When working capital is limited

October 25, 2010

The small investor and trader with limited funds, may find it difficult to take a position in some of the higher priced stocks that sell at one hundred dollars and higher, stocks such as the following favorites for example:

Apple (AAPL) @ $308

Amazon (AMZN) @ $169

AutoZone (AZO) @ $235

International Business Machines (IBM) @ $140

Netflix (NFLX) @ $167

Historically, in their rise to their present price levels, these stocks have provided excellent gains for investors who usually take positions with a long-term view. And many recognize the present value and growth prospects still provided by those stocks, making them worthwhile as continuing holds or for new investment.

Possibilities when working capital is limited
For those investors and traders with a smaller amount of working capital there is still a way to take a position in them and the rewards can be significant if they perform well.

The way to do this is to purchase a special type of option called a LEAPS, an option that does not expire until January of 2012, more than a year away, and there are also some available that do not expire until January of 2013.

It may take a little courage for the beginner, who is still learning the stock market basics, to trade in these longer term options but they can be sold at any time until their expiry date, bid and ask quotes are always readily available from your stockbroker.

And part of the process in learning how to trade stocks is to become familiar with this very popular form of trading vehicle that enables speculation long-term and also provides a method to hedge, what might be called a type of investment insurance – but more about hedging that will be described in a post at a later date.

LEAPS – a simple definition
LEAPS is the acronym for “Long Term Equity Anticipation Securities Options”, a class of stock options that have a much longer term than usual until their expiry date, which always occurs in the month of January in the following year, or January of the following several years.

Benefits of LEAPS
The long-term options contract, that trades through the stockbroker in the same way as any other stock transaction, allows the holder to control 100 shares of the underlying stock until the date of expiry at a much lower outlay of funds than would be needed to purchase the actual shares. Using the LEAPS to control the stock in this way, means less of a depletion in the case of a smaller working capital stake so that a multiple of other transactions can be made.

For example, here are LEAPS paper trades on the 5 stocks mentioned above

Based on prices quoted for LEAPS as of today, October 25, 2010, all calls are “in the money” by a small amount.

Apple (AAPL stock at @ $308)    January ’12 – $300 call option @ $52.50

Amazon (AMZN stock at @$169)    January ’12 – $160 call option @ $34.00

AutoZone (AZO stock at @ $235)    January ’12 – $220 call option @ $34.00

International Business Machines (IBM stock at @ $140)    January ’12 – $135 call option @ $16.00

Netflix (NFLX stock at @ $167)   January ’12 – $165 call option @ $40.00

Please note, the above listed “paper stock trades” are examples only and should not be actually traded with real money. In the course of learning the basics of stock market trading it is necessary to define trades in this manner as part of the learning process.

There is much more basic stock market information available in the accompanying posts on this Stock Market Basics Guide website. This information can contribute to building a knowledge base for the beginning trader. Here is a List of Contents for this site.
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Related posts:

  1. For the Small Trader, An Alternative to Buying Stocks
  2. Introducing Stock Market Basics as it Relates to the Beginning Trader
  3. A Chart Observation for the Stock Market Basics Beginning Trader
  4. Stock Market Basics Guide — Our Objectives
  5. A New Series: Starting With Small Capital, a Paper-trading Portfolio
  6. Part 2, Starting With Small Capital
  7. Starting Anew, Steps to Learning Stock Market Basics – Post No. 1, November 05, 2010

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