Warren Buffet as a rule employs stock options to change risk in stock and to buy equity at a diluted expenditure. If he is using stock options, they ought to be lower risk in comparison with just trading equities. You can directly trade stock options in your IRA. That is the elementary response, even so go on reading to learn why this is correct.

In reviewing the risk basis , equity option trading is less risky compared with stock trading over a specified epoch of time. For example, if you conclude Microsoft is about to expand in market value over the next two months subsequent to release of Vista, you can either get the stock for near $29.50 per share or buy a $30 strike price Jan '07 call for $0.70 per share. Because a equity option covers 100 shares, the option pay out is $70.00 to have control of one hundred shares opposed to $2950.00 to own 100 shares. If the equity advances to $30.00 per share the option moves to round about $092. You can calculate this using a stock option implied volatility calculator. That minor increase in the equity leads to a 30% gain on the equity option and a 1.7% gain on the equity. The term for this is leverage and is a hallmark of equity options trading. By the third Friday in Jan '07, say Microsoft advances to $35.00 per share. Using your call, you can have the equity at $30.00 or you can just dump your call for $5.00 per share, generating a 700% pay off on the equity option.

What if Microsoft drops? If it drops by $5.00 to $24.50, you give up $5.00 per share on the stock although the most you loose on call stock option is the whole amount you paid or $0.70 per share. That is hugely lower exposure than owning equity if you are wrong and the stock goes down.

When going long or buying a stock option, your risk is always confined to how much you spent and is at all times much less exposure compared with owning the stock. The high exposure in equity option trading occurs when you short (sell) options and you do not possess enough stock to meet the obligation of the sold call option or have the cash for a put option you sell. Avoid this type of trading to limit your risk.

Were you aware that you could even do away with the need to forecast whether a equity is about to move up or down? You can engage in direction neutral option trading , such as option backspread trading, to produce income if the equity moves either up or down. The risk in these trades is restricted to your beginning cost. Occasionaly you can layout some direction unspecified equity option trades at no cost.

Equity options can also be applied to reduce your exposure in stock ownership. If you have a equity that is not advancing, something that most stocks do nearly 80% of the time, write a call option with strike price greater than stock cost and cover the option with that flat stock your stock cost. For example, assume you paid $25 per share for stock and sell a $27.50 strike call option for $0.50 per share. If the equity goes to $27.50 at expiration of the option, you are obligated to sell the stock at $2750. You would capture a total of $3.00 per share ($2.50 on stock and $0.50 on option). When the equity moves down or does not exceed $27.50 by expiration, you get to keep the stock and the premium you were paid when you sold the call option. That is not unlike generating your own $0.50 per share dividend. Correspondingly it reduces your cost in the stock by $0.50 per share. Accordingly the most you can give up on that equity is 24.50, not the original $2500.

So to answer the question, equity option trading completed correctly is eminently less exposure than equity trading. Equity options allow you to diversify a great deal better with same supply of finances. The risk in equity option trading that is not present with stock trading is their limited lifetime. Stock options do expire. This means your forecast for the stock swing has to transpire within the time format of the options you employ. This can range from 1 day to about 3 years.

Go online and analyze equity option trading and the even lower risk found in volatility trading.