Are You Using Margin for the Right Reasons?
In order to even contemplate trading options, you first have to make sure you’re approved by a broker.
This is possibly the most ridiculous part of the Wall Street smoke screen.
I may get flack for this, but here’s how I see it…
If you tell your broker you have experience trading options and request clearance to execute the most complex options strategies, he’ll probably say yes. If you tell him you have little or no experience, he’ll probably say no.
You don’t even have to pass a test. But that’s not the part that really bothers me.
The part that really grinds my gears is this: You could put your entire life savings in a scammy penny stock, and that same broker probably couldn’t care less.
Yet if you decide to execute a very conservative options hedging strategy, they’re going to make you jump through some hoops.
You can work around the hoops, but it may take a little legwork. For those who are serious about acting outside the box to generate income, I’ll show you exactly how to do so today.
It doesn’t matter what type of account you’re trading in – whether it’s an IRA or a nonretirement account – you have to complete an options and margin agreement.
Yes, in case you didn’t know, you can trade options in your retirement account…
That in itself seems to contradict the notion of riskiness associated with options trading. After all, why would Big Brother let you trade options in your retirement account if he doesn’t allow you to hold life insurance in there?
You can use every type of option trading strategy in your retirement account except the ones with undefined risk. I’ll cover that when I talk about specific strategies in a future article.
But strategies like put selling, covered call writing, and debit and credit spreads are all possible.
The only difference between trading in an IRA and trading in a standard brokerage account is that, in an IRA, you’re required to secure your trades with your own cash – because you don’t have the option to use margin.
Trading on a margin account is like taking a loan from your brokerage. Rather than putting up all of the collateral, your broker requires only that you put up 15% or 20% for a trade.
No matter what type of account you’re trading in, you will need to sign a margin agreement. Yes, that even includes IRAs, where you can’t use margin!
Unfortunately, margin has been misunderstood as a very bad word in most people’s dictionaries… kind of like options.
Unraveling the Stigma
It kills me when I hear people say that trading on margin is dangerous or that options are dangerous…
So are weapons of mass destruction in the hands of a lunatic.
I could make you believe using margin and trading options are worse than black lung disease if I wanted to. And I could overwhelm you with examples of how not to use either one… like I will in an upcoming issue.
But that’s not my goal today. To be clear, I don’t advocate the use of margin by people who don’t know what they’re doing. That’s the key right there.
If you don’t know what you’re doing, don’t use margin, and don’t trade options.
It’s that simple.
I’m here to teach you, but make no mistake: I don’t want you as a subscriber, no matter how much money you could make using my service, if you don’t know what the heck you’re doing and are disinterested in learning.
But getting back to margin…
Margin trading is using other people’s money. In this case, it’s the broker’s money. It’s often referred to as “leverage.”
The brokerage firm asks you to pony up 15% or 20% – or even 50% – of the cost of a trade, and it’ll loan you the other 85%. It’s not unlike borrowing from your bank to buy more than you could afford paying cash.
That said, you can see how this logic could go wrong really quickly in the hands of people who like to max out their credit cards and make the minimum payments, for example.
And it matters because if the underlying trade goes against you, you’ve got to come up with more cash. That means you can rack up huge losses fast based on a very small initial outlay.
But the opposite is also true.
It’s like putting 10% down on a house. If the house is valued at $200,000 and doubles in value to $400,000, your 10% (or $20,000) has made you $200,000… or 10 times your money versus the person who paid cash. He “only” doubled his money.
The hook’s right there.
Trade Like Buffett
If you use margin wisely and for the right reasons – like selling put options to buy shares at much-lower-than-market prices – it’s a win-win.
Warren Buffett has used this exact strategy to his advantage. He wanted to buy Burlington Northern Santa Fe, the big railroad company, back in 2009.
So he sold put options to the tune of $14.8 million.
By selling the puts, he not only collected millions of dollars (in premiums), but also insured that he’d pay a “lower than market” price for shares he had already planned to buy.
I’m sure it wasn’t the first time or the last time he employed a put-selling strategy!
When it’s used for the right reasons (not for speculation), the results are phenomenal.
Selling puts is something we do a couple times a month in my service, Automatic Trading Millionaire. And so far, we’ve collected thousands of dollars. If you’re interested in joining us, click here.
Remember, before you can trade options, you have to understand them. Makes sense, right?
There are no free lunches on Wall Street… and no secret codes for generating cash with no strings attached.
There are, however, bona fide strategies that come close by reducing risk. And it all begins with the essential paperwork outlined above.