investing

The Difference Between Options & Stocks

Justin McCormick

VP of Operations & Finance, WealthFit

If you’re interested in investing, you may have heard promising things about options vs stocks — but you aren’t sure which is right for you.

When you do invest, you don’t want to do it blindly. You want to know strategies. You want to have knowledge that will make you an investor, not just somebody with investments. 

Knowledge can be the difference between huge success and failure. 

In this article, we will explore options vs stocks, and the many ways you can utilize them to achieve your financial goals. 

[ DOWNLOAD: Wanna start trading ASAP? Get our free Option-to-Income Guidebook: Strategies of 7-Figure Option Traders today and start trading options in your spare time ]

Options vs Stocks: What Are Stocks?

A stock is a piece of ownership in a company that is listed on an exchange. 

These pieces of ownership are often called shares

When you buy shares of a company, you become a shareholder

Each company has a certain amount of shares in the stock market that individuals are able to buy and sell on the stock exchange in real time. 

It is up to the company how many shares can be bought. The company can either increase or decrease the number of shares in the exchange. The company will use stock splits to create more shares or reversal splits to diminish the number of shares. 

This is risky business. 

The company must do this with price and demand in mind. If not, there could be some big issues. 

When it comes down to it, trading stocks is all about supply and demand. Supply and demand are constantly evolving and adapting, meaning buyers and sellers of a company’s stock need to keep up. 

Stock Ownership

Each stock you purchase allows you ownership over a certain percent of the company whose shares you hold. 

This does not mean that your shares in stock allow you control over branches of the company. Rather, you get a say in company matters and a return on your investment based on how the company performs. 

To determine what percentage of the company you own: divide the amount of stock you own in that company by the total amount of shares the company is floating in the stock market. 

Here’s an example:

Applied Materials, Inc. (AMAT) currently has 973.58 million shares floating in the stock exchange. Let’s say you own 340.753 million shares of AMAT. 

To determine what percentage of the company you own, simply divide the amount you own (340.753 million) by 973.58 million. You’ll get an answer around 35 percent. That’s a significant amount of shares and it makes you an important owner in the company. 

As a shareholder, this means you can attend major meetings. You also have the opportunity to vote on company decisions that will impact its future, like mergers with other companies or selecting members for its board of directors. 

Typically, shareholders only hold a small percentage of the company. However, people who control a majority of the shares — majority shareholders — are able to make larger decisions for the company.  

The more shares you own, the louder your voice is. 

Why Stocks Are More Valuable As Long Term Investments and Not in the Short Term

In the short term, stocks are driven by emotion and hype. Investors get excited and want to invest in businesses that are launching new and exciting products. 

On the other hand, investors will pull away from a stock when bad deals or shady practices are unearthed. 

However, studying the company’s financials and overall fundamentals can give a dedicated investor an edge on determining a company's future earnings, valuation, and stock price. 

If you choose a long-term investing strategy, then you’ll most likely become a value investor. This means you’ll need to weigh the potential risks and rewards of stocks before you buy.  

Let’s look at our AMAT example once again: 

At $38.65 per share, AMAT is trading way below value. Their targeted average price is typically $60.62 per share. 

This indicates that AMAT is 63.7% undervalued

Your average investor might be turned off by this price drop. 

But value investors, like Warren Buffett, might be even more interested. 

They may decide to study this company’s financials. Here, one of two things can happen: 

  1. If they find that it is a healthy and profitable company with good management, they can reasonably expect the market to correct itself. Until then, they have the opportunity to buy shares for nearly half the targeted average price. 
  2. If they find that there are major flaws in the company contributing to its stock market demise, they can rest easy knowing that their money isn’t invested in AMAT and wait for the next potential investment. 

Dividends can add extra value to stocks the longer you hold onto them. Dividends are sums of money (or shares) paid by a company to its shareholders out of the company’s profits. 

If the dividends are reinvested into more shares of stock, the interest on them will continue to grow and add more value to your shares in the long term. 

This is something Warren Buffett does to increase the value of his investments. 

Reinvested dividends include your yields, which create more dividends and more yields. It’s a cycle that repeats itself over and over, growing and fortifying your portfolio.

Going Long and Short with a Stock

When purchasing stocks, you’re making a bet. 

Maybe you’re betting that a stock price is going up, or long. You could also bet that it’s going to go down, or short. 

This is important to differentiate because going long and going short have very different processes.

When going long with a stock, your goal is to hold onto that stock with no expectation of selling it in the near future. You’re typically using the money from your own bank account to purchase your shares. 

You can also use leveraged loans or credit cards to purchase additional shares at a certain interest rate. 

Going short with shares of stock is different. You don’t use your own money. Instead, you borrow shares from a broker dealer at a specific price level. 

The goal here is not to hold onto these shares and wait for them to accumulate value. Instead, you want to sell the shares and buy them back at lower price rates, then return them to the broker after making a profit.

But this is risky. If the stock goes up rather than down, the broker might ask for their shares back. When this happens, you lose money. 

You can choose to go long or short with a stock, depending on your style and what interests you. 

But be warned — going short with stocks is more popular among wealthy investors via hedge funds. They can afford to make risky bets and lose money. If you can’t, going long might be your best move. 

Options vs Stocks: What are Options? 

Options are an asset class that belongs to a group of securities known as derivatives. 

Let’s look at what that means. 

A derivative is an asset with a price that’s dependent on the price of an underlying investment — like a stock or a bond. In this case, the value of the option will be based on the value of an underlying stock. 

When buying an option, it is important that you consider a few things:

The Strike Price

The strike price is one of the most crucial pieces of the puzzle when buying an option. A strike price is the price you can buy or sell underlying stock for. More on that later. 

The Expiration Date

Unlike stocks, you can’t hold onto your options forever. Options contracts can last one, two, three, six, or twelve months. 

They can also range from one to three years, depending on the person holding it. 

The longer you are able to hold onto your option, the longer you have to do something with it. 

The Premium

When entering into an options contract, you pay a fee for the option called a premium. Premiums are priced per share, and their prices will change based on changes in market prices. 

Options contracts are typically made up of 100 shares of underlying stock, meaning that you are paying a premium for 100 shares of stock. 

Call Options vs. Put Options Contracts

Basically, an option gives you the right to buy or sell shares of a stock at a certain “strike price” by the option’s expiration date. 

Whether you can buy or sell the underlying shares depends on what type of option you buy. 

Call Options

Call options give whoever holds them the power to buy shares of a stock at a set price, also known as the strike price. 

If you buy a call option, you are expecting the underlying stock to experience an increase in price. That way you can use your option to buy the stock at the lower “strike price” even though it’s worth more. 

Here’s our AMAT example once again, but with options:

At the moment, share prices are closed at $38.34. You think the prices will increase, so you want to buy a call. 

Any “strike price” under $38.34 will be “in the money,” meaning you’re on track to make a profit if the stock increases in price before your option reaches its expiration date. 

You buy an option for AMAT with a strike price of $37 and an expiration date of January 2019. When the expiration date rolls around, shares are worth $53. 

Whoever sold you the option is still obligated to sell you those shares of stock for $37. 

This gives you an opportunity to turn a profit by selling those shares now, or holding onto them and hoping their value increases even more. 

Again: the key to call options is to purchase them with low strike prices and the expectation that the stock price will go up by the expiration date. 

Put Options

Put options are the opposite of call options. With puts, you are expecting that the underlying stock is going to decrease in price. 

This way you will be able to sell the stock at a higher “strike price” back to the person who sold you the option by its expiration date, even though the shares are now worth less. 

You do not need to own the underlying stock to use puts, but it’s a smart way to protect your investments. 

Now back to AMAT

You own shares of AMAT and you think their price is going to drop by January 2019. At the moment, share prices are closed at $38.34. You want to purchase a put option above the current price. 

You buy an option with a strike price of $40 and an expiration date of January 2019. 

If AMAT’s stock tanks and shares are suddenly worth $20, whoever sold you the option is obligated to buy your shares at $40 a piece rather than their actual lower value. 

This way, you can protect your investment. 

Reasons for Holding vs. Trading Options

Puts and calls can be considered insurance or hedging strategies for positions in your stock portfolio, as you’re betting on future prices in a certain time period. This is a strategy that is more conservative and long-term. 

However, options do not need to be held until their expiration date — they can be traded at any point to other interested parties. These transactions are typically based on current market prices and changes in premium rates. 

This approach is known as “selling covered calls” and it is one of the main financial strategies that Warren Buffett and other wealthy investors use to create their empires. 

Some people focus on making money by constantly trading these options while some people may enter the deal in the long term selling stock they own at set prices while earning money from the premium. 

Options vs. Stocks and the Law of Attraction

When comparing options vs stock strategies, it’s important to remember that stocks and options are closely linked with each other. 

Options are based on the prices of underlying stocks. Options and stocks can be held for the same company. 

When considering options vs. stocks, it’s also important to remember that they’re both related via the same corporate entity that issued the shares in the first place. 

To choose between options vs stocks, you’ll need to know yourself and your financial situation fairly well. Ask yourself some of these questions: 

  • What is your risk tolerance
  • Are you a long-term investor or a short-term investor? 
  • Where will you get more bang for your buck?

In the end, it will be up to you to determine what investment opportunities are right for you. 

Continued Learning: Options Vs Stocks

If you want to learn more about options vs stocks or other investment opportunities, here are a few free resources:

[ DOWNLOAD: Wanna start trading ASAP? Get our free Option-to-Income Guidebook: Strategies of 7-Figure Option Traders today and start trading options in your spare time ]

Share

Written By

Justin McCormick

Justin is the VP of Operations & Finance. He has leveraged his passion for education, entrepreneurship, and numbers into a versatile portfolio of investments which include stocks, real estate, oil & gas, green energy, real estate lending, online and offline startups, restaurants, and more.

Read more about Justin

RELATED TRAINING

 in 

INVESTING

article
"How Much Money Do I Need To Invest in Real Estate?"

How much money do you need to invest in real estate? It's probably less than you think! In this article, we break down the expenses — the purchase price, the down payment, repairs and maintenance, and reserves — so that you can have a better idea of how much you’ll need to begin investing.

"How Much Money Do I Need To Invest in Real Estate?"

Justin McCormick

Read Now
article
5 Ways To Invest in Real Estate With No Money & Bad Credit

Bad credit is an obstacle to real estate investing, but not a big one. Learn 5 ways to invest in real estate with bad credit.

5 Ways To Invest in Real Estate With No Money & Bad Credit

Justin McCormick

Read Now
article
What's the Difference Between Naked Options & Covered Options?

What are the differences between naked and covered options? If you're an investor, you need to know how to use either (or both) correctly.

What's the Difference Between Naked Options & Covered Options?

Justin McCormick

Read Now
article
Real Estate Investing: A Step-by-Step Path to Early Retirement

How much passive income do you need per month to retire and live the life of your dreams? Learn how real estate investing can get you there fast.

Real Estate Investing: A Step-by-Step Path to Early Retirement

Justin McCormick

Read Now
article
7 Ways to Invest in Real Estate With Little Money

Any cash you put in a real estate investment is cash you can’t use elsewhere. Here are 7 ideas to get that upfront cash as low as possible.

7 Ways to Invest in Real Estate With Little Money

Justin McCormick

Read Now
article
How To Find the Best Real Estate Investment Deals in Your Local Area

All real estate investors begin by finding the best deals on the block. Use these strategies to find the deals others don’t see.

How To Find the Best Real Estate Investment Deals in Your Local Area

Justin McCormick

Read Now
live talk
Using Index Funds to Maintain Your Wealth

“Index funds are the most no brainer investment alive,” Minesh says in this live talk. “They are a license to stay wealthy.”

Using Index Funds to Maintain Your Wealth

live talk
Making Smarter Decisions With Your Money

JP says that if he can educate a teen and help that person avoid making a financial mistake or encourage them to take advantage of a financial opportunity, then his work is worth it. 

Making Smarter Decisions With Your Money

live talk
Investing in Defaults, Foreclosures, and Distressed Properties Due to COVID-19

There are many questions swirling about the lasting economic impact of the Covid-19 pandemic. For real estate investors, one of those questions is how to invest in defaults, foreclosures, and properties with distressed sellers. More importantly, how can you do so the right and ethical way?

Investing in Defaults, Foreclosures, and Distressed Properties Due to COVID-19

live talk
Learn How To Cashflow Gold with Scrap Metal

Because scrap gold has to undergo a refining process, many people don’t know the process, how to sell scrap gold, or even its real value. With the right training, you can buy scrap gold and sell it for a HUGE profit.

Learn How To Cashflow Gold with Scrap Metal

live talk
Generating Passive Income in Real Estate

Learn why Paul Shively thinks residential real estate is a hedge against market turbulence.

Generating Passive Income in Real Estate

live talk
Investing In Real Estate With Little To No Money

Has a lack of money kept you from investing in real estate? If so, you’re not alone. Angela Gregg had the same thought. But then she decided to educate herself on creative ways to invest. After finding a form of financing called a “Subject To”, she utilized her education and made a whopping $205,000 on her first deal — while investing none of her own money.

Investing In Real Estate With Little To No Money

live talk
Why You Need Education — Not "Advice" — to Invest in a Pandemic

In the midst of the economic outfall from the COVID-19 pandemic, many investors are wondering whether to buy, sell, or hold their current stock position, along with many other burning investing questions. Andy Tanner, the founder of the Cash Flow Academy and Rich Dad's Advisor on Paper Assets, explains that what sets apart those who will come out ahead versus those who lose money at a time like this boils down to one question: “do you want advice or do you want to get smarter?”

Why You Need Education — Not "Advice" — to Invest in a Pandemic

article
6 Options Trading Strategies for 2020

Utilize these 6 options trading strategies whether the markets are bullish, bearish, stagnant or volatile.

6 Options Trading Strategies for 2020

Chris Beer

Read Now
article
How to Buy a House Without a Realtor

Follow this 8-step process to buy your dream home while avoiding paying hefty fees to a realtor. Also, learn how to find the right real estate attorney and the best inspectors.

How to Buy a House Without a Realtor

Abhi Golhar

Read Now
Investing 101 for Teens

Investing 101 for Teens

The Beginner’s Guide to Smart, Successful Investing

JP Servideo

Watch Now
live talk
How To Invest In Apartment Buildings

Michael Becker of SPI Advisory, on apartment building investing: how to find properties, make deals, and create passive income from rent.

How To Invest In Apartment Buildings

Invest Like Warren

Invest Like Warren

How To Make Money With Stocks You Don't Own

Andy Tanner

Watch Now
Cash Flow The Stock Market

Cash Flow The Stock Market

How to Leverage the Stock Market to Create Multiple Streams of Income

Andy Tanner

Watch Now
Stock Investing 101

Stock Investing 101

How To Invest In Stocks (Even If You Have No Money To Invest)

Andy Tanner

Watch Now
Before You Invest

Before You Invest

The 4 Secrets to Making Smarter, Safer Investment Decisions

Andy Tanner

Watch Now
Facebook Live Marketing

Facebook Live Marketing

How to Exponentially Increase Your Number of Leads Using Facebook Live

Bob McIntosh

Watch Now
Facebook Messenger Marketing

Facebook Messenger Marketing

How To Find Your Next Great Investment Property on Big Blue

Bob McIntosh

Watch Now
Fearless on the Phone

Fearless on the Phone

How to Talk to Sellers with Total Confidence

Jeff Rutkowski

Watch Now