How to Start Options Trading

If you’re looking to start options trading, read this beginner’s guide to find out what it takes, step-by-step. 

start options trading

A Beginner's Guide to Start Options Trading

January 7, 2023 | by OptionDirection Team
Introduction

If you’re reading this, you’ve probably heard about the benefits that options trading can offer – leverage, flexibility and hedging. Options allow you to set probabilities and time decay in your favor and generate returns regardless of whether the market goes up, down or sideways. As a seller of options, you can make money even if the stock does nothing. And as a buyer of options, you can generate a huge return if the stock moves in your favor. If you’re a beginner that is looking to start options trading, read on to learn how.

Learn Before You Start Options Trading

Before you start to trade, it helps if you fully understand options trading concepts and strategies. If you need to get acquainted with the theory, here are a few links that can help:

OptionDirection’s basic strategies guide

OptionDirection’s one-on-one coaching

Tastylive’s concepts and strategies page

Tastylive’s beginner options course

Option Alpha’s education page

The Options Playbook’s strategies page

For beginners, we recommend starting with simple risk-defined strategies such as vertical spreads and iron condors. Once you learn the ropes, you can progress to advanced strategies such as cash-secured puts, naked calls, strangles, ratio spreads, calendar spreads and diagonal spreads. Keep in mind, however, that some options strategies that involve naked options have undefined risk and can lead to a significant loss of capital. 

Open an Options Trading Account

If you already have an account for trading stocks, you can get the same account approved for options trading. Otherwise, you can open a new account for stocks and options. Here are a few trading platforms that we like:

Thinkorswim / TDAmeritrade (from Charles Schwab)

E*Trade (from Morgan Stanley)

Fidelity

Tastyworks

Keep in mind that if you’re looking to open and close positions on the same day, you will need a minimum of $25,000 in your account. This is because FINRA requires that pattern day traders maintain a minimum equity of $25,000 in their margin account on any day that they day trade. You can still trade if your account size is lower, but you’ll have to avoid day trades in that case.

Practice With Paper Trading First

Once you have developed a good understanding, it’s time to put your newly acquired knowledge to practice. As the saying goes, “practice makes perfect”, and in the world of trading it also helps you to avoid costly mistakes when you start options trading with real money. Most trading platforms such as thinkorswim, E*TRADE and Fidelity offer paper trading where you can try out different positions in real-time with paper money instead of your real hard-earned money.

Many platforms also allow you to backtest different strategies on historical data. For example, you could go to a past day and see how a particular strategy would have worked at a particular time during that day. 

Practicing will enable you to learn more about how options behave in different situations and will help you avoid losing money while you’re still ironing out the kinks.

Dive In When You’re Ready!

Once you have gained confidence in your abilities to trade and have a full understanding of the risks involved, you can start researching options trading ideas and putting on trades. 

A good way is to look for volatile stocks and ETFs that have a high IV rank and high IV percentile. These may be good candidates for selling options (e.g. selling a put/call, selling a vertical spread, selling a strangle, etc.). On the other hand, if there is a stock/ETF that has low IV rank and low IV percentile and you’re expecting it to make a large move in one way or another, then it might be a good candidate for buying options (e.g. buying a put/call, buying a vertical spread, buying a strangle, etc.). Your trading platform will likely have a way to set up a watchlist where you can add in and sort stocks by IV rank/percentile.

An Important Tip About Position Size

When setting up a position, no matter how right you think you will be, keep in mind that the market has a tendency to surprise us. Therefore, one important thing to remember while trading is to keep your position sizes small relative to your account size. If a position is too large and things don’t go according to plan, then it could cause a large loss that may be hard to recover from. 

With small position sizes, you won’t lose sleep over any single position and you won’t have to worry about getting a big chunk of your account wiped out from a single loss. A simple rule of thumb is to keep the max possible loss for each position no larger than 2% of your account size.

Good Luck as You Begin Trading Options!

If you’re looking for options trading ideas that have been researched by our options pros, sign up now and begin implementing our ideas.

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