Are You Playing With Fire?

Back in the day, a lot of my friends rode motorcycles. I never did get one -- though I did some other stupid, reckless, and disturbing things.

I know, I know. Riding a motorcycle isn't necessarily stupid. Maybe not -- for you. But it was for me, certainly when I was 16. If you'll bear with me, I'll tell you why, but by now you must be wondering …

What's this got to do with investing?
You may have noticed that we've started talking here at The Motley Fool about what, to me, amounts to trading. There's even been some chatter about shorting and buying and selling stock options. Frankly, it's got me thinking about my life and the few good choices I've made, and I'm not sure it's a good thing.  

Long story short: I'm 44 years old. I've been investing for 20 years. I've never owned a motorcycle, and I've never bought or sold an option. I don't even have an options account. It's not that I dispute that options are fast, exciting, and can make you money -- or that chicks dig 'em.  

I just figured I could get into enough trouble without throwing leverage and expiration dates on the fire. And believe me, I was tempted. Especially in my glory days of the 1990s -- when all I had to do was look at a stock, and it would pop 25% or more.

It was the damndest thing
One guy I knew at Thomson/Reuters swore I was getting inside information and holding out on him (you'll hear a funny story about this guy just ahead). In fact, I'd simply got a hot hand. And not by following the herd and buying Cisco (Nasdaq: CSCO  ) , Oracle (Nasdaq: ORCL  ) , Sun Micro (Nasdaq: JAVA  ) , or any other "stock everybody loved."

I was dabbling in small biotechs. Names you'd never hear until one Monday morning they were snapped up by Merck (NYSE: MRK  ) or Pfizer (NYSE: PFE  ) . They were the tiny exploration and production outfits that summarily popped on rumors that Exxon Mobil (NYSE: XOM  ) was out trolling for reserves. There was only one problem: I fell in love with my stocks -- the investor's mortal sin.

Point being, the short-term mentality imposed on the options trader would have served me well in my youth. If instead of buying stocks, I'd entered into 30-, 60-, or 90-day options contracts, I'd have been forced to take my profits. As important, given the leverage inherent in buying or selling puts and calls, my quick 25%, 50%, and 100% gains could have been multiplied many times over.

Of course, you know where I'm going with this.

The reason I never got a motorcycle is …
Because I knew I would kill myself, or worse. Even at 16, I had every reason to believe I'd be in an accident of some sort. Everybody I knew who drove a car had survived one, even those who'd been driving for months. In my neck of the woods, it wasn't a question of whether you got banged up, but when -- and how bad.

In a moment of clarity I can only describe as otherworldly, I saw that for me there would be no such thing as a minor motorcycle accident. I guess that's how I feel as an investor about options and margin. To my mind, combining leverage and a short-term horizon are like the speed and agility of a bike -- exhilarating to be sure, but dangerous.

And much as I'd known I had a date with a wrecker at 16, I knew that I'd make my share of bad stock picks -- and that invariably I'd be off on my timing. When you're buying a piece of a real business, misjudgments like these become "long-term investments." When you're trading options, you get wiped, wondering what might have been.

I'm in the zone!
I know what you're thinking: Just because you're perched on a BMW R 1200 doesn't necessarily mean you have to act like an idiot. Again, that may be true -- for you. But I'm an excitable guy. And when I'm "in the zone," I can be convincing, especially to myself.

Again, as an investor buying for the long term, this is a mild annoyance. Yes, I've made some rash investments, some of which I've sold at a loss -- but rarely at a total loss, and never before I was ready. As a speculator, buying or selling options with an expiration date (yes, I do believe "speculator" is the correct term), I wouldn't be able to say that.

Worse, the "hotter" my hand, the more I'd bet. I call this Niederhoffer syndrome, for the legendary speculator known for making ridiculous amounts of money then losing it. Again, as an investor, building a diversified portfolio of stocks, the occasional I'm-in-the-zone bout of invincibility won't kill me -- even when the result is a big bet on Bank of America (NYSE: BAC  ) .

One slip and you're dead
Earlier, I mentioned a friend from my days at Thomson. One day, when I was in his office running my yap, he looked up at me and said, “Dude, I just went into the bathroom and puked!”

You guessed it: An options trade blew up. I forget the figure, but 50 grand comes to mind. Ironically, the trade was on a stock I owned -- a company called Radyne that I later sold at a big profit, yet he was wiped.

Smarter investors than me will tell you that smart people don't get into this kind of trouble with options. You'll hear how options smooth out your returns -- even protect you from your own emotions. Again, that may be so -- for you. But I think I know what emotions I need to be protected from. The urge to dump my stocks at the bottom is not one of them.

Seriously, I don't even get that argument. The fact that I don't use margin and don't have an expiration date hanging over my head is why I don't sweat it when the market gets ugly. I'm a long-term stock guy who knows that on average, stocks go up more often than down – and that they always go up long term. I know I'll survive my stupid calls. Can Soros say that?

"Tell it to me like I'm a child"
When I was 18, my buddy came home on break from West Point showing off his new Kawasaki Ninja. We rode home on I-270 that night -- me on the back, no helmet -- topping out at 110 miles an hour. Looking back, I don't know if we felt invincible or didn't care. But it was precisely the kind of thing I didn't want to do every Saturday night. I can go plenty fast in a car -- and get plenty rich investing in stocks for the long term. I'll certainly never go broke.

Of course, you might be nothing like me. Maybe you're just the type who can use options judiciously. Not speculating, but rather hedging your current positions and generating income while you wait for your stocks to move higher. If so, more power to you. And I think you should meet my pal Jeff Fischer.

Unlike those fast talkers you see on CNBC every night -- yukking it up 'round the table, looking like a bunch of Jim Carreys holding up the black light store -- Jeff is a smart long-term investor who truly believes that options can help most any investor earn better returns. So if The Motley Fool is going to start talking about options, better that it's Jeff.

If nothing else, he'll give you a thoughtful, reasoned counter-argument to the one I've made today. (Though I imagine you've got one for me already. Should The Motley Fool even be talking about options and trading? Let me know in the comments section below.) To hear Jeff's take on how options can help you, just put your email in the box below to access his educational video series on options.

Paul Elliott owns shares of Bank of America and Pfizer. Pfizer is a Motley Fool Inside Value recommendation. The Motley Fool's disclosure policy loves the feeling of wind in its hair.

Read/Post Comments (52) | Recommend This Article (174)

Comments from our Foolish Readers

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  • Report this Comment On July 29, 2009, at 5:01 PM, spinindog wrote:

    weenie :)

  • Report this Comment On July 29, 2009, at 5:13 PM, plange01 wrote:

    in this market you either trade or you lose money.if its not your thing then invest in something have to do what is working not what you like doing .the best example is warren buffetts down over 50% and even he had to abandon his buy and hold forever strategy of fail...

  • Report this Comment On July 29, 2009, at 5:19 PM, drippinfool wrote:

    Stocks ALWAYS go up long term? What about home prices? Of course how long is long term? If it goes beyond an investing lifetime, then it is too long. Who was it who said that markets can stay irrational longer than you can stay solvent?

  • Report this Comment On July 29, 2009, at 5:27 PM, NoMoreSnoozing wrote:

    I know of what you speak. That uncovered put looks awfully tempting when the last 4 or 5 cash-covered puts paid off ("I coulda done 20 contracts instead of 1!")

    But that "cash cover" is the difference between investing and gambling, and I think Jeff does a good job of expressing and stressing this point. Put another way, it is the speed limit, helmet, and riding leathers all wrapped up in one.

  • Report this Comment On July 29, 2009, at 5:32 PM, NotJesseL wrote:

    I'm convinced trading has got something to teach buy and hold investors or investors who make fundamentals based choices. Why? Because paradigms shift. Gas is a lot more expensive than when the author was 16. Helmets and safety equipment and training are much improved since then as well. So, while it was a good decision to not get killed riding a motorcycle at 16, it might be a good decision to ride one at 50.

    Here's another example: Quintessential free market guy Hank Paulson had to admit that things changed and pump billions into the financial markets to avoid a complete meltdown. (Even though he must have hated intervening with that). I think he was trained to admit things change as a result of being a trader in the past. If he had been someone dogmatic like Herbert Hoover, we would be in a worse shape now.

    Another point in defense of trading comes from the classic "The Intelligient Investor" which says that if its limited to a small portion of a portfolio (say 10% at most), speculating gives some investors a comfort level that they are "in control" of some of there money and makes it less likely they will do stupid things with the other 90%.

  • Report this Comment On July 29, 2009, at 5:40 PM, RobertC314 wrote:

    I think the article fails to give due coverage of the upsides of options. I'm not talking about the huge gains with the corresponding huge risks, I'm talking about using options to cover "what if" scenarios.

    For example, at the Fool one of the big mantras is NOT timing the market, but that is precisely what you do every time you buy or sell something. Every move you make in the market has a time factor to it, options just make it so you don't have to be precise.

    By using options you can make yourself less susceptible to short term fluctuations. You can do the same thing by buying at several times as you enter into a new position, but for a small fee (the option premium) you can give yourself the option of buying in now, while waiting to see if perhaps other "traders" have temporarily inflated the price in a way that will hurt you in the short term. Depending on the amounts your talking, your option premium may even be less than the brokerage fees of buying in at several points.

    Basically, the same tools that allow traders to make such huge losses (oh... and profits every now and then) also protect you from the volatility they bring to the market.

    I think the question of whether options belong at the Fool depends on what the Fool is to you. If it is a stock picking service with a long term focus then no, options have no place. If, on the other hand, it is an investing service, then options absolutely deserve to be discussed just as any other investing tool should be.

    Buying/Selling options with the intent to immediately dump/buy back the underlying securities is madness, but using them to ease into/out of a position while protecting from the downsides of short term fluctuations is simply prudent planning.

    Playing with fire isn't necessarily a bad thing either. Getting burned once or twice by a candle makes you that much more careful when you're stuck in the woods and need a campfire.

  • Report this Comment On July 29, 2009, at 5:47 PM, XMFRael wrote:

    Weenie!?!? Granted.

    Drippinfool... I think it was Keynes who said that... and it's comments like that that always got me thinking. I mean, the older i get, the more I realize that hitting a bad market when you retire -- ie when you start taking money out instead of putting it in -- really hurts. But as a long term, unleveraged, long-only, working investor saving for retirement (yes, i still am), how is an irrational market going to make me insolvent?

    NotJesseL... I always the resist the "paradigms shift" argument. Everytime I've bought into it, I've regretted it later. Again, probably just me. Though I will agree: Anything you do with 10% of your portfolio is fine with me -- especially if it protects the other 90%


  • Report this Comment On July 29, 2009, at 5:47 PM, blindchickin wrote:

    Quote - Should The Motley Fool even be talking about options and trading? I believe they should. The fool exists to educate us fools and provide information of substance regarding the investments available to all of us. Options are one of those investments opportunities. I may not like them nor feel comfortable with them but that in no way means the Fool should not talk about them.

  • Report this Comment On July 29, 2009, at 6:00 PM, DokGonzo wrote:

    I started investing a few years ago and more heavily beginning in November (after the market implosion) to take advantage of all the incredible discounts. I like some of the conservative options theory, but I'm most definitely not ready for them personally in my own portfolio. So much of what made it easy to hang on to stocks from November throught the continued dips and then on to the recent rally has been the lack of expirations or deadlines or margin calls. Smarter people than me get destroyed with options - but if the Motley Fool has options experts with sound, conservative ideas that protect downside, multiply upside and don't increase risk exponentially, then I say absolutely do what you do best - provide sound advice, listen to feedback and get out of the way!

  • Report this Comment On July 29, 2009, at 7:19 PM, HTPinHCMC wrote:

    I am so glad to see someone posting this kind of response to MF's recent run of sales pitches for increasingly complicated investment schemes.

    I have no idea what the average paying customer of MF is like but I naturally assume many are like me, i.e. people who have a "day job" and invest as a way to build funds for retirement. In which case time studying investment opportunities is tie I / we could be spending with our families. All I want from MF is sound advice on companies that are undervalued compared to their long term prospects and some broader perspective stuff. Don't try coaxing me into investments where if I am not watching the market over my summer holiday I might loose my shirt!


  • Report this Comment On July 29, 2009, at 7:25 PM, gaswelldealer wrote:

    Dont forget the best way to make money in a level or slight up market. Selling The Covered Call you can ceep the dividend, what you get for the call and the stock as long as your stock doesnt get to your strike price. the whole idea is to sell the covered call at a strike price you would be willing to sell the stock at today. ive made a lot of money doing it. and its not sexy,quick or certain but what is ...that is worthwhile?

  • Report this Comment On July 29, 2009, at 7:28 PM, gs8212 wrote:

    There are some very safe options plays I think. Writing covered calls, so long as you are willing to let it get called away. I have stock at about $4.50 a share which is just hanging around the 4 -6 range. I sell covered calls at $6 for $1,000 and change. I'm willing to give it up for $6 plus the $1K. If I don't get called away I'll continue writing, if it moves up, I'll write at the next higher strike if the price per option contract is right. Just a way to add alittle income while waiting for this stock to make its move up. I can also sell puts, but only the number of contracts for which I have the cash necessary to buy the stocks if exercised - but it's set at a price I'm willing to buy. Yes this ties up some cash. These are safe plays in the right situation.

  • Report this Comment On July 29, 2009, at 9:02 PM, BGypsy wrote:

    Less philosophy, more info about market, sectors would be appreciated,

  • Report this Comment On July 29, 2009, at 9:33 PM, TMFFischer wrote:

    In every case I've personally experienced, when someone tells me categorically that they're against options, and then I get to ask why, their answer shows that they don't know much about options at all. :-) It's human nature to fear or be skeptical of that which you know little. I was the same way about options nine years ago, before I took the time to learn much more about them, and then started to use them. Stocks have gone nowhere the past nine years; options have presented (and continue to present) a way to earn returns steadily despite the stock market's performance.

    Overall, in any market, you just need to use the right option strategies, and use them on strong companies to begin with -- use options as the business-focused stock investor you are, capitalizing on what already know about a company and its stock. Own the best companies you can find (always the Fool's way), and own them for the long haul assuming the valuation and business merits it; and then complement those holdings, or earn extra returns on them, with sensible option strategies that reward you in the shorter term even if the stock doesn't go up, for example. I believe options have a bad reputation in some (shrinking) circles because people usually assume they should *buy* them, but I'd say at least three times out of four, if not more often, you should write them rather than buy them, and thus all the disadvantages you always hear cited about options become advantages to you. You can write options to sell stocks you already own at higher prices, or make a profit on the options if those higher prices don't come along (as "gs8212" said above about covered calls). Or write options to buy stocks you want to buy, but at lower prices -- and make a profit on the options if your desired, lower buy price doesn't come along (as just two simple examples).

    Those who don't know option strategies believe options are categorically risky, but actually, many option strategies lower your risk of stock ownership, and are less risky than just plunking down your hard earned cash in a stock at the going price and hoping it goes up, with no other tools, strategies or resources to help you. I personally can't imagine investing without options as an extra tool anymore. Of course, most of what you own in a stock portfolio should be long-term core holdings in great businesses. But if that's all you had to go by the past 9 years, you haven't done nearly as well as you could have. Complement those stocks that make money only when they go up with sensible option strategies that make money if stocks stay flat, go down... or go up. Options aren't for everyone, that's true, just as cat ownership isn't for everyone. But when they're for you, I think they make you a better investor. Best, Jeff

  • Report this Comment On July 29, 2009, at 9:47 PM, VegasMartin wrote:

    My First Lesson In Options: I bought HGSI 2 weeks before their blockbuster news on their Lupus drug in anticipation of the announcement. I bought it at $2.63. Stock went up to $3.30 before the announcement was made and the options went up. All I've heard is that no one has ever developed a successful Lupus drug. I knew that if this was a success, and it was, this stock would explode, but if it was a failure, it would tank. I sold a call for at a strike price of $7.50 in order to get back 25% of my investment incase the news was bad. The news came out and the stock jumped from $3 to $14. I still tripled up, but I could have had doubled my gains if I hadn't of written that option. Hindsight is 20/20, and I'm glad I went with the $7.50 strike price instead of the $5.00 strike price. Options are a great way to protect downside, but sometimes you end up wishing you wouldn't have sold that call.

  • Report this Comment On July 29, 2009, at 10:14 PM, CMFStan8331 wrote:

    I've only been investing in individual stocks for about a year. Haven't touched anything other than long common stock plays yet. I am willing to consider it in the future - undecided at this point. By temperament I'm not prone to excessive enthusiasm - my concern with options isn't going crazy and losing all my money - it's increasing the complexity of my overall investing strategy beyond the extent of my competence and thereby lowering my returns. At this point, it's easier for me to make good choices among a limited number of possibilities, versus the vastly expanded palette offered by options and other derivatives. I probably will eventually get involved with derivatives, but for now I have my hands full just buying and selling stocks.

  • Report this Comment On July 29, 2009, at 10:21 PM, robertf36009 wrote:

    Motley Fool would be remiss if they did not discuss all of the trading/investing options available. They are obligated to create a service for all options and offer it to all of us for a profit. If no one subscribes it will be canceled and something else could come along. Buy to hold investors like myself won't buy an options service. Although a Rule Breaker such as myself just might. We all invest/ trade with slightly different strategies. Therefore we use these services in different ways. Only you can determine what works for you.

  • Report this Comment On July 29, 2009, at 11:27 PM, pastordonpet wrote:

    It really all boils down to the old addage "Are you fencing in or are you fencing out?" Remember that it is herd mentality which ultimately drives the market and until the herd is educated, all you must know is which way is the herd going and be ready when headlines (which always drive the herd) change. The long term invester is driven by the basics while the herd is driven by the moment. If you can consistently determine where the herd is going you will get rich beyond measure. Most of us are not that smart or willing to take that risk, so we will just roll along with consistent profits, which compounded over the years,will yield consistent profits!

    Just have fun investing!

  • Report this Comment On July 29, 2009, at 11:51 PM, dm2000dm wrote:

    nice article really enjoyed it.

  • Report this Comment On July 30, 2009, at 12:57 AM, joandrose wrote:

    Count me in as a member of the " Paul Elliot " club too !

    A good dose of reality - well put.

  • Report this Comment On July 30, 2009, at 4:01 AM, ryanalexanderson wrote:

    Agreed, nice article. But one critical question:

    "...looking like a bunch of Jim Carreys holding up the black light store..."

    Can you, sir, please explain this bizarre analogy?

  • Report this Comment On July 30, 2009, at 5:38 AM, Samadd wrote:

    Educational therefore good

    but not for me. I also have a day job.

    But maybe when I retire I may dabble with a small % of my portfolio.

    A bit like taking up Poker

  • Report this Comment On July 30, 2009, at 6:29 AM, CarryOnAgain wrote:

    As a personal take on option vs stock ownership, I suppose I could go along with it. However, as an article in an investment newsletter, I find it pretty myopic.

    Take Buy and Hold for instance. Our author claims he doesn't sweat it if his stocks go down. Maybe he bought the best stocks. But how does that sit with people who bought Citigroup at $50, or $40? How long before they recover? A decade? Two decades?

    Option strategies can be high risk or low risk. If you overleverage using at the money or out of money options then you are playing with fire. However consider this. Suppose you want to buy 100 Apple shares currently at $160. Instead of investing $16,000 you could buy 1 January 130 call contract for $3,535 and put the remainder of the capital in an interest bearing account. Not only have you got less money on the table, but because of the way the "Delta" changes, the value of the options fall LESS than the value that the shares would fall. In this way you have actually reduced risk and it is a conservative investment strategy. An example of "playing with fire" would be to use the whole $16,000 and buy 40 September 160 contracts at $450 each. Big difference.

  • Report this Comment On July 30, 2009, at 9:13 AM, banners1951 wrote:

    You make sense - this is my sentiment exactly; stick to your knitting!

  • Report this Comment On July 30, 2009, at 9:43 AM, marginjim wrote:

    I appreciate the comments on options, on all sides, and I was ready to be content to listen. Then the Apple example caught my attention and opened a place where my comments might be useful. It has to do with the size of size of one's options transactions.

    I have managed, in the last four months, to earn a bit less than 3% each month of my (growing) stock portfolio merely by writing and buying (usually writing) options. I've occasionally written contracts that are a bit large for me, $4400, for example on Sept 6 Ford puts, when the stock was priced at 1.79. But I've learned that a substantial number of purchases that yield a few hundred dollars each can do really nice things for one's portfolio.

    My gratitude to the Fool in all of this rests, not only in the way I'm being taught about options, but also in the confidence I can have in the stocks that get recommended.

    By the way, to all the young folks who think that, once you retire, all you can do is take stuff out of your portfolio: Think again ! Unless you plan on dying 3 to 5 years after you retire, you will do well to keep on thinking of ways to grow your portfolio. I'm 70, have just managed (mostly thru options) to get my portfolio back to where it was before the crash, and now expect to grow some money so we can start spending again.

  • Report this Comment On July 30, 2009, at 10:29 AM, XMFRael wrote:

    Did Jeff Fischer really just say I "don't know much about options at all?!?"

    Otherwise, I love the conversation here. Though just to be clear, I realize there's an upside to options and that you can make a lot of money fast. I also realize they "can" be used judiciously.. to reduce or hedge risk. Of course, the same can be said for all financial derivatives...

    Yet Buffett called them "financial weapons of mass destruction" (before using them himself). As Tom Gardner always says, you have to know yourself. Like some of you here, my inclination is to get greedy, to go extreme, and to constantly think of what might have been.

    Thus, if i was to use margin, i wouldn't, say, control $1,000 worth of stock with $500 -- I'd control $2,000 worth of stock with my orginal $1,000. That's just how my brain works... and i think it's how most speculators' brains works. Hence the booms and busts.

    Sorry for the long post... but bottom line, i agree with you guys who say the Fool has the obligation to talk about all this stuff, even if it's not for everyone.

  • Report this Comment On July 30, 2009, at 10:44 AM, XMFRael wrote:

    Oh and the Jim Carrey bit... can't believe the editors let that one through...

    There's a scene in some JC movie where, for some reason, he and his wife hold up a black light store and he's (as you would imagine Jim Carrey in a black light store) all crazy flashing eyes and teeth and otherwise maniacal (worth checking out on video for a laugh).

    Anyway, i was watching CNBC one night and on pop these 5 hyper-animated guys with fake tans and blazing white teeth carrying on like maniacs about having closed some innane financials trade that i swear they never opened in the first place... and the goofball Jim Carrey image popped into my head.

    Thanks for idulging me on that one!

  • Report this Comment On July 30, 2009, at 2:58 PM, PhulishMortal wrote:

    Loved the article, Paul. Reminds me of the best days of the Motley Fool.

  • Report this Comment On July 30, 2009, at 4:07 PM, XMFRael wrote:

    thanks phulish... that's a high compliment.

  • Report this Comment On July 30, 2009, at 4:10 PM, MeGrandPa wrote:

    Thank You MF and all the Fools who contributed to this article. I learned much about Options from reading both sides. And thanks to Marginjim for the inspiration. He spoke for me. Learning and investing from MF is becoming my retirement "job"

    thanks to ALL

  • Report this Comment On July 30, 2009, at 5:01 PM, TMFFischer wrote:

    Hi Paul,

    Mr. Buffett has never to my knowledge called equity options weapons of mass destruction. That quote has famously been misdirected. What Warren Buffett actually said was "Derivatives are financial weapons of mass destruction," but he was talking about things like credit default swaps and mortgage-backed securities -- derivatives on derivatives, basically. And he was right.

    Meanwhile, Buffett has personally used equity options for decades, even writing puts to buy some of his famous Coca-Cola stock position at lower prices. Recently, he was writing puts on Burlington Northern to buy more shares at lower prices.

    So, you're perpetuating the myth that Buffett, in that famous quote, was talking about equity options, a tool he uses himself, when he was actually talking about the complex and arcane derivatives that had just been developed in recent years (and that did actually blow up). Equity options -- in existence for decades now -- are clearly understandable tools, ones that Buffett uses to this very day.



  • Report this Comment On July 30, 2009, at 5:21 PM, XMFRael wrote:


    Well, that'll teach Buffett to be so pithy and quotable!

    And I know you don't invest this way, but i'd say that collecting (freebie) premiums betting against a "black swan" event (whether it's the S&P being lower 20 years from now -- a la buffett, or Lehmean and BSC both defauting a la AIG) IS a financial weapon of -- if not mass, than certainly, massive -- destruction.

    I tell you what, if i'd sold a comfortably out of the money put on AIG this time last year... i'd be feeling pretty massively destroyed about now.

  • Report this Comment On July 30, 2009, at 7:10 PM, chk2595 wrote:

    I was lucky. Second time on a motorcycle,I crashed.

    First time in commodities,I bought at the high in Wheat and got wiped out. first time in options, sold Gulf in Jan 1985 and got dusted. So---I have the experience and no guts and no glory.

  • Report this Comment On July 30, 2009, at 7:16 PM, TMFFischer wrote:

    Hey Paul -- Anyone buying companies they don't understand takes that risk. If you'd read AIG's SEC filings before buying it, you wouldn't buy it (if you care to understand what you own!).

    Meanwhile, writing puts and collecting premiums creates no destruction at all, nor even the possibility of it, if you simply have the means to make good on your potential stock (or index) purchase obligation. And you should have that capability well before you write the put (Buffett does). Where people get hurt is simply by writing puts on margin or with no means to ever make good on the purchase obligation if the stock or index really falls. The Fool has always been against margin. Obviously true with options, too. Just be ready to buy the stock when you write a put.

    Best, Jeff

  • Report this Comment On July 30, 2009, at 7:44 PM, knighttof3 wrote:

    Nice article. The "...looking like a bunch of Jim Carreys holding up the black light store..." part stumped me too, so I googled it - the movie is "Fun with Dick and Jane" (wish I had remembered, I have seen it).

    Oh yeah, the options thing.

    Selling covered calls is very safe unless you hate getting them called if the stock climbs a lot rapidly.

    Buying a long-term put would actually let you sleep soundly at night, in case your stock has some unforeseeable flaw (like a management making up numbers - you won't know it from the balance sheet.)

    Everything else is the same as betting in Vegas. Do it often enough and the house will always win.

  • Report this Comment On July 30, 2009, at 9:15 PM, XMFRael wrote:

    dammit... no guts, no glory is my motto! which shows that i am a bit of hypocrite here.

    but just so we don't mix people up... i was talking about selling a put, not buying one...

    which is why i think everybody should check out jeff's educational stuff on options. that way you can see if they're right for you..

    "Dick and Jane" ... that's it. if somebody has a clip they should pass it around... cracks me up.

    derivatives might be a great idea, but whoever thought up that gag is a smarter than I am!

  • Report this Comment On July 31, 2009, at 9:11 AM, dudemonkey wrote:

    I'm with Mr. Elliot on this one. I don't see a need for options. I have some understanding of how they work, but definitely not enough to consider actually using them as financial instruments. Buying princely companies at frog-like prices is working for me, it makes me happy, and it takes exactly the amount of time I'm willing to devote to investing. My system helps curb emotions that might lead to irrational decisions.

    I know there are speculators, traders, and option traders here, and that's fine with me. I wish them the best of luck and I hope they do well. They should also know that they are precisely the people that I'm gunning to take advantage of.

  • Report this Comment On August 01, 2009, at 10:00 PM, TMFFischer wrote:

    Options are a strategic tool, not something with which to speculate (if you want to, you can, just as you can with a stock, but it certainly isn't necessary and shouldn't be what you usually do). Once you know the many options strategies that are available, you realize many are as good as owning a simple binary stock (a stock is only either going to go up, or go down), or much better than that, since options give you much more room to profit when you use them various ways (especially writing them). A stock can go down or stay flat and you'll still profit. Or, writing calls and puts together, a stock can go up, be flat, or go down (generally stay in a 20% to 25% range in many cases) and you'll still profit on your options. Worst case, too, is just that you'll end up buying more stock at the very low-end of your price range, or sell existing shares at the high-end. Overall, it's best to own your favorite stocks for the long haul; and complement this with option strategies that earn returns in the nearer-term, too.

  • Report this Comment On August 02, 2009, at 8:15 AM, cooperbry wrote:

    I guess you can argue your investment ideology till the cows come home. When the government makes the market, it's a lot like gambling anyway.

  • Report this Comment On August 02, 2009, at 7:25 PM, lewellen180 wrote:

    Speaking as a motorcyclist (who happens to own an R1200R), I understand the analogy only too well.

    When I ride, I consciously accept a higher level of risk than when I drive my car, because the rewards merit the risk. The key is understanding just how much additional risk you're taking on; you need to have this information to know if the reward is worth it.

    One problem with riding, just like investing, is that your brain can mistake good luck (or lack of bad luck) as skill on your part; and it can also mistake the thrill of a very-near-miss as something good (i.e. wow-what-a-rush / made a profit at the last moment) rather than bad (i.e. I almost died / lost everything). This can reinforce stupid behavior (going too fast on a winding road with blind curves, trading uncovered puts / calls on margins, etc.).

    Sometimes, the only way to not crash is to ride conservatively. I love going quickly through tight corners; the problem is, no matter how good you are. and how well you know the road, there's sometimes no way of telling whether an oncoming car has drifted into your lane just around the next bend where you can't see it, or if a dump truck has dropped some gravel there, etc. The problem with riding, just like investing, is that you'd have to be able to see the future to know when it's really safe to ride aggressively.

    The only way to ameliorate such risks, on the average and long-term, is to slow down. Or, in the options world, don't play with margin and don't do uncovered calls / puts.

    I'd like to learn more about put / call strategies, personally; unfortunately, my preferred broker (Folio Investments) doesn't offer them; and I don't really want to change since it works so well with my overall investment strategy (if I can dignify it with that term).

  • Report this Comment On August 03, 2009, at 8:59 AM, ZenPuddleJumper wrote:

    If you buy options the way you buy stocks, "you'll get your ears ripped off" as Dan Sheridan has said. It requires a lot of thought and the guys who are good at it seem to plan their exit strategy before they buy/sell. Every position is hedged, every exit decision is pre-planned. I've lost a bundle with options and I'm a lot wiser and more cautious in how I use them now. They can be a useful tool, but they can go up in smoke very quickly. CBOE has a lot of helpful educational material about trading options.

  • Report this Comment On August 03, 2009, at 4:31 PM, Buffetsbrain wrote:

    I prefer to use leverage and margin up on good companies, rather than risk the option expiration date. Higher risk and reward, without having to face a stop watch.

  • Report this Comment On August 05, 2009, at 10:46 AM, plange01 wrote:

    the long over due correction in the stock market is underway.its time to return to reality..

  • Report this Comment On August 05, 2009, at 10:48 PM, TMFFischer wrote:

    For anyone visiting, I just wanted to point out my short article related to options, published today:



  • Report this Comment On August 05, 2009, at 10:48 PM, TMFFischer wrote:
  • Report this Comment On August 05, 2009, at 10:49 PM, TMFFischer wrote:

    All right, last try! HERE is the working link (sorry -- and good night!); if it doesn't work, it's some other issue:

  • Report this Comment On August 09, 2009, at 3:14 PM, henryking54 wrote:

    Don't be deceived by this dog and pony show from Paul Elliott and Jeff Fischer. Paul Elliott works in the marketing department and writes articles for one reason and one reason only: to sell newsletter subscription. He wrote this superficially negative article on options simply as a platform for Jeff Fischer to refute his arguments and convince you to trying his crappy options newsletter. This good cop/bad cop routine is cynical and manipulative and the Motley Fool should be ashamed for sinking this low.

  • Report this Comment On August 10, 2009, at 12:23 PM, Retirefunds wrote:

    Marketing or not, I won't be getting into any options trading for the reasons pointed out, and I am disappointed that the Fool is going into this business. Clients complaining about disaster in the future is not something the Fool should be seeking out. It will definately tarnish your good brand.

  • Report this Comment On August 11, 2009, at 11:16 AM, NajdorfSicilian wrote:
  • Report this Comment On August 18, 2009, at 4:09 PM, Clint35 wrote:

    Paul, I think you make some very good points. It's great that you know yourself as an investor. That's something that's important for all investors. When I was in my early twenties and first thought about investing in stocks most people told me it was risky and most people lost money doing it. But when I was twenty eight I bought my first share of stock anyway. That was after being educated about investing by The Motley Fool. I've learned more about investing and about myself since then. I'm definitely not risk-averse but I'm careful not to take on too much risk. Right now options seem very risky to me too. But that might just be because I know nothing about them. But the purpose of investing is to make money and if options can help people do that then that's awsome. If TMF wants to help people learn about options that's awsome. I doubt there's a better place to learn about it than here. Fool on!

  • Report this Comment On August 20, 2009, at 1:55 AM, DebtFreeDave0 wrote:


    I traded options once ever. It was about a year ago. I decided I'd read up on how options work and experiment with them. I decided to buy a stock that was down quite a bit, so I could afford to buy 100 shares without using up too much of my cash, then sell a covered call. The plan was to buy the stock cheap, wait it out (no matter what my emotions told me) and let the covered call expire, then repeat. According to all the options gurus this is the safest options bet out there, your risk is cancelled out by buying the stock. I bought the stock 9/8/2008, sold a covered call with a expiration of 10/18/2008.

    It was the worst stock move I've ever made. The stock was Washington Mutual (WM at the time). I was still holding the stock on 9/25/2008, when that stock became worthless, because I was waiting for the covered call to expire. If I didn't own the covered call, I probably would have come to my senses and followed my gut and sold the stock before it was too late, but I held out because of that dang call option.

    Now when I listen to Jeff Fischer and The Motley Fool talking about a new Options service that will make me rich. I can't help but think of it as some sleezy sales pitch of someone just trying to get money out of me.

    I'm glad to hear at least one person at The Motley Fool feels the same way as I do.

  • Report this Comment On August 20, 2009, at 2:47 PM, comissar wrote:

    I have to take exception to one comment in the article that suggests that writing a bad option can easily wipe you out. Writing a put or call generates income that can't go away regardless of what happens, and that income cushions any adverse move in the underlying stock. If the (covered) call writing goes bad (i.e. the stock goes up significantly), you sell the stock at a good price, but not as good as if you had just sold it outright. And a (cash covered) put might cause you to buy the stock at a price higher than market at option expiration, but it will be a price better than if you bought it outright now. In either case, the worst case scenario is BETTER than buy and hold. You don't even need to watch the expiration date, although you might miss an opportunity to lock in a gain or limit a loss early.

    You are never trapped in to holding your position until expiration. You can always sell (or buy back) the option and sell the underlying stock. It might be at a loss, but would be the road to take if your position on the underlying stock suddenly changed (i.e. the WaMu case cited by someone earlier) and would actually be better than having held WaMu without the option and dumping it when the news came out, because you have the call income to slightly cushion the underlying stock loss.

    Still, I applaud the idea that if an investing approach doesn't fit your personality, you shouldn't do it. I'm just tired of hearing the 'options are risky' and 'you can be wiped out' noise, usually from someone who has never done it.

    And yes, I think that TMF's marketing pitches for their various services have gotten shrill and cheesy. But I'm a Stock Advisor subscriber through the last year and a half's worth of financial debacle, and feel that I got my money's worth and more from it.


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