The Options Institute
C
Proactively Manage
Risk
and Generate Income with
A
+
Options
B
0

Presentation
for
FPA of Philadelphia
May 2, 2005
By
Frank J. Tirado
Director, CBOE
Chicago Board Options Exchange
1
In order to simplify the computations, commissions have not been included in the
examples used in these materials. Commission costs will impact the outcome of all
stock and options transactions and must be considered prior to entering into any
transactions.
Any strategies discussed, including examples using actual securities and price data,
are strictly for illustrative and educational purposes only and are not to be construed
as an endorsement, recommendation, or solicitation to buy or sell securities.
Options involve risks and are not suitable for everyone. Prior to buying or selling an
option, an investor must receive a copy of Characteristics and Risks of Standardized
Options. Copies may be obtained from your broker or from the Exchange at LaSalle
at Van Buren, Chicago, IL 60605. Investors considering options should consult their
tax advisor as to how taxes may affect the outcome of contemplated options
transactions.
2
Agenda
1. Why Options?
2. Options Fundamentals
3. Options Strategies
4. Q & A
3
The Options Institute
C
Why Options?
A
+
B
0

Chicago Board Options Exchange
4
Why Options?
• More than 1 Billion stock & index option contracts
traded in the U.S. in 2004.
• More than 361 million contracts traded at the
CBOE - an
increase of 27% YTD.
• Why?
5
Why Options?
Options are tools that give you more ways to
implement your market research.
» Risk Management Tool
» Income Generating Tool
» Can trade options on stocks, ETFs, and
indexes
6
Why Options?
Stock and Index options volume in millions of contracts in the U.S.
1080
990
908
890
790
727
690
781 780
590
508
490
390
294
281 287
290
04
20
03
20
02
20
01
20
00
20
99
19
98
19
97
19
96
19
95
19
94
19
93
19
19
91
92
198 202
190
19
354 406
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Extra! Extra!
You can now trade options on the
Standard & Poor's Depositary Receipts®
(known as "SPDRs") at the CBOE.
Options on SPY began trading on 1/10/05
at the CBOE.
ETF & Options Ticker Symbol: SPY
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The Options Institute
C
Option Fundamentals
A
+
B
0

Chicago Board Options Exchange
9
Rights vs. Obligations
B
U
Y
E
R
S
E
L
L
E
R
CALL
PUT
The right
(but not the
obligation)
to buy
The right
(but not the
obligation)
to sell
The
potential
obligation
to sell
The
potential
obligation
to buy
BUYERS GET RIGHTS / SELLERS GET OBLIGATIONS
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The Options Institute
C
Options Strategies
A
+
B
0
Protective Put

Chicago Board Options Exchange
11
Protective Put Strategy
What if:
You already own 1,000 shares XYZ at a price of $50
» Assume bullish on XYZ, but nervous for the next
60-days because of earnings rumors
» Put Options can fix a Minimum Selling Price
Consider buying 10 XYZ 60-day 50 strike Puts
» Assume price is $2.50 each
12
Protective Put Strategy
Own stock
@ 50
Purchase 60-day 50 put @ 2.50
Position investment (b/e)
52.50
Results
» Raise break-even level from 50 to 52.50
» Incur cost to purchase puts
» Limit downside risk to 2.50 points
13
Protective Put Strategy
Results at expiration:
Stock > 50, puts expire worthless, lose $2.50
(may be offset by stock gain)
Stock< 50, exercise put, sell stock @ 50
Loss is limited to $2.50 (premium paid for put)
14
Protective Put Strategy
Acts like insurance
Maximum risk/loss in this example is the “cost of
insurance” or $2,500 or 5%
Insurance expires in 60 days
Different Strikes allow you to choose your “deductible”
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Protective Put Strategy
• Long 1,000 shares XYZ at $50 per share
• Long 10 XYZ 60-day 50 Puts at a price of $2 1/2
12
8
6
4
2
62
60
58
56
54
52
50
48
46
44
-2
42
0
40
Pro fit/(L oss)
10
-4
Sto ck Pr ice
16
Protective Put Strategy
Benefits:
Simplicity
Limit risk to a pre-determined amount
Protection only if you need it
Control
Challenges:
Debit not credit
Premium paid for flexibility can result in under-performance
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The Options Institute
C
Options Strategies
A
+
B
0Covered
Call Writing

Chicago Board Options Exchange
18
Covered Call Writing
Assume:
» Own 1,000 shares of XYZ stock now trading at $50/share
» Outlook is neutral to moderately bullish on XYZ
» Want to increase stock return if market is level
Sell 10 XYZ 60-day 55 Calls at $1.50 each
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Covered Call Writing
Reasons for selling covered calls against stock
currently owned:
» Enhance returns from investment
» Pre-set sale price for stock
» Provide limited downside protection
When to use:
» Neutral to moderately bullish on the stock
20
Covered Call Writing
Own 1000 shares XYZ stock
@
Sell 10 60-day 55 calls
@
Position investment (break-even)
50
1.50
48.50
Results
•Break-even lowered from $50 to $48.50
• Receive credit for selling call
• Limited downside protection
• Maximum gain = premium plus gain on stock (1.50 + 5)
There is no profit participation above 55.
21
Covered Call Writing
At Expiration:
If stock is above $55, option is assigned; investor must
sell stock at $55 (keeps call premium)
If stock is unchanged, call expires worthless (seller
keeps stock and call premium)
If stock price falls, option premium provides limited
downside protection (losses will occur below breakeven point of $48.50)
22
Covered Call Writing
Example: 60 days prior to November option expiration
Buy 100 shares XYZ
Sell 1 XYZ Nov 55 call
Static return:
3%
If-called return:
13%
@
@
50
1.50
23
Covered Call Writing
If XYZ falls, losses don’t begin until $48 1/2
limited downside protection
If XYZ flat at $50, keep $1 1/2 premium
18% annualized return in a flat market
If XYZ between $51-$55
Profit is stock P/(L) plus $1 1/2 premium
Above $55, calls may be assigned
» Max profit is 5 points stock plus $1 1/2 premium or
$6,500.00 (13%) over 60 days
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Covered Call Writing
• Compared with just holding Stock
15
5
64
62
60
58
56
54
52
50
48
46
44
42
40
0
38
Profit/(Loss)
10
-5
-10
-15
Stock Price
25
Covered Call Writing
Benefits:
» Income from selling call
» Partial hedge
Challenges:
» Caps upside
» Downside risk of stock remains intact
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The Options Institute
C
Options Strategies
A
+
B
0
Protective Collar

Chicago Board Options Exchange
27
Protective Collar
A Protective Collar is a three part strategy that includes owning
stock, buying a put option and selling a call option. It is a
defensive strategy to protect a stock position or a portfolio. The
Protective Collar can be constructed no cost or at a reduced
cost (excluding commissions).
1. Long 1,000 shares XYZ @ $50
2. Buy 1-Year 45 Puts @ $4
3. Sell 1-Year 60 Call @ $4
» Do as one trade…no debit or credit
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Protective Collar
• Long 1,000 XYZ at $50,
• Long 10 XYZ 1-Year 45 Puts at $4
• Short 10 XYZ 1-Year 60 Calls at $4
20
10
5
60
55
50
45
0
40
Profit/(Loss)
15
-5
-10
Stock Pr ice
29
Protective Collar
Benefits:
» Zero-Cost or low cost
» Limited Downside (10%)
Challenges:
» Limited Upside (20%)
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LEAPS
What about LEAPS?
31
CBOE Information
The Options Institute
Web Site:
www.cboe.com
E-mail:
options_institute@cboe.com
Options Institute Courses for Advisors
The Options Course for Advisors and Planners
Managing Concentrated Stock Positions
For more information call Laura Johnson at
312.786.7818.
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