Reading this book is the first leg of a journey that will ultimately catapult you into living in a bright and colorful world, where you are earning massive returns on your money. I’m talking about multiplying your money by three, four, five, even 10 or more times a year. These types of returns are common for those who use the strategies in this book. I know because I’ve done it, and I’ve seen others do it many times. So, I want to take a moment and acknowledge you for reading this. Great work! If you promise to read and study all seven of these strategies, I promise that I will not disappoint you. Rather, I guarantee that I will deliver to you massive value far exceeding the cost of this book. Be sure to go back and read these strategies as many times as it takes to pick up every little nuance. If you can do this, these strategies will soon become second nature to you. With that said, let’s not waste any time. Let’s get right into understanding the basics about options trading. The first discussion point that needs to be addressed is, “What is an option?” In simple terms, options allow you to control a security without even owning it. To have that control, you pay a premium. How about we use a more tangible example to see if we can bring it down to earth — in terms we all understand. Timothy Scott owns his home outright and wants to sell it. Today, the house is worth $100,000. Ms. Shakespeare approaches Timothy with a deal. She asks Timothy if she can have the exclusive option to buy his home for the asking price of $100,000. She doesn’t want to buy today, but one year from now. Options allow you to control a security without even owning it To have the exclusive option of doing so, Ms. Shakespeare offers Timothy $10,000 for the option. So, let’s quickly summarize. Ms. Shakespeare pays Timothy a $10,000 premium now for the exclusive option to buy his property one year from now for a set price. The set price is commonly called the strike price. The strike price is what she will pay for the home when she exercises her option to buy for $100,000. This is a win-win situation because Timothy Scott was trying to sell his property for $100,000. Instead, he has accepted $10,000, and a year from now, he’ll get his $100,000. In other words, he feels good because he’s locked in his profits. Ms. Shakespeare feels good because she has the exclusive rights to buy the property next year at this year’s price and at a fraction of the price of having to actually buy the property today. Let’s fast forward in our example to one year from now. Let’s say the property appreciates and is now worth $120,000. Ms. Shakespeare buys the property for the strike price they had agreed on, which was $100,000. She then immediately turns around and sells it for $120,000. Let’s examine the financials of this deal. Ms. Shakespeare paid $10,000 for the exclusive option to buy the property. A year later, she paid the $100,000 strike price for the property, and then she received $120,000 when she sold it. So, she walked away with $10,000 in profit. We can begin to see from this example the power of the option. What has to happen to make this deal work for Ms. Shakespeare? She just needs to be able to sell the property for more than her exclusive option premium price plus the strike price — the price she agreed to buy the property for when she exercises her option. Their is great power in options After the year has passed, Ms. Shakespeare can also choose not to exercise her option. She can, instead, forfeit the option premium she paid a year earlier. She might do this if the price of the real estate does not appreciate and is still worth only $100,000, or worse, if the real estate has depreciated and is only worth $90,000. The bottom line is that Ms. Shakespeare’s goal is to make a profit. If she can’t sell the real estate for more than the strike price plus the option premium, she won’t make a profit, so it is better for her to just cut her losses at the $10,000 option premium price and not proceed any further on the deal. Does that make sense? Let’s go back a year to the negotiating table when Ms. Shakespeare negotiated her option agreement with Timothy Scott. At that time, the property was worth $100,000, and Ms. Shakespeare negotiated the strike price of the option agreement to be the same as the price the property was worth at that time. This kind of option deal is called an “at the money” option. Ms. Shakespeare could have negotiated an “in the money option” if she had told Timothy that she would pay a $15,000 premium now to purchase the property a year from now at $95,000. In other words, she would pay Timothy more up front (in the option premium) to pay less on the strike price when the option expires. One more point on this. Generally, an option premium price moves dollar for dollar with the underlying property value when an option is “in the money.” For instance, if Timothy’s property were worth $101,000 dollars instead of $100,000 and Ms. Shakespeare was negotiating a strike price of $95,000 a year from now; she would most likely have to pay a $16,000 premium instead of a $15,000 premium. Do you see how that works? Let’s go back to our initial scenario, again. Timothy Scott’s property is worth $100,000. Ms. Shakespeare can actually negotiate an option deal with a strike price that is higher than today’s value. You can actually negotiate an option deal with a strike price that is higher than today’s value In other words, she can negotiate with Mr. Scott that she will pay him $7,000 now to buy his property in the future at $110,000. That is called an “out of the money” option deal. Ms. Shakespeare is speculating that Timothy’s property will appreciate to over $110,000 by the time the option expires. In order to make her profit, Ms. Shakespeare is speculating that the price of the property will be worth more than $117,000, which is the sum of the strike price plus the option premium price. I want to share a quick note about “out of the money” options. In an option deal that is “out of the money,” it is a lot harder to determine what to pay for the premium price because it is all based on speculation, versus the dollar for dollar price movement of the underlying property, which is the case for an “in the money” option. The option premium price can be complicated to guess. It usually has a few components. The first component is how volatile the price movements are among the properties in Timothy’s neighborhood. Another component is how the prices in his neighborhood, year after year, have either appreciated or depreciated or stayed neutral. It may also depend on news about future plans for the neighborhood, such as a new shopping mall being planned that will boost property values. Finally, it will depend on how far out the option expiration date is. Here’s why. If Ms. Shakespeare has two years to exercise the option instead of just one, Timothy’s property has twice the amount of time to appreciate. Therefore, the option premium would be more expensive. Does that make sense? There is one last twist to this deal, which is that Ms. Shakespeare can actually sell the option before it expires. Let’s take our original example. Ms. Shakespeare approached Timothy Scott, whose property is for sale at $100,000, and negotiates an “at the money” option deal to pay him an option premium price of $10,000 You have the choice to sell your options before they expire today so that when the option agreement expires a year from now, she can purchase the property at the strike price which is $100,000. Now, let’s roll six months ahead. The property has appreciated to $110,000 in six months. At this point, the option agreement is now “in the money.” Dr. Dell comes on the scene and likes the property. Timothy Scott says, “Hey Dr. Dell, I’d love to sell this property to you, but I have an exclusive option agreement with Ms. Shakespeare. She has the exclusive right to buy my property until her option agreement expires with me six months from now.” So, Dr. Dell approaches Ms. Shakespeare and says, “I’d like to buy your option agreement from you.” Ms. Shakespeare says, “No problem, the price is $15,000.” Dr. Dell gives Ms. Shakespeare the $15,000. Now, Dr. Dell holds the exclusive right to buy Timothy Scott’s property at the strike price of $100,000 sometime before the option agreement expires six months from now. Now, let’s analyze Ms. Shakespeare’s situation in this example. Because she used an option agreement, she was able to control Mr. Timothy Scott’s property for a much smaller out of pocket cost — just the option premium fee, rather than the alternative of actually having to own it for the full asking price in order to control it. So, if she would have had to come up with $100,000 to buy it outright, and then six months later, sold it to Dr. Dell for $110,000, she would have made 10% on her money. She used the option agreement instead, so she paid an option premium of $10,000, and then sold that option agreement to Dr. Dell for $15,000. This way, she made 50% on her money. Are you with me? Timothy was happy because he locked in a price of $110,000 on his property that at the time was only worth $100,000. Dr. Dell was happy because he got the right to buy the house for $100,000 six months from now for an option premium price of only $15,000. Options are a win-win situation for everyone involved The house was already worth $110,000, and more than likely, in six months, it would be worth at least $120,000. In fact, if the property was to appreciate even higher, say in the next three months, Dr. Dell may choose to sell the option agreement to someone else entirely and make a profit for himself. There is no telling how many times that option agreement could sell for before its expiration date. Coming back to Ms. Shakespeare, don’t you agree that she is one smart woman? She knows how to leverage her money wisely and how to really super-charge how her money works for her. You see, options trading works in exactly the same way. Only, instead of real property, the underlying security is a stock. Take, for instance, IBM stock. Say IBM is trading at $100 per share today. I could buy an “at the money” option for IBM that expires in six months for, let’s say, $10. That means the option premium price is $10, the strike price is $100, and the expiration date is in six months. Three months go by, and IBM is now trading at $110 per share. Now, my option is “in the money” and is worth $15.00. I just made 50% on my money. It’s amazing and so cool, too. This is exciting stuff! The example I just used is called a call option. With a call option, you pay an option premium price to have the exclusive right to buy a stock at the strike price before the option expiration date. The flip-flop of that is a put option. A put option is where you pay an option premium price to have the exclusive rights to sell a stock at the strike price before the option expiration date. Here’s the difference. Call options produce profits on appreciating stocks. Put options produce profits on depreciating stocks. When you utilize options, you supercharge your money In other words, if I lock in a selling price for IBM at $100 today, and the stock is worth $80 tomorrow, I can buy the stock tomorrow at $80 and then sell it with my option at $100 to make a $20 profit. The mechanics of the transactions that make a put option work are outside the scope of this book, but the conclusions are not. You can make money with options no matter which direction the market is going. In an up-trending, appreciating bull market, we use call options. In a downtrending, depreciating bear market, we use put options. These are the basics of options trading. Go back and reread over this section, if you need to.