I am reading Options Strategist by Marc Allaire. If I understand it correctly, both the downside potential and the upside potential is LIMITED with call spreads. Why would you want to enter a trade knowing that you cannot lose more than $500 but you can't make more than $500? It makes sense to limit one's downside potential, but I don't see the advantage of limiting one's upside potential.
2007-10-12 03:50:02 · 2 answers · asked by frozen555 5 in Business & Finance ➔ Investing
Pigs get fat, hogs get slaughtered.
Most anyone who writes a book on investing is going to give as conservative yet appealing an example as possible.
In the example you sight you didn't mention anything else regarding the technicals of the trade. We don't know the amount invested, we don't know the investors level of risk, we don't know what market it's in, the trend of that stock or industry group. We also know nothing about the number of contracts bought or sold, the strike price of the stock or the amount of the premium. Is this example given a written CALL or a purchase? Am I limited to loosing $500 because that is my risk or is that the premium I'm paying for the CALL?
2007-10-13 08:35:51 · answer #1 · answered by Barney 6 · 0⤊ 1⤋
This shouldn't be done on a coin toss type of trade. It should only be done if the trader has a strong reason to believe that the underlying stock is going to move his way, but wants protection if he's wrong.
Expected profit = $500 * probability of being right - $500 * probability of being wrong
2007-10-12 05:35:13 · answer #2 · answered by Ted 7 · 0⤊ 0⤋