

In addition to stop sell and sell limit orders, you can put stop and limit orders on purchasing stock. These work similarly to stop sell and sell limit orders but refer to purchasing instead of selling.

A limit order tells the broker not to buy shares of a particular stock unless the price falls below a certain point. For example, if you want to buy shares in company ABC only when they fall below $75, you would set a limit order of $75 on that stock.

You cannot put a limit order to buy above the current market price because there is already a better price available. For example, if company ABC is currently selling at $65, you can’t put a limit order of $75 on it.

Stop orders, on the other hand, can be set above the current market price. Stop orders merely tell the broker to buy once the stock hits a certain price point. This can be helpful if you have your eye on a stock that is expected to rise.

You can set a stop order to purchase shares once the stock rises to a certain level so that you can enter in a stronger position.

When you use a stop order, you risk losses if the stock falls far below your stop order. For example, if you have a stop order on XYZ stock of $75 and the stock price falls to $60, you will end up selling at that lower price point.

Stop orders are not generally visible in the market. However, some brokers add “stop on quote” to their order types. This makes it clear that the stop order will only be filled if a valid quoted price is met.

How Long Does It Take For A Limit Order To Execute?

Your limit order is filled when the market opens at the price point you have specified.

That means that if you have a sell limit order of $70 on a particular stock and that stock opens at $75 the next morning, the sell limit will be executed.

However, if the stock opens at $65, the sell limit will not be executed until the next business day even if the stock appears to rise in price over the course of the day.

Which Broker Is Best For Limit Orders?

Most brokers cater to the various types of order entries, including:

• Market orders
• Buy stop orders
• Sell stop orders
• Buy limit orders
• Sell limit orders
• Buy stop orders
• Sell stop orders

But all brokers are not created equal. For example, Robinhood sells customer data to intermediaries, who can see which orders they are placing. The plus is that the cost of placing market orders, limit orders, or any other type of order on Robinhood is commission-free.

The downside is you may not necessarily be receiving the best fill price. And that’s probably not a big deal if you plan, for example, to buy Amazon stock or Netflix stock and hold it for the long-term. What’s a few pennies between friends!

But if you plan to trade shorter term and more frequently, the difference between a few pennies here and there in order fills can be significant, and really add up over time.

>> How Do I Buy Boeing Stock?

>> Options Trading For Dummies

>> 20+ Legendary Investing Quotes

The article What Is A Sell Limit Order? was originally posted on Investormint

If you invest regularly in the stock market, you might be curious about what a synthetic long call is. Don’t be intimidated by this term! It sounds complicated, but when you take a closer look at it, it’s not.

We’ve put together some information for you about what a synthetic long call is and when to use it. Read on to learn how to use it.

What Is A Synthetic Long Call?

A synthetic long call mimics the performance of a long call option, albeit by combining different securities.

A synthetic long call is created when a long put is purchased for every 100 shares of stock you own. This replicates the payoff you would get if you purchased call options alone.

On the plus side when you use a synthetic long call, you still get the benefits of being a stockholder, such as the right to vote in stockholder meetings and the right to receive dividends (which you would not enjoy if you purchase call options).

The downside is the transaction costs may be higher because a synthetic call requires two transactions, the purchase of long puts and shares, versus just one transaction cost when buying long calls directly.

Investors use synthetic long calls when they want to hold onto a stock for a long period of time that they fear may go down in the short-term. Using a synthetic long call helps lower the risk of stock losses in such situations.

How A Synthetic Long Call Works

A synthetic long call protects investors against losses if a stock should go down instead of up.

For example, suppose you own stock in a corporation, called Hot But Volatile [ticker symbol: HBV].

If you simply own shares of HBV (but have no options positions on it), you make money when the share price rises. However, if the share price goes down you lose money.

To limit your risk of losses, you may consider a synthetic long call which can be constructed by buying put options for HBV.

When HBV share price falls, the put options rise in value, thus covering a good chunk of the losses from the stock going in the wrong direction.

>> How to Trade A Bull Put Spread

Synthetic Long Call Max Profit Potential

The synthetic long call has nearly unlimited profit potential just as a traditional long call does.

There is no theoretical ceiling on the stock’s appreciation, however, you will make less money if the stock goes up than you would had you purchased the stock alone.

That’s because when you purchase a put option, your profit is reduced by the cost of the put option, so your stock’s value must rise above the price of the put option before you can begin to turn a profit.

Commonly, investors purchase at-the-money put options as part of this strategy.

>> Selling Call Options For Income

Why Trade Synthetic Long Calls

The major benefit of the synthetic long call is that the put options cap any losses should the stock go down in price instead of up.

If the stock goes down, losses are limited only to the total cost of the shares plus the put options minus the put strike price.

>> Covered Calls Explained

How To Get Started Trading Synthetic Calls

The first step to creating a synthetic long call is to purchase shares of stock in a company using a reputable broker.

At the same time as you purchase these shares, place an order to buy an at-the-money (ATM) put option on the same stock.

This means that you purchase a put option at the stock’s current value. For example, if the stock is worth $75, buy a put option at strike $75 also.

The rule of thumb is for every 100 shares of stock you own, buy 1 long call put contract.

>> Call Options Vs Put Options

When Not To Trade A Synthetic Long Call

A synthetic long call is not appropriate to use in all situations.

Despite the potential for profit, synthetic long calls are not so much to make profits as they are designed to preserve capital.

In other words, the synthetic long call is like an insurance policy against a stock dropping in price more so than it is a vehicle to earn profits on a stock.

Nevertheless if the stock rises, you may actually make more money from the share price increases than you lose from the put option losses.

In general, you want to use a synthetic long call if you are worried about short-term losses in a stock you plan to hold onto for a while.

Or if you are new to investing, you might want to use synthetic long calls to help limit your losses while you are learning how to invest effectively.

>> Options Trading For Dummies

What Is The Risk In Trading A Synthetic Long Call?

Risks are limited when using a synthetic long call, but they are not non-existent.

If the stock goes up in value instead of down, the cost of put options could cut into your profits. However, using a synthetic long call help to mitigate the risk of loss because your losses will be limited if the stock goes down in price.

Another risk is that the share price never returns back from its dip lower. The idea behind the synthetic long call is to protect your shares when they are falling, and sell the put for a profit when the share price has bottomed out.

If you were to sell your put options and subsequently the share price continues to falling you could experience higher losses than had you simply placed a limit order to sell your stock when the share price first started to fall.

Or if you hold on to both your shares and the put options, but the share price never recovers your loss will equal the maximum risk in the trade, which is the total cost of the shares plus the cost of the put(s) minus the strike price of the put(s).

>> Best Options Trading Strategies

How Does Time Decay Effect A Synthetic Long Call?

The put option you purchase is a long option and all long options suffer from a factor called time-decay. So over time, the premium in the put option will depreciate.

All else being equal, the put option will steadily lose value until all its time-value is gone.

If the share price remains above the put option strike price at expiration, the put option will expire worthless and you will lose 100% of the price you paid for the put.

On the other hand if the share price is below the put strike price when expiration comes around, the put will be automatically exercised and your shares will be sold at the put strike price, resulting in a loss equal to the maximum risk in the trade.

>> Top Retirement Investing Tips

What Is The Breakeven Point Of A Synthetic Long Call?

The breakeven point is the point at which you are neither making nor losing money from your synthetic long call.

This doesn’t mean it’s time to sell!

The stock will change in value; if it goes down, you’ll make money off the put option and if it goes up you’ll make money off the stock itself. So don’t give up when you hit the breakeven point.

For example, if the share price is $100 and you paid $5 for the put option, the theoretical breakeven at expiration of the option is $105.

Another way of thinking about this is that the share price would have to rise to $105 in order for you to not lose money by expiration.

>> Options Trading Tips

The article What Is A Synthetic Long Call? was originally posted on Investormint

When considering your real estate investment strategy, the most important thing to do is to know the market you are attempting to invest in.

Every real estate market is different, so you need to do some basic research. As Forbes magazine points out, two real estate markets can be in different phases of the real estate cycle, so you can’t rely on one-size-fits-all advice.

However, what you can and should do is understand what the real estate market cycle is so you can evaluate where in the cycle a market of interest is and how to best approach your investment into that market.

What Is The Real Estate Market Cycle?

The real estate market cycle is a theoretical concept that explains the way property markets move up and down.

The basic idea is that real estate markets change in predictable, patterned ways and that understanding the cycle can help you understand financial news and reports about the real estate market in general or about your own real estate investments.

The cycle consists of four parts:

1. Economic Growth – the market is doing well and appears to be growing.
2. Falling Demand – demand for real estate seems to be shrinking but supply continues to grow.
3. The Downturn – supply far outstrips demand and real estate investments shrink in value as a result.
4. A New Dawn – the real estate market recovers from a recession and prepares for growth again.

Your investment strategies must be different for markets in each of these phases if you want to be successful.

Part 1: Economic Growth

Economic Growth markets make people feel good about investing. During this phase, the market is growing and expanding.

Demand for property outweighs supply of property, meaning there are few vacancies in existing properties. The excess of demand allows property owners to raise rents, too, as people are willing to pay premium prices to secure spaces in existing properties.

There is good news for the construction industry during growth phases, too: work is plentiful as developers are eager to build new properties or expand existing ones to accommodate demand.

Strategies: During expansion phases, you can play it safe.

• Use core investment strategies and rely on the knowledge that there will be little turnover since demand is outstripping supply.
• It’s also a good time to consider flipping properties.
• Purchase lower-cost properties that need repairs and bring them up to code before reselling for a higher price.

Part 2: Falling Demand

The Growth Economy phase doesn’t last forever. As construction jobs are completed and vacancies are filled, eventually supply catches up with demand.

Once this equilibrium point is reached, typically supply begins to overshadow demand, so that there are more properties being built than there are people interested in living in them.

Thus, occupancy rates begin to fall and rental growth slows, and many investors begin to consider selling their properties before a full-fledged recession hits.

Strategies:

• Invest in properties that offer long-term leases and have a stable set of tenants. During this time, you want to think long-term and invest in properties that likely won’t change much. This reduces your chances of losing money from tenants leaving the property.
• You also want to keep an eye out for low-cost properties. Many sellers offer discounts because they are eager to get rid of the properties, so if you can grab something stable at a low price you can weather this storm and make money even if a recession hits!

Part 3: The Downturn

The Downturn is the opposite of expansion. During a recessionary downturn, everything slows almost to a stop.

There is way too much supply relative to demand, meaning that there are a ton of properties that nobody wants to live in.

Property owners are forced to reduce rents to fill vacancies, and many properties have multiple vacancies open at a time.

In some cases, the recession phase never fully hits because developers pay close attention to the market and cut back on expanding of properties or development of new properties when they see demand falling.

But even in these cases, the market slows (since there is less development). Paying attention to the market can lead to a faster recovery, but some slow down is inevitable.

Strategies: Investing during a recession can be high-risk. You need to really think long-term here.

• You may be able to purchase bank-distressed properties or vacant properties at rock-bottom prices, but will need to be willing to hold onto the properties and invest in improving them for however long the recession lasts.

Part 4: A New Dawn

Recessions always end eventually, but it may not be easy to determine the point at which the market is no longer in recession and now is in recovery. Growth continues to be slow during the recovery phase, and there is little to no increase of rental prices.

The best way to figure out whether your market is in recovery is to pay close attention to statistics. Check the number of property viewings on a daily or weekly basis – growth of this metric means people are interested in renting again.

In addition, if vacancy and sale rates are slowing even slightly, it may be a sign that the market is getting ready to turn around again.

Strategies: Recovery is the best time to buy new properties. Prices are still relatively low, but you will reap large-scale returns on your investments when the economy begins booming again. There are two ways you can approach a market in recovery if you want to make money.

• You can purchase properties in a prime location for cheap prices and watch the value go up as the market recovers; or
• You can return to evaluating properties that need renovation and select some to invest in and flip once the economy begins to grow again.

How to Make Money From Real Estate Market Cycles

Clearly, it’s possible to make money in real estate regardless of where in the cycle your real estate market is. It’s just harder during downturns and recoveries than during expansion phases.

The key to making money in real estate is research. That’s where a real estate crowdfunding platform like Crowdstreet comes in.

Crowdstreet and similar programs vet potential investment opportunities before providing them to investors. You can read all the information you need about each property right on the site. This cuts down on your research time – the platform does it for you.

If you have some knowledge of the real estate market cycles, you can read this research with an eye towards determining whether this investment fits in with the phase of the real estate cycle you’re working with. You can also look at general trends to determine the market’s phase so that you know what strategies to lead with.

As long as you understand the real estate market cycles and the strategies you need to employ during each phase of the cycle, you can use Crowdstreet or another real estate platform to help you find appropriate investments and make money regardless of where in the cycle your market is in right now.

The article How Real Estate Market Cycles Work was originally posted on Investormint

Investors spend a lot of time thinking of ways that they can mitigate risk while still earning money. The delta neutral strategy stands out as one of the most popular ways for beginning and advanced traders to lower their risks.

Explaining delta neutral trading often gets complicated because experts want to use detailed examples. Unless you have years of experience, though, you need a straightforward explanation that doesn’t use a lot of fancy terms.

First, let’s address the term “delta.” In Greek, the word “delta” means “change.” Investors use it in a similar way, today. When they talk about an option’s delta, they’re talking about the positive or negative change in that option’s value.

With delta neutral trading, we apply the term “delta” to several stocks, options, and even futures in your portfolio. The idea is to offset negative deltas with positive deltas to reach balance in the portfolio.

How do you do this?

Delta Neutral Trade Example

Let’s look at a very simple example. If you have 100 shares of stock in your portfolio that you own with a delta of +100, you can reach delta neutrality by purchasing two put options that have deltas of -50.

You can’t always ensure that your delta neutral trading strategy will reach zero.

Ideally, you try to come as close to zero as possible.

>> What Are The Best Options Trading Books?

How Do Delta Neutral Strategies Make Money?

When you first learn about delta neutral strategies, you probably stop and wonder how they can make money. If you’re always striving to reach zero, how can your portfolio generate profits?

Delta neutral strategies provide various ways for traders to make money.

One common strategy encourages you to move away from delta neutrality when you spot a swing in the market. If your portfolio is completely neutral, then you can quickly take advantage of price increase and decreases.

An investor who has committed to a positive or negative strategy doesn’t have as much flexibility. He or she is locked into the market’s whim. With delta neutrality, you can change your investment strategy immediately to make money regardless of whether the market moves up or down.

You can also make money from delta neutral strategies by using a collar trade. Let’s say you own 100 shares of long stock. You can also add one long put and one short call. In this situation, you can expect the combination of bearish options to protect you from loss.

If the 100 shares fall in value, the short call and long put should increase in value.

Having the option to exercise your put option makes it possible for you to either earn money or walk away with a small loss.

Another way delta neutral traders make money is through selling time value. Initially, a trade could be structured as delta neutral but as time goes by the theta decay on short options could possibly earn the trader income.

>> Options Trading For Dummies

Why Apply Delta Neutral Hedging?

Investors cite several reasons to delta hedge. Some of the most common reasons include:

• Maintaining periods without directional bias so you can make a quick decision at the right moment.
• Temporarily hedging a position until you know enough to make an informed move.
• Protecting profits or locking in profits.
• Stop portfolio losses before they become significant.

You might notice from this list that some advantages apply to experienced traders while others apply to beginners.

If you don’t have a lot of experience trading, then you can use a delta hedge to watch the market move and learn about investing features without jeopardizing much money. Basically, you get a cheap way to learn a lot about investing in stocks, options, and futures.

Experienced investors will often put delta hedges in play when they realize that the market isn’t behaving as expected.

Perhaps a media story has forced a stock’s value to plummet. When this happens, going into delta hedge mode prevents previous gains from flowing out of your portfolio. You will probably lose some money, but you can gain some control over the loss.

>> Best Options Trading Platforms

What Is a Delta Neutral Straddle?

If you’re already familiar with the concept of “straddling,” then you can probably guess the meaning of “delta neutral straddle.”

When you straddle, you buy or sell either a call or put option with the same price and expiration date. As long as the option moves a certain amount, either up or down, you will make money from the deal. It’s an example of how you can make money from market volatility instead of betting that a stock’s value will increase.

With a straddle, you don’t care whether an option increases or decreases in value. You just believe that it’s overpriced or underpriced.

A delta neutral strategy combines straddle and delta neutral concepts. When you use this strategy, your purchases offset each other to reach a zero delta (more often than not, you end with 0.5 or -0.5 delta, but you do your best).

>> What Is The Top Options Trading Broker?

What Does Negative Delta Mean?

Delta Neutral Portfolio: If you don’t offset your risk with opposite options, then you could fall into a negative delta. A negative delta means that the change in value is less than zero.

You can still make money from a negative delta strategy, especially if you try to utilize a neutral delta straddle. You do, however, accept a little more risk. More often than not, investors want to remain on the positive side.

Several online platforms will let you use neutral delta strategies. Look for an option that meets your expectations so you can see how it works for you.

How To Trade Trade Delta Neutral Strategies

Not all brokers are made equal so if you are planning to trade delta neutral trading strategies, picking a platform that specializes in options is a must.

tastyworks or thinkorswim are both excellent choices. They rank among the best options trading platforms for trading delta neutral and other complex trades.

Both options platforms were built by teams of expert options traders so you can be confident that if you want to view a delta neutral risk graph, place delta neutral trades or simply want fast and accurate order execution they’ll both live up to your expectations.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

The article What is a Delta Neutral Trading Strategy? was originally posted on Investormint

Investors who are just starting out in the stock market often put the majority of their focus on trading individual shares, but that isn’t the only way to profit from ups and downs in stock price. As investors get more comfortable with the choices available, many start trading options.

Stock Option Basics

Stock options permit the holder to buy or sell the underlying stock for a pre-determined amount, known as the strike price.

American-style options can be exercised up to their expiration date, making it possible to take advantage of changes in share prices without a large initial outlay of cash. This reduces risk for the option holder, whose maximum loss is the premium paid for the option.

Each option contract typically covers 100 shares of the underlying equity. That means if the per-share premium is $0.25, the total premium comes to $25.

Of course, premiums are higher for options that are more likely to be profitable, as these present a higher risk of financial loss for the contract writer.

There are two types of options available to you. Call options give you the opportunity to buy shares at a pre-determined price. You have the right to “call” the shares away from the option writer.

Put options allow you to sell the underlying stock at a pre-determined price. You have the right to “put” the shares to the option writer.

It can be tricky to find balance between the amount you are willing to pay for an option and the probability that your options will be worth exercising.

As you research available options and make decisions about how much you are willing to invest – and possibly lose – you will come across financial analysis terms known collectively as the Greeks.

The Greeks refer to measurement of specific factors that impact risks associated with particular options. As with any investment, the higher the risk, the higher the potential reward.

The Greeks

The four most common terms you will hear in reference to options are delta, gamma, theta, and vega. They reference the following factors in risk assessment:

• Delta – Measures how the movement of underlying stock prices affect option prices
• Gamma – Measures the exposure of the option delta against increases or decreases in the underlying stock price
• Theta – Measures how the option price is impacted by the passage of time
• Vega – Measures the impact of changes in volatility of the underlying stock on the price of options

What Is Options Vega?

A stock’s volatility is the amount it changes – both up and down – in a given period of time. If the range of highs and lows is quite large, the stock is considered highly volatile.

If the range is narrow, you can count on share prices to remain fairly steady.

Investors who don’t like a lot of excitement tend to stick with low-volatility stocks, while those interested in high-risk/high-reward opportunities are more likely to consider stocks with high volatility.

To put volatility into perspective, these are some of the most volatile stocks on the S&P 500 over the last three years:

• Nektar Therapeutics – Monthly Price Volatility 29.80
• Twitter Inc. – Monthly Price Volatility 14.27
• Nvidia Corp. – Monthly Price Volatility 14.13

These are some of the least volatile stocks on the S&P 500 over the last three years:

• Twenty-First Century Fox Inc. Class A – Monthly Price Volatility 8.13
• Walmart Inc. – Monthly Price Volatility 5.39
• Western Union Co. – Monthly Price Volatility 4.40

Options contract writers consider the volatility of stock prices when determining the cost of the option. After all, if the underlying stock is highly volatile, there is a greater risk that the options will be exercised.

Implied Volatility (IV) is the predicted volatility of the underlying stock price over the period covered by the options contract.

This is generally determined based on a combination of factors that include historical price changes, recent price changes, and expected price movement.

A stock with low IV is expected to remain steady from a pricing perspective, while a stock with high IV is expected to move up or down – or both – before the option expires.

IV is expressed as a percentage, so a stock with an IV of 20 percent is expected to be priced within 20 percent of its current value one year from now.

The options vega is the amount an option premium changes for every one percent change in IV. This figure is noted as a raw number, not a percentage.

How Options Vega Affects Options Pricing

When options are close to their expiration date, the vega is negative. That means lower premium pricing.

As options get closer to their expiration date, there is less uncertainty about whether and how the stock’s price will change.

Conversely, the option vega is positive when there is more time before the expiration date, and there is a relationship between longer contracts and an increase in the option vega.

More time means higher likelihood of movement in the stock price. It is harder to predict what will happen in the market over lengthy periods of time. This increases risk for contract writers – and potential reward for options holders – so writers can attract buyers who are willing to pay higher premiums.

Remember, American options can be exercised at any time before the expiration date, so contract writers take on quite a bit of risk when the underlying stock is highly volatile.

European options can only be exercised on the expiration date, which changes the type of risk contract writers incur. Premiums for specific options change as the underlying stock price fluctuates, and in many cases, options are traded several times before the expiration date.

How Options Vega Works Example

This is an example of how options vega affects options pricing:

Stock EFG is trading at $46 in June, and $50 call options expiring in July are available for $2.

The volatility of the underlying EFG stock is 25 percent, and the option vega is 0.15.

What if EFG’s underlying volatility increases to 26 percent?

The additional one percent means an increase in premium equal to the option vega, or $0.15, for a total of $2.15.

Alternatively, if the volatility decreases to 24 percent, the premium is likely to go down by $0.15 to $1.85.

Ready To Trade Using Options Vega?

Trading options can be a good way to build wealth without risking large amounts of cash. The key is understanding how premium prices are determined, so you know when you are getting a good deal.

Another important factor is the broker you select. Serious options traders who care about implied volatility, vega, delta, gamma, and theta require options trading platforms that support cutting-edge tools to view risk graphs, fast and accurate order execution to ensure best fills, and affordable commissions.

tastyworks and thinkorswim feature among the very best options trading platforms. Both are world class in cater to stock, options, and futures traders.

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

The article What Is Options Vega? was originally posted on Investormint

Investors who prefer a less-risky strategy than betting on a hot stock tip put effort into research. They examine each company’s financials, and review the challenges and opportunities facing the particular business – as well as the industry in general.

There is a seemingly endless array of analysts and market researchers willing to offer opinions on the future of specific companies, industries, and the market as a whole. It can be difficult for an average investor to sift through all of the material and pull out the most reliable – especially when data conflicts.

A deep understanding of the terms analysts use and how they make their recommendations is the best way to separate useful information from amateur opinions.

One of the most frequently misunderstood terms is “overweight”. When analysts describe stocks as overweight, it is common for investors to take that as a recommendation to buy.

However, the term overweight doesn’t always mean buy – and if it does, more information is needed before you can be sure exactly how much to invest in a given security.

This guide offers insight into when analysts use the term “overweight stock”, as well as details on additional information you should review before making a trade.

What Does an Overweight Stock Rating Mean?

At its most basic, an overweight rating means that the analyst believes a stock will increase in value over the coming months.

It generally correlates to a “buy” rating, as the analyst is saying it is possible share prices will outperform industry peers and/or the market as a whole.

Analysts using the term overweight are typically looking at a six – twelve-month timeframe, though in certain cases the timeframe may be shorter or longer.

They may rate a given security as overweight for any number of reasons. Some of the data they look at include the following:

• Positive news from the company or industry
• Strong earnings reports
• Outperforming earnings per share and revenues estimates
• How the company’s financial statements compare to competitors

It is important to note that the term “overweight” used in reference to a stock rating is an entirely different concept from the term “overweight” used in reference to a portfolio.

A portfolio that is overweight in a certain type of asset may be relying too heavily on that asset. Ideally, portfolios contain a balanced mix of assets that reflect financial goals and the investor’s tolerance for risk.

If you invest in an index fund, you might hear that a company is “overweight” in that fund. That means the fund has more of a particular company’s shares than does the underlying index. For example, as of September 30, 2018, Apple made up 4.21% of the S&P 500 index.

A variety of firms manage index funds that track the S&P 500, including Vanguard, Schwab, Fidelity, and T. Rowe Price.

If any of the index fund managers elected to increase Apple holdings above 4.21 percent, the fund could be described as “overweight” in Apple. Again, this use of the term overweight is not related to overweight in the context of a stock rating.

Why Overweight Stock Ratings Can Be Confusing

One of the issues individual investors face when choosing stocks for their portfolios is the varied terms analysts use to make recommendations. Analysts are employed by private investment firms, and there is no requirement that they use consistent language.

You might hear a stock rated as “buy“, “overweight“, “outperform“, “accumulate“, or “add“. All of these are positive ratings. Exactly how positive depends on context, as well as whether the analyst is working with a three-tier or five-tier rating system.

Adding to the complexity of defining “overweight” is the fact that analysts may also use this term to describe entire industries. For example, an analyst who believes the technology sector is poised for growth in the next six – twelve months might describe the sector as overweight.

Does an Overweight Stock Rating Mean Buy or Sell?

The bottom line is that an overweight rating is a positive sign that a given security could be a good investment.

However, a single analyst’s positive rating – and even multiple analysts’ positive ratings – aren’t enough to make a buy decision.

After all, analysts often disagree. These ratings are pieces of a larger puzzle, and you need to see the full picture before handing over your hard-earned cash.

Before investing in any business, review analyst ratings to get a sense of which types of businesses might best meet your financial goals. This is a good starting point, but remember some analysts are pursuing their own agendas – and it is unlikely that their agendas align with yours.

Next, collect additional information that offers critical insight into the companies’ prospects. Examples of useful information include the following:

• Past price performance
• Earnings reports
• Profit margins
• Amount of debt compared to assets
• Dividend history

You are looking for consistent revenue growth over time, as well as a reasonable amount of profit. You can calculate this by determining the difference between revenue and expenses, thought admittedly it gets quite a bit more complex if you want to factor in taxes, or one time charges – such as building purchases.

Overweight Stock Ratings Are Not Enough

Finally, make sure you have a high-level understanding of the business you are investing in. How does it make money now, and how does it plan to make money in the future? Do you believe this company can change and adapt with changing consumer needs?

For example, a business that has been unwilling or unable to open digital service channels and e-commerce options may be less likely to be successful in coming years.

Stocks like Netflix and Alphabet (aka Google) became extraordinarily successful because they were at the cutting-edge of new technology shifts. Is the company you are considering at the cutting-edge or a laggard?

Ready To Start Investing In Overweight Stocks?

To begin investing in stocks that are rated highly or simply to conduct more due diligence on stocks that may be worth of your hard-earned capital, open a brokerage account at a top tier firm.

Top stock brokers, like tastyworks feature a wealth of tools and screener to help you select hidden gems that may otherwise go undiscovered.

>> Legendary Stock Market Quotes

>> Best Stock Market Books For Beginners

>> When Should You Sell A Stock?

The article What Does Overweight Stock Rating Mean? was originally posted on Investormint

Experienced traders know it is possible to turn a profit, even when the selected company’s shares lose value. Purchasing options to buy (call) or sell (put) shares in the future at a pre-determined price comes with risk – but when the bet pays off, there may be substantial rewards.

Option Assignment: The Basics

An options transaction begins with a contract. The writer of the contract agrees to buy or sell shares at an agreed-upon price, known as the strike price, within a specified timeframe.

In the US, the holder of the contract can exercise the option to buy or sell stock at the strike price any time, up to and including the contract’s expiration date. European options can only be exercised on the on the contract’s expiration date.

Options contracts are typically written in 100 share increments, so if the premium fee is $0.30 per share, one option (100 shares) would cost the contract holder $30.

Investors who hold options contracts are not required to exercise them. If they choose not to, they lose the per-share premium fee paid for the contract.

Risks & Benefits Of Options

Investors who believe that stock prices will increase can purchase options to buy shares at a specific price.

If share prices go up as expected, the contract holder has an opportunity to purchase them at the agreed upon rate, which is lower than market value. The contract itself can also be sold to other investors who want the option to buy at the option price.

Investors who believe share prices will decrease can purchase options to sell (or put) the shares to the contract writer.

Assuming the stock price does, in fact, go down, the contract holder profits by selling shares for more than market value.

Alternatively, if the contract holder does not already own the shares, it is possible to sell the contract itself. It has value to other investors who own the shares and want to reduce their losses when the value drops.

Assigning options is the process through which options buyers exercise their rights to buy or sell stock at the price agreed upon in the option contract. The transaction is “assigned” or matched to a contract writer, and the contract writer must meet the terms of the option agreement.

While the option contract buyer is not required to exercise options, the option contract writer is obligated to meet the conditions outlined in the agreement.

Short Call Option Assignment

Investors with options to buy shares at a pre-determined strike price own call options. They can buy or “call” shares away from the contract writer if they choose to exercise their options.

Call Option Assignment Example

Shares of XYZ Co. are currently selling at $50 per share. You believe the price will increase to $60 per share within a month. You purchase an option that allows you to buy 100 shares at $55 within the next month. This costs you $0.25 per share, for a total of $25.

If the share price doesn’t go above the strike price before your option expires, your loss is $25. However, if it does rise beyond $55, your option is “in the money”.

Say share prices increase to $58, and you choose to exercise your options. The transaction is automatically assigned to an option contract writer, and you have an opportunity to call or buy 100 shares of XYZ Co. from that writer at $55 per share.

Your profit is $3 per share or $300 (for every 1 call contract purchased), less the $25 premium and any transaction fees. To lower your transaction costs, consider tastyworks which charges $0 commissions on closing stock and options trades (*clearing fees still apply).

tastytrade SPOTLIGHT
Investormint Rating 1 2 3 4 5 4.5 out of 5 stars	Commissions: Closing trades for Stocks & ETFs and Options are commission-free Account Balance Minimum: $0 Commissions: $0 flat rate for stocks Get Started via tastytrade secure site

Option holders sometimes choose to exercise their buying rights even if share prices don’t increase as expected when there is a dividend coming up. Of course, this only makes sense when the amount of the dividend is enough to offset fees and still turn a profit for the option contract holder.

Short Put Option Assignment

A contract to sell shares at a specific strike price is referred to as a put option. These are typically used when investors believe shares of a specific company will go down, and they want to protect existing assets or profit from this downturn in the stock’s price.

Put Option Assignment Example

It works like this: Shares of XYZ Co. are currently selling at $50 per share, but you believe the price is going to drop by 20 percent. You purchase an option to sell 100 shares at $45 within the next month, which is the price you originally paid when you bought the shares. You pay a premium of $0.25 per share, or $25 (for each option contract).

As expected, XYZ Co. experiences a dramatic loss, and shares drop to $38 each. Since you already own these shares, along with a put option, you can “put” them to an options contract holder.

Your transaction is assigned to a contract holder automatically, and the holder must purchase your shares at $45 each. This mitigates the loss you might have otherwise experienced when your stock lost value.

Even if you don’t already own the shares, you can still profit from a put option. You can buy the shares at their current price of $38, then sell them by exercising your option to sell at $45, or you can sell the contract itself. Others who own XYZ Co. shares are also looking for ways to offset some of their losses.

Option Assignment Can Be Good!

Selling call and put option contracts comes with significant risk, even for the most seasoned investors.

The upside is that when options expire without being exercised, contract writers profit from the premium fees collected. The downside for call contract writers is the potential loss of profit if share prices increase substantially and your options are assigned.

Writing put contracts is slightly less risky, in that contract writers can hold the purchased shares in hopes that prices eventually recover.

Those who hold options contracts risk the loss of their premium fees, but this can be a worthwhile gamble for a number of reasons.

Options can be used to protect a portfolio from the standard ups and downs of the market – a useful feature for investors who have short-term financial goals.

They can also offer an opportunity to speculate on future market changes with limited risk, as the only loss is the loss of premium fees.

To get started trading options, view risk graphs, and access free options trading tutorials, check out thinkorswim.

>> Options Vs Stocks

>> Buying Puts: How To Bet Against The Market

>> How To Trade A Bull Put Spread

The article What Is Option Assignment? was originally posted on Investormint

In the world of finance, equity research is the link between investors and corporations.

An equity research analyst usually has a specialty sector, such as technology or healthcare.

Within a particular sector, the equity researcher may cover as many as 15-20 companies, meaning they analyze the financials, speak with management where permitted, and provide insights with respect to future business trends, opportunities and risks.

Investment management firms employ equity research analysts to conduct detailed financial analysis in order to assess whether a company may be overvalued, fairly valued, or undervalued.

Banks who sell research to investment management firms and other clients employ equity research analysts in their Equity Research divisions. This research can also be used to inform corporate development officers when considering mergers or acquisitions, as well as leveraged buyout offers.

But what exactly do equity research analysts do, what do equity research reports look like, and how much do equity research analysts earn?

What Does An
Equity Research Analyst Do?

An equity research analyst usually splits time between qualitative and quantitative due diligence.

Some buy-side investment management firms will emphasize qualitative research. For example, Warren Buffett, who may be the most famous of all equity research analysts, is renowned for emphasizing that investors focus on the competitive dynamics of an industry.

The idea behind his investing philosophy stemmed from one of his first investments in Berkshire Hathaway, which originally began as a textile mill. He realized that even a good manager couldn’t fight against the powerful forces commoditizing the textile industry.

As an investor, it is better to research investment opportunities in sectors that have sustained tailwinds.

Even investment management firms that concentrate on qualitative research to assess a sector and company’s trends, opportunities, strengths, and weaknesses will conduct extensive quantitative research.

Usually, this means building a financial model that accounts for income statement, balance sheet, and cash flow statement figures.

The equity research analyst will typically build a valuation model, such as a discounted cash flow forecast and relative valuation model, to identify whether a company may be worth scooping up.

As a result, equity analysts are well-versed in fundamental analysis, so they can spot nuances in company figures, like one-time charges, equity dilution from stock issuances, as well as make adjustments for currency swings and non-recurring items.

Equity Research
Companies & Teams

Many of the top banking and financial institutions have their own equity research divisions.

Some of the leading equity research companies include:

• J.P. Morgan Chase & Co equity research
• Goldman Sachs equity research
• AllianceBernstein L.P. equity research
• State Street equity research
• Morgan Stanley equity research
• Barclay’s Capital equity research
• Credit Suisse equity research
• Matthews Asia equity research
• Bank of America Merrill Lynch equity research
• UBS equity research

Many large and mid-size investment banks as well as boutique and regional investment banks have their own in-house equity research teams too.

Mid-size firms include BNP Paribas, Brown Brothers Harriman, Cantor Fitzgerald, Evercore Partners, Guggenheim Partners, Houlihan Lokey Howard & Zukin, Lazard, Nomura, RBC Capital Markets, Rothschild, Stephens Inc, The Blackstone Group, and William Blair.

Boutique and regional firms include Alderwood Capital, Aquilo Partners, Ascent Partners, Berkshire Capital, Boston Capital Partners, The Courtney Group, Dresner Partners, JMP Group, Maxim Group, Mazzone & Associates, and Susquehanna International Group.

Equity research teams at these firms are usually structured with the lower ranking team members labeled Equity Research Associates and the more senior members earning the title Equity Research Analysts.

To become an equity research associate, you usually need to join an institution after graduating from college or with an MBA. Or you may be hired from another division if you have notable expertise in a particular area.

Equity research analysts also come from industry. For example, a medical student graduate who works on healthcare consulting projects at a top tier firm like McKinsey, Bain, or BCG may have so much domain expertise that research firms want to hire them.

Once part of an equity research team, analysts will not only conduct due diligence on a specific group of companies but also on their competitors. As a result, the role is generally a good fit for analysts who have a voracious appetite for knowledge and an insatiable curiosity to learn more.

If you’re thinking of a career in equity research, one of the best steps to take is to get an equity research internship, which is a low-risk way for both the firm to get to know you and a fast-track way for you to get experience.

Equity Research Report

Whether you are buying equity research or producing it for clients, the structure of an equity research report is fairly standardized.

To make investing decisions, portfolio managers want to know whether an opportunity exists to buy stocks on sale. Similarly, LBO and M&A bankers need to know whether companies are fairly valued.

Quantitative analysis features heavily in making buy and sell decisions. Some of the important metrics for companies like Facebook, Amazon, and Alphabet include return on invested capital (ROIC), earnings per share estimates, and revenue growth.

A good analyst often begins by building a revenue model, which is a spreadsheet featuring a list of variables that affect revenues.

For example, Facebook revenues will depend on the number of users on its platform and how much time they spend engaging on the site.

Google’s revenues will be affected by the number of ad clicks and the price per click among other factors.

Netflix revenues will be influenced by the number of subscribers and the monthly price paid per subscriber.

A good equity research report will concisely inform readers what the key metrics are and provide sufficient information to provide insight into significant forces affecting the company, whether internal, industry, or from competitors.

Generally, equity research analysts spend countless hours scrutinizing data and gathering information from reading quarterly and annual reports. Frequently, they meet with a company’s top brass executives too.

After the information gathering and number crunching phase, the equity research report is written, polished and made available to clients, who could be mutual funds, pension funds, investment management firms, accredited investors, or even high net worth investors.

What Type Of
Equity Research Analysts
Are There?

Equity research analysts who work on the buy-side publish equity research reports that are heavily focused on finding value stocks so they can spot winners.

These analysts are experts in knowing how to research stocks and finding stocks on sale to buy.

Many are also skilled in identifying overvalued stocks to short.

Usually, these research reports are not made available to the public and include proprietary equity research.

Some investment management firms commission buy-side equity research that will emphasize the results of financial models while others will pay equal attention to financial analysis as much as they will to issues like managerial control, sustainability criteria, governance issues and even ethical violations.

Usually these buy-side research reports are supplemental to sell-side research reports that feature extensive due diligence, such as competitive analysis, supply chain analysis, customer research, and management interviews.

Buy-side analysts can generally purchase sell-side research that includes financial models. For example, a financial model on a semiconductor chipmaker may include extensive quantitative data on microchip types, volumes, and prices.

One common trait among both buy-side and sell-side analysts is they often have high communication quotients (CQ), so they possess a sufficiently high IQ to crunch the numbers and also have the ability to articulate and concisely share the results of their research.

How Much Do
Equity Research Analysts Make?

An equity research analyst salary can range significantly depending on the firm.

Analysts at top tier investment funds who are also equity partners have been known to make millions of dollars per year.

More typically, equity research analysts’ salaries are in the low six-figure range but could be as high as $250,000 annually when factoring in base salary plus bonus.

An equity research associate salary will generally come close to six figures, especially if the analyst is more experienced or lives in an expensive city like New York or San Francisco, where higher salaries reflect higher living costs.

Junior equity research analysts tend to make quite a bit less – approximately $50,000 on average – but can quickly boost their overall earnings when bonuses are factored in and they rise through the professional ranks.

What Is The Career Trajectory Of
An Equity Research Analyst?

Top performing equity research analysts can spend an entire career covering a single industry if they wish.

However, the allure of high earnings in the hedge fund industry or other buy-side firms can be enticing.

Other opportunities include transitioning to a career in private equity or investment banking.

If you like the idea of deal-making, investment banking may be a good fit.

Equity Research Summary

Equity research combines quantitative and qualitative research. Quantitative research usually involves building financial models like discounted cash flow forecasts to assess fair value while qualitative research may include speaking with company management, conducting customer research and performing competitive analysis.

After conducting extensive research, analysts produce equity research reports that may be used internally by investment management firms to make buy and sell decisions, or sold to clients if published by an equity research firm.

Generally, mutual funds, pension funds, accredited investors, and investment management firms purchase equity research reports.

If you are considering a career as an analyst, you will generally need domain expertise in a specific sector or graduate with a finance or economics degree or an MBA.

To succeed, you will need to be an avid reader, love learning, and be prepared to invest long hours researching companies. If that sounds like your cup of tea, the career offers a trajectory with big bucks to top performers!

Have you worked as an equity research analyst? Do you work on the buy-side or sell-side? What tips can you share to help investors?

>> What Are The Different Types Of Stocks?

>> How Do You Invest In Uber Stock?

>> Which Vanguard Mutual Fund Is Best: VTSAX or VFIAX?

The article What Is Equity Research? was originally posted on Investormint

YoY is a financial term that means year-over-year. Stock market investors use year-over-year comparisons of financial metrics to assess performance. For example if revenues increase year-over-year it shows performance has improved.

Year-over-year comparisons can be made for financial statement metrics, such as revenues, expenses, assets, and liabilities, as well as percentage returns in share price and just about any other financial metric that jumps to mind.

It’s especially important to use yoy comparisons when you are considering investing in a company that has seasonal spikes in performance. For example, a company that installs swimming pools may enjoy a boost in revenues over the spring and summer seasons compared to the fall and winter seasons.

If you compared revenues during summer with those during winter, it would be akin to comparing apples to oranges. However, if you were to compare revenues earned this summer to those earned last summer, you would have a more accurate yoy performance comparison by stripping out the seasonality swings.

How To Calculate YOY Growth

YOY growth can be a positive or negative number. If a share price increased from $100 on Jan 1 last year to $120 on Jan 1 of this year, the yoy growth is 20%.

But if the share price declined from $100 on Jan 1 last year to $80 on Jan 1 of this year, the $20 loss in share price would be described as negative yoy growth, or negative growth of 20%.

To calculate yoy growth, simply divide this year’s financial metric by last year’s financial metric and subtract 1.

So, in the example above, $120 divided by $100 is equal to 1.2 and after you subtract 1, you end up with 0.20 or 20%.

Similarly, when you divide $80 by $100, you end up with 0.80 and after subtracting 1, you end up with -0.20 or -20%.

Financial Tip: Make sure that you use equivalent dates on each year.

If you wish to calculate yoy growth in share price from one year to the next don’t use different dates, such as Jan 1 this year but Feb 1 last year. The only exception is if you were comparing performance from one year to the next using Feb 29 of a leap year as the benchmark starting date.

When Should You Use YOY Comparisons?

Anytime you want to gauge performance of a financial metric while stripping out seasonality effects, yoy comparisons are useful.

A company like Amazon or a retailer like AutoZone will naturally have spikes and troughs in buyer demand.

Around the holiday season in the fourth calendar quarter of the year, a surge in consumer purchasing takes place.

If you were to compare revenues from the fourth quarter with those of the third quarter in a retail company, you might falsely deduce that the company is growing massively.

Equally, if you were to compare revenues from the first quarter with those of the fourth quarter, you might come to the wrong conclusion that revenues were plummeting.

In reality, the spike in fourth quarter revenues stems from a predictable spike in consumer demand for goods over the holiday season and so a more accurate performance comparison would be to examine how revenues fared from one quarter this year to the same quarter last year.

You should compare fourth quarter revenues this year with fourth quarter revenues last year or first quarter revenues this year with first quarter revenues last year for a like-for-like revenue comparison.

How Investors Use YOY Growth Comparisons

Let’s pretend for a moment that you are a Wall Street research analyst tracking performance of Alphabet stock, better known as Google.

You probably track dozens of financial metrics but a couple of key metrics are the number of clicks and the average cost per click.

If either of these key metrics rises from one year to the next with all else staying the same then the revenues will increase.

What investors often care about though is not only how these metrics compare from this year to last year, or yoy performance, but the pace of change of the growth.

For example, if the number of clicks increases 25% yoy this time last year but only 10% yoy this year, then an analyst may be concerned that the rate of growth is slowing, even though the yoy growth is still positive.

Should Investors Compare YoY or QoQ?

Just as year-over-year growth can give investors insights into how a financial metric has performed from one year to the next, so too can quarter-over-quarter, or QOQ, tracking provide insights into performance from one quarter to the next.

A company that is immune to seasonal swings in consumer demand is a good candidate for quarter-over-quarter performance comparisons.

For example, Facebook users regularly log in each day whether it is spring, summer, fall, or winter. Some seasonal effects may take place over holiday periods, but largely the user base will log in regularly and click on ads from one day to the next without large quarterly spikes or dips.

If you want to compare how Facebook users are growing or revenues are rising (or falling) over a shorter period than a calendar year, QOQ numbers can provide useful insights.

The financial calendar quarters are broken down as follows:

Quarterly Earnings Reporting

Each quarter, publicly traded companies report earnings. Management teams file 10-Q reports with the Securities and Exchange Commission, or SEC.

Financial statements are reported in these 10-Q reports and contain detailed information about financial metrics over the prior 3 month period.

A 10-K report is filed annually also, and it accounts for the first three 10-Q reports as well as the final quarter’s report.

Typically, the 10-K report is more detailed than the 10-Q reports, and so financial analysts will use it as the basis for making ratings recommendations.

Once a 10-K or 10-Q is reported, financial analysts will update spreadsheets, known as financial models, to account for the latest financial metrics, and these are generally used to make valuation projections, often using methods such as discounted cash flow forecast models.

>> Find Out How To Research Stocks

>> What Are Bonds?

>> See How To Invest Money Wisely

The article What Does YoY Mean? was originally posted on Investormint

A firm’s market-to-book ratio is a measure of its market value relative to its book value. Sometimes, it is called the price-to-book ratio, where the book value is equal to the accounting value of the firm.

In Warren Buffett’s annual Berkshire Hathaway shareholder letters, he has reported book value each year despite admitting that it is not perfect in determining the value of a firm.

Buffett describes the measure as a “crude but useful tracking device for the number that really counts: intrinsic business value.”

It is generally easier to track book value for asset-rich companies, such as industrial companies that make equipment, railway companies, and manufacturers with tangible assets. Banks and insurance companies also make good candidates to track book value because of the steady inflow of assets.

Where book value runs into trouble as an accurate measure is that not all companies follow the same accounting practices. A manufacturer may spend a lot of money buying equipment that has lower re-sale value in the real world than is reflected on the books when factoring in depreciation. So, it may seem as if the company is more valuable than it is in reality, creating a value trap for investors.

How Is The Market-To-Book Ratio Calculated?

The market-to-book ratio is calculated as the market value of the firm divided by the book value.

Market-to-book Ratio = Market Capitalization ÷ Book Value

The market capitalization of a firm is set by the public share markets, and depends on the price per share of the stock and the # of shares outstanding.

Market Capitalization = Share Price × Total # Shares Outstanding

The book value of a firm is the net asset value of the firm. Theoretically, it is the sum of every single thing a company owns (including desktop staplers!) and owes.

In practice, the book value is calculated as the sum of a company’s assets that are easily quantified, such as property, inventory, equipment, and financial assets, including cash, stocks, and bonds minus the sum of its liabilities.

The book value of a firm is calculated using the formula:

Book Value = ∑Assets − ∑Liabilities

To more accurately approximate the book value, the balance sheet will include the accumulated depreciation of assets.

Sometimes, the market-to-book ratio (M/B) is displayed on a per share basis:

Market-to-book Ratio = Share Price ÷ Book Value Per Share

What Is A Good Market-To-Book Ratio?

The purpose of calculating a market-to-book ratio is to figure out whether the stock is undervalued, and therefore a good investment, or overvalued and perhaps a good short stock candidate.

Usually the market capitalization will be greater than the book value. However, when the market capitalization of a company is less than its book value, the ratio is less than 1.

During periods of economic recession or stock market turmoil, market-to-book ratios can sometimes drop below one, even on fundamentally strong companies, and these temporary dips can create significant opportunities for value investors.

Without getting into the nitty gritty, the general rule of thumb is that if a company has a return on equity higher than its cost of equity, the market-to-book ratio will be greater than one.

>> Related: What Are The Best Value Stocks?

Market-To-Book Ratio Shortcomings

The reason investors generally avoid using market-to-book ratios as a standalone measure when making valuation decisions is that a very low market-to-book ratio could signify that a company is in serious difficulty.

If a market-to-book ratio is less than one, the company may be undervalued but equally it may be that the market is discounting very poor future earnings.

Book value can also misrepresent the true value of a company when acquisitions have been made, share buybacks have taken place, or assets have been written down.

It also fails to account for intangible assets, such as the value of a company’s brand or its patents and intellectual property rights.

Technology companies like Alphabet or Facebook are generally poor candidates to use market-to-book ratios to gauge valuation because the cost to develop software is low relative to the value generated.

Just because these companies may have high market-to-book ratios doesn’t mean that they are necessarily overvalued.

How To Use Market-To-Book Ratios

One of the best ways to use market-to-book ratios is to compare companies in the same sector or industry.

If most companies have a market-to-book ratio of 4 but a single company is trading at a ratio of 12, it may be overvalued. However, a high ratio may be a result of stellar earnings growth expectations too.

Value investors often look for companies that have a growing book values over time because share prices generally increase when a company’s intrinsic value rises.

Some industries will have lower market-to-book ratios than others. Insurance companies typically have lower ratios than technology companies because when disaster strikes, like a hurricane, the insurance companies need to pick up large yet infrequent bills.

During these times, customer claims increase significantly and these in turn reduce the book value of the insurance companies.

>> Is Twitter Stock Buy Or Sell?

>> What Is A Stock Split?

>> What Are The Stocks To Buy Now?

The article What Is A Firm’s Market To Book Ratio? was originally posted on Investormint