American and European Options Trading Style

There are a lot of ways that you can invest in the financial markets with stocks and bonds. Depending on your investing personality, you can choose the “buy it now and hold onto it forever” approach, or you can engage in more complicated, technical strategies to your financial investments. Options trading has the same basic trading spectrum strategies for their investors.

Options are contracts that give an investment the right to buy (call) or sell (put) an asset on or before a certain agreed-upon date. The asset can be a range of investing instruments, including stocks, bonds and much more. The asset will be sold or bought at a specific price called the strike price before the expiration date.

There are two different styles of options. They are called the American and European style and they basically correlate to the expiration date. The American options can be exercised anytime before the expiration date. The European style, however, is more strict and can only be exercised on the expiration date. The American style also deals with options written for stocks and bonds, while the European style will be written on indexes.

The official expiration date for a contract is typically the Saturday after the third Friday in the month. Most of the time, however, the average investor cannot access a broker on a Saturday and the US exchanges will therefore make the official expiration date the Friday before that Saturday.

When an investor is selling an option, there are only two choices available. The investor can hold onto the option until it matures or he can sell it before the expiration date. Many investors will hold onto their options until maturity and they will use the option to trade the asset for profit.

If the investor guesses that the price of a stock or other investment has reached its peak before the option is officially over, he can sell the option in order to get out while the numbers look most beneficial for his situation.

If the market price goes below the strike price, but it is too early to get out of the option or the investor believes that the price will continue to spiral downward, the investor can sell it, losing out on the premium. However, this loss can be used to offset any capital gains taxes he might have accumulated in other areas of his portfolio.

The last option in this case is to just let the options contract expire. There is no obligation to buy or sell the asset like there is in a futures contract. You have only been given the right to buy or sell if you wish. But you will find yourself losing the premium if the strike price is not where you want it to be on the expiration date.

Options contracts have all of the usual risks and uncertain situations that are typically associated with buying stocks. The prices can change when you least expect it and they will continue to change over a length of time. With the expiration date, however, the options contract makes these price changes a little more interesting than if you used the “buy it and hold onto it forever” strategy. How much the price changes will significantly affect your options contract and these changes can be influenced by a range of factors.

         

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