How should I research a stock option?

Question

Options are more affordable for me. Is it the same as researching a stock for a company by looking what the company sells, market cap, institutional owners, and stock price history? Should I stick with IPO's or brand companys?

Answer 1

The first answer had a lot of good information in it, particularly if you are limiting your strategy to buying intermediate to longer-term call options. The problem with limiting yourself to that strategy is one prolonged market correction can wipe out a substantial portion of your portfolio.

Your list, "what the company sells, market cap, institutional owners, and stock price history," is critical if you are buying LEAPS calls as a surrogate for owning the stock. It is essentially meaningless if you are daytrading trying to benefit from short-term trends in the stock price.

You can forget about options on IPOs. Options will not be listed on a stock until it has traded long enough to determine how voliatile the stock price is and that the trading volume meets options exchange standards for listed options.

One thing essentially all successful options traders look at is volatility. They usually compare the implied volatility of the option with the volatilty they expect in the price of the underlying. Doing this frequently includes looking at the historical volatility of the underlying and looking at scheduled corporate events that will occur prior to expiration. They also look for skews in implied volatility between different options for the same, or sometimes similar, underlying issues.

Finally, I suggest you consider your alternatives for dealing with different unexpected changes in the underlying before you open an options position. Everyone is fooled sometimes, so plan on how to deal with bad news before it arrives.

Answer 2

It's important to remember that options have a limited lifetime, and if the stock price does not exceed the exercise price you lose everything, whereas with buying the underlying stock, you'll still come out with something. You can still lose money if the stock price does not exceed the exercise price plus the premium you paid for the option plus commission.

Because of this, researching a stock option will only be similar to researching a stock for the purpose of SHORT TERM gains, so some information like what the company sells is less relevant, than if you were researching to invest in the LONG - TERM. So the usefulness of information, really depends on what or how you were going to use that information.

You also need to consider:
interest rate movements
time until option expires
and volatility

all these things can affect the value of the option "premium" (price someone is willing to pay for an option)