Don’t Gamble

“Don’t gamble; take all your savings and buy some good stock and hold it till it goes up, then sell it. If it don’t go up, don’t buy it.”

Will Rogers’s observation on the stock market is as true today as it was over 70 years ago. It speaks to the type of investing most people are familiar with. Buy and hold. That is, buying a stock and waiting for it to go up in price.

What most buy and hold investors don’t know is that this is one of the riskier ways to participate in the growth of a company.

Today, we’re going to look at an approach that has less risk and can deliver big returns on a smaller investment.

The Magic of Options

Just the word “options” turns a lot of investors off. The arcane terms used in this market can be off-putting. In the money, out of the money, covered calls, naked puts — just to name a few — send many running for the exit.

To the uninitiated, it sounds downright reckless. It’s not. In its simplest form, options limit your downside and can increase your upside.

A Comparison

When you use options to invest in a company, your reasons should be the same as when buying stock. In other words, you look for a company you have confidence in. It should be selling at a reasonable valuation. And it should benefit from powerful long-term trends.

The only difference is that instead of buying the underlying stock, you buy an options contract. It’s really that simple. Let’s compare.

Buying the Stock

Let’s say you want to invest in ABC Company. It’s selling for $10 a share. You buy 100 shares for a total investment of $1,000.

Now let’s assume the stock goes up — to $12 a share. You sell your 100 shares and realize a profit of $200. That’s a 20 percent return. Go out to dinner and order a good bottle of wine.

Buying the Option

Instead of buying the stock, you buy 10 call option contracts on ABC Company — betting that the price of the underlying stock will go up. Each contract controls 100 shares at a cost of $100 per contract. Your total investment is $1,000 ($100 x 10 contracts).

The stock rises to $12. Each one of your options contracts increases in value to $300. You sell all 10 contracts. You realize a profit of $2,000. That’s a 200 percent return. Go out to dinner and buy yourself a new plasma TV.

Why Use Options?

First, options are much cheaper than the underlying stock. So less capital is required to control a bigger position. Let’s say you like Google. To buy a round lot (100 shares), you’ll need over $55,000! With the option, you can control 100 shares of Google for pennies on the dollar.

Next, your downside is limited to the price paid for the option.

And lastly, with a small investment, you can make big returns.

Can This Really Work for You?

The short answer is yes — even if you’ve never invested in options before. If you’d like better returns and less risk, I recommend that you try IDE’s Options Power Trader service. It makes investing in options easy. Our options guru Ted Peroulakis will guide you every step of the way. What to buy. When to buy. And when to sell.

Ted has just booked eight winners in a row. And he’s expecting number nine in the next few days. In the last few weeks, he’s taken gains like these:

• 30.88 percent options gains on the oil giant Chevron in 28 days, while the stock went up 5 percent in the same period
• 26.26 percent on Walmart calls in 37 days, while the stock went up less than 4 percent
• a 36.07 percent gain on the drug maker Merck in 27 days, while the stock went up 5.3 percent

Keep in mind that Ted’s been taking these types of gains in a market that has been going up slowly. There are even bigger winners when the markets are more volatile. Like last year.

Make Your Money Work Harder

In 2009, Ted booked 17 trades with gains of 100 percent or more. Seventeen! Just one of those trades beat the market for the entire year.

How is 2010 shaping up? Ted sees a lot of opportunity for triple-digit winners in the next few months. Healthcare and technology are two sectors he is excited about.

Ted has been successfully guiding investors for over 15 years. And he’s a self-made millionaire many times over.

If you’d like to know more about options and how they make your money work harder for you, click here.

[Ed. Note: Bob Irish is the investment director of Early to Rise‘s sister publication, Investor’s Daily Edge. Before coming to IDE, he enjoyed a decades-long career in the financial services industry.]