A stock option is a contract giving the buyer the right to buy or sell 100 shares of a stock at a specific price up until a pre-specified point in time. A contract to buy shares is a call and a contract to sell shares is a put. Stock options are risky. Stock options provide great leverage if the stocks moves dramatically up or down, but can expire worthless if the stock does not move in the direction the buyer anticipated.
General Requirements for Trading Stock Options
The requirements to qualify for trading stock options vary among brokerages and the rules are often loosened or tightened in relation to the current economic climate, but at least some previous experience trading stocks is generally required. Most brokerages offer three levels of options trading--simply selling options on stocks that you already own (selling covered calls), the ability to buy calls and puts as investments or hedges, and the ability to sell calls and puts on stocks you do not actually own (selling "naked" puts/calls).
Selling Covered Calls
Getting approved to sell covered calls--that is, to sell calls based on stock that you already own--usually just requires that you be an experienced stock trader. For example, if you own 2,000 shares of company A, then you could sell up to 20 calls (representing 100 shares each) . You will likely have to be approved for a margin account if you are not already, but there is not usually an additional income or capital requirement to be approved for this relatively low-risk level of options trading.
Buyings Calls and Puts
Being approved to buy puts or calls as investments or hedges usually requires both one to two years experience trading stocks and has higher asset or margin requirements (often a minimum of $50,000 in liquid assets) as this kind of investing is speculative and is high risk (and reward). Approval for this level of options trading often requires a credit check. However, some brokerages have lower requirements and/or offer limited accounts or mini-contracts for the smaller investor.
Selling "Naked" Puts/Calls
Trading "naked" calls and puts (where you do not actually own the underlying security) is risky and can result in making or losing large sums of money rapidly if a stock moves significantly. Only experienced traders with at least $100,000 in assets are involved in this kind of high-margin requirement options trading, which is more the purview of stock brokers, institutional traders and professional investors.
- stock exchange image by Christopher Walker from Fotolia.com