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Investment Vehicles Part 2: Daily Driver
By: Option Alpha   Friday, March 16, 2012 1:29 PM
I consider all options a form of leverage, and when leverage is applied to a vehicle it is typically forced induction in the form of a turbo or a supercharger.

I believe this holds true in most examples because the option is for a given vehicle. Options can be purchased for everything from stocks to commodities to futures. Can you put a turbo on a race car (options on futures)? Of course, but it is very easy to break something if everything isn't set just right.

If something does break, inevitably something always does, you must have the funds to fix or risk not racing in the next race (the next market move). This should not affect your ability to eat or to keep a roof over your head. These funds should be discretionary for lack of a better word. The result of adding leverage to any vehicle is going to be an increase in performance and drop in reliability of the vehicle.

Do Credit Spreads Really Reduce Risk?

Many people will also argue that a spread is a safer than a naked option. Honestly one is just less restricted than the other, but both are using leverage. Here's a quick video tutorial on how credit spreads work.

A spread is designed to limit your loss, so if the trade doesn't work out then you are limited to lose a specific amount of money. A naked option is unlimited risk to the broker. Brokers prefer to have a hard number on the amount of risk they have in each account.

This is why a broker will let you trade spread before they will let you trade naked. A Naked Put has a limited risk because a stock can not fall below zero. A Naked Call is truly unlimited in the eyes of the broker.

Use Different Vehicles to Adjust Risk

All investing requires an evaluation of risk and reward. I believe that every type of leverage has a certain degree of risk associated with it.

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