The world of options is often regarded as mysterious and complex, with brokers in suits furiously hitting keys to buy and sell in the millions of dollars. The mystery surrounding options trading is needlessly there. In reality, trading options is as simple as logging into your broker account. They are traded in a similar manner as stocks with the only key difference being that most brokers won't allow them to be traded on margin. There is a good reason for this. Unlike stocks, options have an expiry date. With stocks, the broker at least as the equity to sell; however, with options the broker cannot recoup any of the lost value.

One often asked question is, "what's the benefit of options?" The answer lies in leverage. Imagine that you have a stock, ABC, worth $100, and $1000 to invest. With a standard, non-margin account, you could buy 10 shares. If your broker gave you 3 to 1 margin, you would then be allowed to purchase 30 shares. Subsequently, a rise of $5 would give you a profit of $150. This is all great, but what if you had the option to make even more money? What if you could, in effect, buy $10,000 or even $100,000 worth of ABC? The only caveat on it is that it must turn a profit before the option expires, otherwise you lose everything.

Such is the prospect and return potential of options. Suppose the day was January 1st, and ABC had a call option for March 20th at a strike price of $100. To have the ability to buy the stock at $100 on March 20th costs you $1 per contract. You then buy $1000 worth of contracts, maxing out your brokerage account. In the beginning of February, the stock is now worth $105 and each contract is now $5. You sell everything off and have a net profit of $4000, representing a return of 400% in one month! It's the equivalent of purchasing $100,000 worth of stock and paying just $1,000 for it.

That's the power of options to make money. Options trading is an agreement between the option buyer (that's you) and the option seller (this person's called the option writer) to sell or buy stock at a given time for a given price. This agreed upon value is called the strike price. If the option writer is agreeing to sell you stock at the strike price, it's called a "call" option. Conversely, if the writer is agreeing to buy stock from you, then it's called a "put" option. In exchange for this right, the option buyer agrees to give a premium to the writer. Each contract represents 100 shares. In the toy example above, the option buyer was getting the right to buy ABC for $100 on March 20th. That means that the buyer can buy ABC for $100 regardless of what the actual stock price is on that day. If the stock price is $200, then the option buyer will pay $100 a share, sell it, and make a lot of money. Conversely, if the stock was worth $1, then the option buyer could theoretically pay $100 a share and lose money. In reality, the latter doesn't happen as the buyer has the choice to not exercise the option. If the stock is below the strike price, the buyer will let the options expire worthless, and all that's lost is the premium.

Now consider what would happen if a put option were purchased. Having a put option means that you can sell the stock on March 20th for $100, regardless of the stock price. For this premium, suppose you paid the same amount, $1,000 for 1000 contracts. Suppose that as in the previous example, the stock goes up to $105. Exercising this option now would make you lose money. You'd have to buy 1000 shares at $105 to sell to the writer at $100, resulting in a loss of $5,000. However, just before March, panic breaks. The company is going bankrupt! Shares plummet to $10. You then buy 1,000 shares at $10 a share and sell them to the option writer for $100 a share. This results in a profit of $89,000 on a $1,000 initial investment!

Early option prices typically reflect the sentiment of the stock direction. For example, if analysts predicted that ABC would reach $110 per share by March 20th, the premium might be $5. Despite the price of $100 in January, no options seller would be willing to give the share away at this price if they felt in three months, there would be a 10% gain. A fair compromise might be for the writer to guarantee the 5% gain.

While the returns in these examples may seem elevated for this article, there are really great opportunities to make money in options trading. Stable stocks, like Microsoft, tend to have very low option premiums  and don't involve a lot of risk. The best plays tend to be on a stock that you expect to be going up very shortly. Options expire so, unlike other investments, you must always think in a much shorter timeframe. With stocks, losses can be recovered over years and months. Options don't have this luxury.

This article has shown the benefits of options trading and has also demonstrated that it's not particularly hard to do. Always start slowly - don't invest thousands in an option that may or may not work. Find a stock that you think will rise within the month and buy one contract with a close expiration date. Then wait for the results. If you lose your money, chances are you won't have lost a lot. Keep experimenting and being on the lookout for good opportunities. With enough practice, you'll be trading options like a Wall Street guru!