MoolaManic:When you trade options, you're borrowing money.The...

MoolaManic:

When you trade options, you're borrowing money.

The option price is built from a model which has several factors to consider of which are the following:-

- Intrinsic Valuation
- Implied Valuation

Intrinsic Valuation as you must be aware is the actual mathematical valuation that is quantifiable intrinsically. I.e. BHP 30 March Calls are worth 50 cents when BHP is trading at 30.50, simple math.

Implied Valuation takes into account time decay, interest rate expectation, volatility, rate of change and "the rate of change of the rate of change" - Theta, Rho, Vega, Delta and Gamma respectively.

The implied valuation can be explained to the lay person as interest upfront. So yes, you are leveraging.

The correct explanation as to why you should be trading options instead of margin lending on stocks is that it is infinitely more cheaper, outlay and costs wise, and it is a NON RECOURSE loan. That is, when the option expires you do not have to pay the balance outstanding (like the above example, you can walk away from paying 30 bucks extra, when the stock is 20.)

You do not have that option with Margin lending, unless you wish to lose all your equity. Hence the price factor also comes in.

That being said, I know someone who lost 1 million AUD on an outright option bet, that if he had bought 1 million in leveraged stock, he would be worth 5 bricks now.