Trading options vs. stocks has been a hotly debated topic amongst traders for decades.
Which is safer? Which is more profitable?
There’s no easy answer to either of those questions. Whether you’re experienced or brand new to trading, learning about options and how they work is important.
Options trading can have a BIG effect on how the stock market behaves — so the more you know, the more prepared you’ll be.
But before you take sides, you may be asking yourself… What are stock options? How can you trade them? And what’s the difference between trading options vs. stocks?
In this article, I’ll cover all of these questions and more. Let’s get into it!
Table of Contents
- 1 Options vs. Stocks: What’s the Difference?
- 2 Trading Options vs. Stocks
- 3 Types of Options
- 4 Which Is Safer: Options or Stocks?
- 5 How Much Do I Need to Start Trading Options?
- 6 Options vs. Stocks: Profits
- 7 Are Options Better Than Stocks?
- 8 Is Trading Options a Good Idea?
- 9 Bonus: Options vs. Stocks vs. Futures
- 10 Conclusion
- 11 One Platform. One System. Every Tool
Options vs. Stocks: What’s the Difference?
Unlike stock, options are represented by options contracts, usually written by institutional investors. One options contract represents 100 shares of stock.
An options contract allows the contract owner to buy or sell stock at a predetermined price (called a strike price) before a contract’s set expiration date.
The owner of a contract also has the option to exercise the contract before it expires. When you buy an options contract, no stock is actually purchased. Unless that contract is exercised.
Exercising a contract allows the owner to buy or sell the shares in the contract at the pre-determined strike price before the contract expires.
If the contract isn’t exercised or traded before the expiration date, it expires worthless — poof!
I know… kind of complicated right? Stay with me…
Trading stocks is much more straightforward. With stocks, you buy or sell shares of a publicly traded company listed on a stock exchange.
The stock will always have value unless its price goes to $0.
Trading Options vs. Stocks
When trading options contracts, you should approach everything differently compared to stocks. That includes your strategy, plan, execution — everything.
As a trader, you should never approach trading options the same as stocks.
You wouldn’t chug scalding hot coffee the same as you might with glass or water, right? Well, think of trading options vs. stocks in the same way. Let’s dig in a little more…
When comparing trading options vs. stocks, learning how to trade stocks is generally a lot easier for most to understand … Especially for newer traders.
As a stock trader, you pretty much have two options: buy or sell.
Also, a stock has no expiration date. Shares don’t just become worthless. Usually, a company goes bankrupt, gets delisted, or the stock price drops to $0 per share for that to happen.
There are many different strategies traders use when trading stocks that all follow the same general idea. (Unless you’re short selling, but that’s a topic for a different day.)
I talk a lot about stock trading strategies in the SteadyTrade team — swing trading, day trading, breakout trading, and more. If you’re serious about stepping up your trading game, consider joining our trading community.
Trading options can be a lot riskier…
When trading options, you’re actually trading options contracts. In a nutshell, these contracts allow traders to bet on a stock’s future price action.
There are two different kinds of options contracts: call options and put options.
Call option contracts allow the owner of a contract to buy shares at a set strike price. And put option contracts allow the owner to sell shares at a set strike price — no matter how a stock’s price might fluctuate after the contract purchase.
Options contracts are valued by the price of the underlying company’s stock, the time to expiration, and the price other traders are currently paying for similar contracts.
All options contracts contain three key elements: strike price, expiration date, and a premium.
- The strike price is the price at which a contract could be exercised and shares are bought or sold.
- The expiration date is the date on which the options contract will expire.
- The premium is the fee of an options contract that a trader must pay to buy the contract. It’s always multiplied by 100. That’s because one option contract represents 100 shares of stock.
If a contract isn’t traded or exercised before the expiration date, the options contract expires completely worthless.
Types of Options
As I mentioned earlier, there are two types of options contracts, call options and put options.
Options trading activity can sometimes help predict how traders feel about the current market sentiment.
Call Options vs. Put Options
Generally, if most options traders believe a stock’s price will surge higher, they’ll purchase call option contracts.
No matter how high the stock’s price goes, the buyer will always be able to purchase stock at the contract’s strike price before the expiration date.
For example, say you want to purchase a home in a new neighborhood. You believe home prices in this neighborhood will skyrocket in the future. So you want the right or “option” to purchase a house in the future at a predetermined price.
You sign a contract with the developer that allows you to purchase a home within three years at a set strike price. You pay the premium fee for the contract cost.
Think of the premium as a non-refundable deposit.
The developer keeps the premium fee and you reserve the right to purchase a home for a set price within three years, no matter how high housing prices surge in the future.
If housing prices continue to climb, your contract becomes more and more valuable.
However … if the prices drop below the strike price of your contract, the value of your contract will be close to zero and will expire worthless.
With a put option contract, it’s the same idea … just opposite.
A put option contract gives the owner the option to sell stock at a predetermined price before a set expiration date.
Think of a put option as more of an insurance policy.
Using our previous example, a put option contract would allow you to sell a house at a predetermined price before the expiration. No matter what happens to housing prices in the future, the buyer can sell their home for the price determined in the contract.
Which Is Safer: Options or Stocks?
No matter which type of trading you prefer, there’s always risk involved.
Whether you’re trading options vs. stocks, it’s important to understand the risks involved and to assess your risk management before you begin trading.
Building a well-thought-out trading plan is something every trader should do on the road to becoming a more consistent trader and lowering their trading risk.
I can’t overstate the importance of having a trading plan enough…
However, whether you have a trading plan or not, many consider trading options riskier than trading stocks. This is because an options contract could expire worthless.
A trader could potentially lose all of the money they paid for an options contract premium if the strike price in the contract is never reached. The value of an options contract could go to $0.
Trading stocks is different. As long as a trader owns stock, they’ll always have value as long as the stock price remains above $0. That stock could always be sold, whether it’s for profits or to cover a loss. This is one of the key differences between trading options vs. stocks.
That’s why I stay away from options trading. It’s not really my thing.
If it appeals to you, great! It all depends on how you approach your trading strategy, and how you manage your risk. Just make sure to try to have a proper trading plan in place. Focus on your education, first and foremost.
StocksToTrade does not support options trading, but if you’re looking for a trading platform that allows you to test out different trading strategies and build your stock trading plan in real time, check out StocksToTrade today. Get a 14-day trial for just $7 now!
How Much Do I Need to Start Trading Options?
Most brokers don’t require a certain amount of capital to start trading options.
However, some brokers may require a certain level of options trading experience to be eligible to open an options trading account.
Every brokerage is different, so it’s best to speak to your broker directly.
Before you begin trading, assess your account needs and build your trading plan. This will help you determine your risk management. And it will help you figure out which trading strategies you prefer.
Options vs. Stocks: Profits
Taking profits while trading options vs. stocks is different as well.
When trading stocks, it’s typically easier to take profits using your preferred sell order once a stock’s price hits your target.
However, when trading options, taking profits can be more complicated. The contract you own needs to have some value to attract a buyer. There’s far less trading volume in options trading than in stocks. So sometimes finding a buyer can be more difficult.
There are also more factors that determine how valuable an options contract is.
The expiration date also plays a big part. The longer a contract has to expire, the more time the underlying stock price has to fluctuate. This usually isn’t good for the contract’s value, depending on how close the underlying stock’s price is to the contract’s set strike price.
Therefore, trading a call option or a put option contract to take profits is not as easy as taking profits while trading stocks. There’s less trading volume and the value of the contract is determined by a greater number of factors that could change at any time.
Are Options Better Than Stocks?
Some traders prefer to trade options vs. stocks — and that’s OK.
Whichever type of trading you prefer is totally up to you. It largely depends on your account size, trading knowledge, experience, risk management, trading goals, and trading plan.
No one way of trading is the ‘best.’ Every trader’s unique. It all depends on your preferences and trading goals. If trading options is more your thing, get crackin’! And if stocks are more your speed, get to work.
Make sure to have a plan, do your research, and stick to your guns!
Is Trading Options a Good Idea?
Again, trading options vs. stocks is all about preference…
If you understand options trading well enough and feel comfortable trading them, then sure.
However, understand that options trading can be risky. So make sure you know what you’re doing first before executing your first trade.
If you’re totally new to trading, I always recommend newer traders start with paper trading.
Paper trading is a great way to develop your trading skills — without risking a dime of your capital. Paper trading is simulated trading. It’s a way for anyone who wants to test out trading strategies to see how their trading ideas would perform in real time.
It’s a virtual way to trade — and that means you don’t have to risk a cent of your money! But you can still get a sense of how stocks move, the patterns, and how overall markets can sway stocks.
Remember, trading options is NOT the same as trading stocks. Know the difference and do plenty of research.
StocksToTrade has a great paper trading platform for stocks. Sign up for a 14-day trial for just $7 today to start today!
Bonus: Options vs. Stocks vs. Futures
Bonus time. If you’ve heard of futures trading, you may be wondering what the difference is between options and futures contracts. Aren’t they pretty much the same thing?
Almost. Options contracts and futures contracts are similar … They both have expiration dates, strike prices, and premiums…
However, the most significant difference between options contracts and futures contracts is that options contracts don’t require the buyer (or seller) to buy or sell shares before the expiration of the contract. Futures contracts are an obligation. Shares must be bought or sold.
In futures, there are no options (sorry, pun intended).
That’s trading options vs. stocks in a nutshell.
Remember, no matter what kind of trading you prefer, it’s important to fully understand the risks involved before executing that exciting first trade.
Trading stocks vs. options may seem like less of a risk, but that doesn’t mean there is no risk involved at all when trading them. So take your time, do your research, and build your trading plan.
If you’re interested in trading options, remember to build a plan that fits your goals as a trader.
Test out strategies, learn different techniques, sharpen your skills and study the markets.
And if you’re looking to start your trading journey off on the right foot, consider using the StocksToTrade trading platform. Get a 14-day STT trial for $7 today!
OK … Time to dish on options vs. stocks. What’s your preference? Tell us below!