I’m confused. I have an E*Trade brokerage account and I applied to be approved for options trading, but this is going to take 5-6 business days. Tentatively they automatically approve you for Level I options trading, which allows:
[ul]
[li] Writing covered calls ( I assume they somehow make sure you don’t sell the underlying security to leave the contract uncovered )[/li][/ul]
If approved for a higher level, here is the breakdown of what you can do
Level II
[ul]
[li] Synthetic long puts[/li][li] Married puts[/li][li] Long calls[/li][li] Long puts[/li][li] Long straddles[/li][li] Long strangles[/li][li] Covered puts [/li][/ul]
Level III
[ul]
[li] Equity debit spreads[/li][li] Equity credit spreads[/li][li] Equity calendar/diagonal spreads[/li][li] Index debit spreads[/li][li] Index credit spreads[/li][li] Index calendar/diagonal spreads[/li][li] Naked equity puts[/li][/ul]
Level IV
[ul]
[li] Naked equity calls[/li][li] Naked index calls[/li][li] Naked index puts[/li][/ul]
Now, I can sorta understand their logic. Each level is progressively more complex, risky, etc. However, how do they figure you can automatically write a covered call but require approval to buy a long call? Is there something I don’t understand about long calls that creates any sort of risk/liability for E*Trade to allow me to just buy a long call off the street?
I’m not certain of the answer, but here’s a little something about my very, very limited “experience” with E*Trade options accounts.
The guy that sits behind me at work applied for permission to trade options in his personal account, but was denied. I didn’t press him to explain why, but he seemed pretty surprised at the denial.
I (and the guy behind me) work as fully licensed professional equity traders at a trading firm. If taking risks with large sums of someone else’s money - with your job at stake- doesn’t qualify one as a smart enough risk manager, I’m not sure what they’re looking for. :dubious:
Best of luck getting a clear answer!
I suspect the reason is that buying long calls can be a lot risker than writign covered calls. Whether it is or not depends on how you do it. A portfolio holding most of its money in bonds with a few long calls is not too risky, but a portfolio invested mostly or entirely in long calls can lose most of or all of the investment.
If you write covered calls you cannot possibly lose everything – nor can the poistion ever be more risky (by any usual risk measure) than is holding the stock.
You write a covered call @ 95 on the 100 shares of Apple you hold in your E Trade account that you purchased @ 90. You receive the premium. The shares are there if you’re exercised tomorrow when Apple shoots up to 100 dollars. You’ve received your premium, the brokerage house won’t let you sell the shares unless you buy backthe call option. Your only loss is the difference between the premium you received and the increase in the price of Apple shares at the time you’re exercised.
Buying calls or puts can be a bit more risky. A common example would be a day like last Friday, options expiration day. You’re holding ten contracts of a stock with a strike price of 95 which is now trading @ 102. If you don’t close that position by the end of the trading day, you’re automatically exercised. 10 contracts X 100 (mulitiplier) X 95 (strike price) which is $95000. You don’t have $95,000 in your account, in fact you don’t have $95000 at all.
Bad news happens over the weekend and your stock opens at a lower price You’ve now bought $95,000 worth of stock which you thought would be worth $102,000. However, it is now trading @ 90 dollars per share. You have a debit balance in your account which you’re unable to cover.
Most firms would try to sell you out prior to the end of trading on options exiration day. But they don’t have to.
Option approval requires review by a principal at the brokerage firm. While it is usually not too hard to get approval for long options trading, if they think you’re not knowledgeable enough about options, it could be denied.
More risky strategies usually require a margin account and an account with sufficient equity to support that level of trading.
That was the part I was missing. Thanks. Somehow I imagined that unless instructed otherwise E*Trade would simply sell-to-cover any automatically exercised in-the-money contract, however I now realize that probably wouldn’t be wise for them.