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I find it useful to think of options as a means to trade risk. I might have a large stock position, the value of which I want to protect, but I don't want to (or cannot) sell. Buying a put option means I have protected my stock holdings' value, because if the stock goes down, I can always sell my puts at a profit that makes up for that paper loss -- for a time, anyway. In this scenario, I'd rather keep my stock and let the puts expire worthless; I'd rather keep the car than collect the collision insurance.

Selling puts to open a position is lovely way of accepting risk in panicky markets: Worst case scenario, you get great companies for a very low price; best case scenario, you are paid handsomely to take risk off the table for people who cannot stomach more risk, then lather, rinse, repeat. Great for crashing markets, but it takes a lot of cash you might wish you had not tied up, as you can no longer use it to move on even more attractive opportunities if the crash continues -- that's the risk.

Buying calls has a risk I am not sure is clear thus far in this thread: Berkshire's stock price could be cut in half, along with the rest of the market, and stay there past your expiration date, only to recover fully and a whole lot more at some point down the line. Your call options: Worthless. You don't sell right after the crash because they are only 90% worthless, but as time goes on, they lose all value. Stock holders get all their value back, but you do not.

Options give you leverage, which can surprise and astonish, and over time, certainly does -- even to the most seasoned investor. There are smart guys on the AAPL board right now discussing how they haven't made anything in AAPL this year, even though they've been long the whole time, even though the stock is up enormously even after the recent 20% haircut, thanks to their options choices. If they had simply bought the stock and held, they'd be much, much better off. For reasons like these, many perfectly sensible people talk about options as though they are necessarily toxic. This need not be the case, but you must appreciate the risks, or else they definitely will be, and even then, they can be tricky.

I use options, and the ways I use them tend to be safer than the simple risk of going on margin. Maybe Jim can back this up -- I have never read it anywhere, but I did the math once: Margin -- in common and popular use in the 1920s -- would devastate an investor trying to hold through the 1930s. Not 30%, not 20%, not 15%: No margin, not even 1%, would have allowed an investor's account characterized by a basket of Dow Industrials to survive the margin call at the close of certain trading days. Leverage in this sense cannot be used over long holding periods without causing greater loss, sometimes catastrophic loss, that otherwise would not be sustained.

So, the trick is, if one is to use options or other leverage or additional risk-taking at all, to sort out when it is a good idea, and how to limit losses. Unless you have developed an account management model that limits your losses but enables you to recover from them, as well as make that extra money the leverage promises in the first place, I would not recommend using call options at all. I have played with many models, with various objectives, and I am still working it out; I know generally for which accounts how much risk to take and how much is enough, but there is simply no specific set of rules I have discovered that always works that also does not also require an escape hatch, one which takes me to a different model in which no leverage is used at all for a period of time. In other words, even if I park only 5% of my portfolio in call options, to be replenished when it declines in value (or goes to zero) every x months, there is no solving for x that satisfies what actual volatility will do: Destroy the value of my account to the point that, in spite of many years of outperformance, I would have been better served not buying options at all. What I have arrived at over a long period of time is a sophisticated model that at its core rests on my own perceptions, guided by the insights of others and their mechanical models, of the market generally and my investments specifically, which simply is not quantifiable, but has outperformed satisfactorily -- thus far, and in spite of conspicuous learning-curve volatility, and only because I chose to change gears radically or sit out certain periods entirely. If I had stayed constantly in any long-only or long-plus-options model I know of, I would be far behind where I am now.

Sorry for such long-winded thoughts, but this stuff is complicated, to the point that I have managed to do little more than point and grunt at a small subset of important considerations. If they weren't important, I wouldn't have bothered, but I am not so sure how much light I have shed. Please, if anybody else has anything they would like to add, corrections or attempts to verify or disconfirm my assertions or positions, or just have a different way of looking at things, jump in.

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