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Can anyone explain options to me

There are 2 types of options- a put is the right to buy and a call is the right to sell.

Options are available at different "strike" prices for different months. They expire on the 3rd friday of that month.

You can buy or sell puts and calls. Though your broker might not allow certain plays if you are a newbie, and the only play that is allowed in most IRA accounts is a covered call.

Let's take a look at some JAKK options. JAKK options are currently traded for September, October, December and March.

It's very important with options to look at the bid and ask price. Assume that when you sell an option it will be at "bid" and when you buy it will be at "ask".

Last I checked, the underlying (ie-1 share of JAKK) was $18.15

Sept $17.50 calls have a bid of $1.45 and an ask of $1.70. This means that if you want the right to buy 100 shares of JAKK for $1750, you have to pay $170 (plus commissions). If you want to sell this right to someone else, you will get $145. Options are always in 100 share lots unless otherwise noted.

If September 21 rolls around and JAKK is over $17.50, you can "call" for your shares, that is pay $1750 and receive 100 shares. Note that since you paid $170 for this right, that you are really paying $19.85 per share when all the smoke clears.

You can buy the shares right now for $18.15, so you are effectively paying 9.3% more than if you just bought right now.

On the other hand, what if there's a real problem and the stock goes to 10? You'll have lost the $170, but you'll still have $1750 kicking around that you didn't spend on the stock. You can now buy 175 shares with that money. So even though you "lost" $170, you really "won" 75 shares.

September $20 calls have a bid of 35 cents and an ask of 55 cents. If you just want to gamble that the price gets above $20.55, you can do this. Let's say September rolls around and the stock is $25. Your calls will be worth $5 each, a gain of 809%. And if the stock drops, you only lost $55 total.

If you own shares and you're fearful that they might drop further, you can buy a put. A December $17.50 has a bid of $1.75 and an ask of $2.10. So if you shell out $210, you will be protected from now to december for any decline past $17.50.

My personal preference is to sell covered calls. In June, when the stock was $16.99 I bought some shares and sold september $17.50s for $1.55. This means I effectively paid $16.99 minus $1.55 or $15.44 for the shares. If the stock is over $17.50 on September 21, I will get paid $17.50 each. So this would be a return of 13.3% for 3 months, or 65% annually. If the stock goes down, I can sell another call.

If you are comfortable with the idea that JAKK will go to 21, you might consider a march $17.50, which has a bid of $3.40 and an ask of $3.80. If there is real trouble and the stock goes below $14.35, you will be better off than you would have been with buy and hold. If the stock goes above $21.30, you will start to make a profit. However, note that the stock has to rise 17% just for you to break even or fall 21% for you to stay ahead of buy-and-hold.

If I had my choice, I would personally buy the stock for $18.15 and sell a December $20 call for $1.55. This means I am paying $16.60 for the stock and if it does get above $20, it will be a 20% return in 4 months, or 74% annualized.

It's a really, really good idea to do this all on paper for a few months or even a year before you actually do it in real life. But it is an excellent supplement to the prudent investor.
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