Here is what you need to know to pick a strike price
If you have read my introduction article about stock options, you should have a rough understanding of what stock options are. You are probably now wondering how we can make this a bit more tangible. This next piece will strive to guide you to define the concrete steps you need to set forth in order to make start trading stock options.
1. Where do you want to be? ITM, ATM or OTM
The first thing you need to ask yourself is how much risk you are willing to take for this trade. Options trading is a high-risk high-reward game. Options are particular in the sense that you might end up losing the totality of your investment if your options expire Out of the money. Make sure you don’t invest more than you are willing to lose, because that’s very likely to happen.
Choosing an In-the-money strike price is going to give you a higher guarantee that your options expire with some inherent value. Naturally, they come with a higher price tag.
If you are very bullish or bearish on a stock, you decide to take on more risk and choose a strike price that is out-of-the money. Options pricing for OTM is usually significantly lower, because there will need to be major price movements for your contract to expire ITM.
2. How much do you want to pay Or How far out do you want to be?
In the case of ITM options, the further away you are from the current price, the more expensive the option will be. That is, because it has a higher probability to remain in-the-money and thus have an intrinsic value.
At the opposite, options with a strike price that is out-of-the-money, will be cheaper the further away you are from the current price. This is expected, since it has a lower probably to reach a given price at expiration the further you move away.
References
- https://www.optionsprofitcalculator.com/
- Great resource to establish the price to execute a given stategy.
- https://optionsmanual.com/
- Interesting and simple description of trade strategies with the