Praise for Options Made Easy “This is one of the best books on option strategies I have ever read.” —Daniel J. Zanger,President, Chartpattern.com “Guy Cohen builds a foundation for the reader with simple definitions and clear mechanics on what can be a complicated topic. He then approaches each strategy with a context of fundamental and technical analysis and sets the stage for a solid understanding of risk, reward, and probability.” —Dave Whitmore,Senior Strategist, Investor Education, E*Trade Financial “Guy Cohen really does make options easy. Each options strategy has both a visual diagram of the risk and reward, as well as a logical explanation of how the strategy works. Combined with primers on fundamental and technical analysis, Guy shows you how to put the odds in your favor in today’s options markets.” —Price Headley,Founder of BigTrends.com and author of Big Trends in Trading “Guy Cohen has put together a comprehensive, easy to understand, must-read on options for investors of all levels. Practical in its approach, the graphics bring clarity to what beginning investors might consider complicated strategies.” —Joseph Sellitto,CEO, Global Execution Brokers “The best book on options I have ever come across.” —Alpesh B. Patel,bestselling author of Trading OnlineandMind of a Trader “Guy Cohen cuts through the fog and helps all levels of investors grasp the most intricate concepts. He does so with great clarity and brevity despite covering such a broad set of topics. His is an invaluable guide for the interested beginner and the most advanced trader.” —Ned Bennett, former CEO, optionsXpress, Inc. This page intentionally left blank Options Made Easy Third Edition Your Guide to Profitable Trading Guy Cohen Vice President, Publisher: Tim Moore Associate Publisher and Director of Marketing: Amy Neidlinger Executive Editor: Jim Boyd Editorial Assistant: Pamela Boland Operations Specialist: Jodi Kemper Marketing Manager: Lisa Loftus Cover Designer: Chuti Prasertsith Managing Editor: Kristy Hart Project Editor: Betsy Gratner Copy Editor: Deadline Driven Publishing Proofreader: Gill Editorial Services Indexer: Lisa Stumpf Compositor: Nonie Ratcliff Manufacturing Buyer: Dan Uhrig © 2013 by Guy Cohen Published by Pearson Education, Inc. Publishing as FT Press Upper Saddle River, New Jersey 07458 This book is sold with the understanding that neither the author nor the publisher is engaged in rendering legal, accounting, or other professional services or advice by publishing this book. Each individual situation is unique. Thus, if legal or financial advice or other expert assistance is required in a specific situation, the services of a competent professional should be sought to ensure that the situation has been evaluated carefully and appropriately. The author and the publisher disclaim any liability, loss, or risk resulting directly or indirectly, from the use or application of any of the contents of this book. FT Press offers excellent discounts on this book when ordered in quantity for bulk purchases or special sales. For more information, please contact U.S. Corporate and Government Sales, 1-800-382-3419, [email protected]. For sales outside the U.S., please contact International Sales at [email protected]. Company and product names mentioned herein are the trademarks or registered trade- marks of their respective owners. All rights reserved. No part of this book may be reproduced, in any form or by any means, without permission in writing from the publisher. Printed in the United States of America Second Printing: July 2013 ISBN-10: 0-13-308789-1 ISBN-13: 978-0-13-308789-5 Pearson Education LTD. Pearson Education Australia PTY, Limited. Pearson Education Singapore, Pte. Ltd. Pearson Education Asia, Ltd. Pearson Education Canada, Ltd. Pearson Educación de Mexico, S.A. de C.V. Pearson Education—Japan Pearson Education Malaysia, Pte. Ltd. Library of Congress Cataloging-in-Publication Data Cohen, Guy. Options made easy : your guide to profitable trading / Guy Cohen. — Third edition. pages cm Includes bibliographical references. ISBN 978-0-13-308789-5 (hardcover : alk. paper) 1. Options (Finance) 2. Speculation. I. Title. HG6024.A3C643 2013 332.64'53--dc23 2012050944 In memory of Geoffrey Glassborow, who cured me from what was supposed to be incurable. This page intentionally left blank vii Contents (c)Contents Acknowledgements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .ix About the Author . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xi Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xii Preface . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xiii 1 Introduction to Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1 2 Into the Marketplace . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .27 3 The Basics of Fundamental Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .47 4 The Basics of Technical Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .81 5 Two Popular Strategies and How to Improve Them . . . . . . . . . . . . . . . . . . . .139 6 An Introduction to the Greeks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .165 7 Bull Call Spreads and Bull Put Spreads . . . . . . . . . . . . . . . . . . . . . . . . . . . .197 8 Two Basic Volatility Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .219 9 Two Basic Sideways Strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .237 10 Trading and Investing Psychology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .261 11 Putting It All Together—A Call to Action . . . . . . . . . . . . . . . . . . . . . . . . . . .277 12 Trading with the OVI . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .287 Appendix IStrategy Table . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .313 Appendix IIGlossary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .325 References and Recommended Reading . . . . . . . . . . . . . . . . . . . . . . . . . . . .339 Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .341 This page intentionally left blank ix Acknowledgments It’s amazing how many parts of your mind go into writing a book like this. As a result, there are a number of people I must thank for both their direct and indirect influence. First to my friend, the late Geoffrey Glassborow, to whom this book is dedicated and whose amazing skills enabled me to prove modern medicine wrong. In 1994, I was diagnosed with ulcerative colitis, an intensely debilitating condition of the lower intestine. The condition was serious enough to lead doctors in both the UK and the U.S. to recommend surgery as the only means of “relief.” At this time, I was in constant pain and fear, such that even venturing out of my home became an achievement in itself. Through Geoffrey, I made a full recovery and also learned how to think. I also need to thank my MBA finance options lecturer from City University (Cass) Business School, Professor Gordon Gemmill. It was his enthusiasm that got me hooked in the first place. Alpesh Patel, thank you for introducing me to the Financial Times and Pearson. Finally, to Dominic and Lulu, who are more family than family. The publisher is grateful for permission to use charts created on OVI Charts, Worden Brothers TC2005, and TradeStation®, the flagship product of TradeStation Technologies Inc. (http://www.tradestation.com).