Investing Archives | Page 168 of 191

Mar

2023

Guide to Speculative Investments

By Laurel Tincher | Growing Wealth, invest, Investing | Comments Off

A speculative investment is when an investor hopes to profit from a rapid change in the value of an asset, often one that’s considered non-productive.

Many speculative investments are short-term, and they can be made in markets such as foreign currencies, collectives, fine art, and margin trading of stocks.

Typically, speculative investments are high-risk positions in assets with frequent price fluctuations, providing both the opportunity to profit and the risk of loss.

What Are Speculative Investments?

In general, if an investor is investing in an asset with the belief that its value will increase within a short amount of time, and they will be able to sell it for more than they bought it for, that is a speculative investment.

The types of investments that fall into the speculative investing category are often referred to as non-productive assets, because they don’t produce any income while they are held by an investor, such as dividends or rental income.

The way investors make money on them is by speculating that someone else will buy the asset for more than they did at some point in the future. There is some underlying agreement in the markets that an asset has value despite its lack of production. For instance, gold and precious metals are considered valuable, and investors buy them predicting that their value will increase.

Conversely, non-speculative investments tend to be part of long-term investment strategies. These are assets that may increase in value over a longer period of time, and may also provide income while the investor owns them.

Examples of non-speculative investments can include real estate and owning part of a business, but even real estate and stock investments can be considered speculative in certain cases.

How Does Speculation Work?

As noted above, speculation is when investors anticipate that their purchase will go up in value and they will be able to sell it for a profit. Investors would be unlikely to take part in speculative investments unless there was a significant chance that they might see a significant gain, despite the risk exposure.

Investors typically consider many factors, such as a news event, election cycle, interest rate changes, or a new regulation. Any of these could spark a price change in a speculative asset.

If an investor has several speculative assets in a portfolio, they might hope that just one or two of them earn a huge profit, making up for any losses in other areas. Speculative investing poses a high risk for novice investors.

Speculation looks different depending on the market. For instance, speculation in the real estate market might look like an investor buying multiple properties with small down payments with a plan to quickly resell them for a profit.

Speculation can also look like betting against the market trend through short selling, a strategy where investors to bet that a particular stock’s future price will be lower than its current price. It’s the opposite of going long a stock, where an investor buys shares with the expectation that the stock price will increase.

4 Examples of Speculative Investments

Below are four examples of common speculative investments.

1. Foreign Currencies

One type of speculative investment is foreign currencies (forex). The forex market is the largest in the world. Around $6.6 trillion is transacted each day in the global foreign currency markets.

Forex trading involves buying and selling currency pairs such as EUR/USD. As the value of one currency goes down, the other goes up. Traders speculate on which way the relationship will go and hope to profit off the change in value.

Forex markets are open 24 hours a day, and investors can execute trades as quickly as seconds or minutes, making it a popular forum for speculation.

2. Precious Metals

Precious metals such as gold, silver, copper, and others are traded as hard commodities (versus soft commodities, like agricultural products). These are speculative investments that fluctuate in price constantly based on a variety of factors, including inflation, supply and demand for products that require these metals, and other trends.

Thus, investing in precious metals can be risky because they’re susceptible to volatility based on factors that can be hard to anticipate. Even a relatively stable commodity such as gold can be affected by rising or falling interest rates, or changes in the value of the U.S. dollar.

In the case of any commodity, it’s important to remember that you’re often dealing with tangible, raw materials that typically don’t behave the way other investments or markets tend to.

3. Cryptocurrencies

Cryptocurrencies are considered speculative since they fluctuate widely in price and come with high risk and potential high returns. Because the crypto markets are barely 14 years old, there isn’t a lot of history to the market to use for predictions, and no way of knowing whether a crypto like Bitcoin (or Ethereum, Litecoin, Dogecoin) will go to $100K or to $1K within the next year.

4. Bond Market

Asset prices in the bond market fluctuate widely depending on interest rate changes and political and economic conditions. The prices in the U.S. Treasuries market are often strongly influenced by speculation.

Bonds are rated by agencies such as Moody’s and Standard and Poor’s. Highly rated bonds are not considered speculative and are referred to as “investment grade,” while lower-rated bonds are considered speculative and referred to as “junk bonds.” Since junk bonds are riskier, they pay out higher interest rates to investors.

Pros and Cons of Speculative Investment

Speculative investments come with both upsides and downsides. The choice of whether to make speculative investments depends on an investor’s risk tolerance, knowledge about markets, and short- and long-term investment goals.

Pros

Some of the pros of speculative investments include:

• Potential for high returns

Cons

Downsides of speculative investments include:

• Don’t provide income while they are held. (With some exceptions, such as cryptocurrencies that earn interest through staking)

• Risk of losing one’s entire investment

• Requires active trading and time commitment

Speculative Investments vs Traditional Investments

Below are some of the key differences between speculative investing and traditional investing:

Speculative Investments	Traditional Investments
Usually short-term	Long-term
High risk and active	Low- to medium-risk and generally more passive
Includes alternative and niche assets such as art, forex, and crypto	Generally includes traditional assets like stocks, bonds, and index funds

Recommended: What Are Alternative Investments?

Speculative Investments vs Gambling

The difference between speculation and gambling is that speculation involves taking a calculated risk on investing in an asset with an uncertain outcome but an expected return from the asset increasing in value. Gambling involves betting money with an uncertain outcome and the hope of winning more money.

Gamblers could be said to possess a more risk neutral outlook, in that they might disregard even high levels of risk for a potential reward. Speculative investors calculate the risk vs. the reward.

Other Risky Investments

In addition to the speculative investments highlighted above, the following are higher-risk types of investments that can be considered speculative.

Margin Trading

Margin trading involves an investor borrowing money from a broker in order to make a trade rather than using a cash account to buy securities. Usually investors can only borrow up to 50% of the purchase amount of securities they want to buy. For example, if an investor with $3,000 in their account, can borrow $3,000, allowing them to purchase $6,000 worth of securities.

Typically, less experienced, risk-averse investors choose cash accounts vs. margin accounts because of the risks involved with leveraged positions. By using margin, the investor can place bigger bets. But if the trade doesn’t go in their favor they could lose both their own capital and the money they borrowed.

Margin accounts also charge interest, so any securities purchased need to increase above the interest amount for the investor to see a profit. Different brokers charge different interest rates, so it’s a good idea for investors to compare before choosing an account.

Options Trading

With options trading, investors purchase an option that gives them the ability to buy a stock in the future at a particular price if they choose to. In other words, options give holders the right, but not the obligation, to buy or sell an asset like shares of a company stock.

Options holders can buy or sell by a certain date at a set price, while sellers have to deliver the underlying asset. Investors can use options if they think an asset’s price will go up or down, or to offset risk elsewhere in their portfolio.

Options are considered financial derivatives because they’re tied to an underlying asset.

Penny Stocks

Penny stocks are high-risk stocks that have a low dollar value. Investors can buy several shares of them since they are so inexpensive, with the hope that they increase a lot in value over a short period of time. An event such as a big news story could trigger a change in stock value and provide the chance for a trader to cash out.

The Takeaway

Speculative investments are risky, but can provide significant returns and can be a good way to diversify one’s portfolio. They are generally best for active traders looking for short-term investment opportunities, who can tolerate higher levels of volatility and risk.

Speculative investments are often considered non-productive assets, such as foreign and cryptocurrencies or commodities like gold or silver. But some stocks and bonds can be speculative too. Speculation is mainly the opportunity to profit from short-term price movements.

If you’re looking to start trading, consider margin investing with SoFi Invest. SoFi’s online investing app is streamlined and secure, so you can research, track, buy and sell on margin right from your phone or laptop. You can borrow money against your current investments to buy stocks and ETFs.

Get one of the most competitive margin loan rates with SoFi, 11%*

FAQ

What are some examples of some speculative investments?

Examples of speculative investments include penny stocks, crypto, precious metals, and forex. Many speculative investments fall into the category of non-productive assets, and they’re usually susceptible to volatility, giving investors the opportunity to profit from short-term price movements.

Is speculative investing the same as gambling?

No, gambling involves betting money with the hope that you will win more money, while speculative investing involves buying an asset with the expectation that you will be able to sell it for a profit.

Is Bitcoin considered a speculative investment?

Bitcoin and cryptocurrencies are considered speculative investments because their prices fluctuate widely and are difficult to predict. They are risky and come with the potential for significant gains or losses.

Photo credit: iStock/Delmaine Donson

*Borrow at 11%. Utilizing a margin loan is generally considered more appropriate for experienced investors as there are additional costs and risks associated. It is possible to lose more than your initial investment when using margin. Please see SoFi.com/wealth/assets/documents/brokerage-margin-disclosure-statement.pdf for detailed disclosure information.
SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2023

Guide to Protective Collars in Options Trading

By Mike Zaccardi, CMT, CFA | Growing Wealth, invest, Investing | Comments Off

As an investor in a volatile market, it can be stressful worrying about gains turning into losses from day to day. One strategy to protect your gains is through protective collar options.

Protective collars provide inexpensive near-term downside risk protection on a long stock position, but the strategy also limits your upside.

What Is a Protective Collar?

A protective collar is a three-part strategy:

A long position in a previously purchased underlying asset that has seen a large price increase you wish to protect.
A long put option, also known as a protective put, that provides downside protection to your asset gains.
A call option with the same expiration date as the long put written on the underlying asset, also known as a covered call. Writing this call offsets the cost of purchasing the long put option, but it will also limit the future potential gains on the underlying asset.

As with other options strategies, when you reduce risk, you must give up something in return. In the case of a protective collar option strategy, you limit your upside since you are short calls. Additionally, the sale of calls helps reduce the overall cost of the transaction. It might even be possible to construct a protective collar that generates income when initiated.

Collars in options trading help address price risks. The term “collar” refers to the strike prices of the two options being above and below the price of the underlying asset. The put strike is typically below the current share price while the short call strike is above the price of the underlying asset. Profits are capped at the short call strike price and losses are capped at the long put strike price.

How Do Protective Collars Work?

Protective collars work to hedge against the risk of a near-term drop on your long stock holding without having to sell shares. It’s one of many strategies for options trading to manage risk. If you have a sizable gain on your shares, you might not want to trigger a taxable event by liquidating the position.

Protective collars have many beneficial features:

• Protective collars allow you to initiate the trade cheaply. A protective collar option can be done at a net debit, net credit, or even without cost, known as a “zero-cost collar”.

• Protective collars provide downside risk protection at a level you determine. You will be purchasing a long put. By choosing a put that’s at the money, you will protect the most loss, but at the highest cost.

Conversely by choosing a long put that is out of the money, you pay less up front, but the accepted potential loss will be higher.

• Protective collars allow you to participate in further asset increases, again at a level you determine. By writing a call that’s at the money, you earn the highest premium but limit upside participation and increase the likelihood your shares will be assigned and sold.

• By choosing to write calls that are far out of the money, you will earn lower premiums that can offset the cost of the purchased put option but allow continued participation in any future asset increases. Additionally, the likelihood that the call will be exercised and assigned is lower.

Recommended: Guide to Leverage in Options Trading

Maximum Profit

The maximum profit on a protective collar options position happens at the short call strike. The highest profit is limited to the high strike minus the net debit paid or plus the net credit received when executing the options trade.

Maximum Profit = Short Call Strike Price – Purchase Price of Stock – Net Debit Paid

Maximum Profit = Short Call Strike Price – Purchase Price of Stock + Net Credit Received

Maximum Loss

The maximum loss on protective collar options is limited to the stock price minus the put strike minus the net debit or plus the net credit received.

Maximum Loss = Long Put Strike Price – Purchase Price of Stock – Net Debit Paid

Maximum Loss = Long Put Strike Price – Purchase Price of Stock + Net Credit Received

Break Even

Theoretically, there are a pair of break-even prices depending on how the initial trade was constructed. If it was a net debit protective collar, then the break even is the stock price at trade initiation plus the net debit paid. If the options trade was executed at a net credit, then the break even is the stock price at trade initiation minus the net credit.

Break Even = Stock Price at Trade Initiation + Net Debit Paid

Break Even = Stock Price at Trade Initiation – Net Credit Received

However, for an asset that has seen significant appreciation, the concept of break even is almost irrelevant.

Constructing Protective Collars

Putting on a protective collar strategy might seem daunting, but it is actually quite straightforward. You simply buy a low strike put option and simultaneously sell an upside call option. Of course, you must already own shares of the underlying stock.

The protective put hedges downside risk while the covered call caps gains but helps finance the overall trade. Both options are usually out of the money.

Pros and Cons of Protective Collars

Pros	Cons
Limits losses from a declining stock price while still retaining ownership of the shares	Upside gains are capped at the call strike
There remains some upside exposure	Losses can still be experienced down to the long put strike
Protective collars are cheaper than purchasing puts only	Slightly more complicated than a basic long put trade

When Can It Make Sense to Use Protective Collars?

You might consider implementing a protective collar options position when concerned about near-term or medium-term declines in an equity holding. At the same time, you do not want to sell your shares due to a large taxable gain. For that reason, protective collar options might be more likely to be used in taxable accounts rather than tax-sheltered accounts like an IRA.

With the downside risk hedge also comes the risk that your shares get “called away” if the stock price rises above the short-call strike.

A protective collar can work well during situations in which the market or your individual equity positions lack upside momentum. A sideways to even down market is sometimes the best scenario for protective collar options. During strong bull markets, the play is not ideal since you might see your shares vanish when the underlying stock price gets above the short call strike.

Finally, user-friendly options trading is here.^*

Trade options with SoFi Invest on an easy-to-use, intuitively designed online platform.

*Check out the OCC Options Disclosure Document.

Protective Collar Example

You own 100 shares of XYZ company that you paid $50 for, and the stock is currently trading at $100. You’re concerned there might be a move lower on your equity stake, but you do not want to trigger a taxable event by selling.

A protective put is an ideal way to address the risk and satisfy your objectives. You decide to sell the $110 strike call for $5 and buy a $90 strike put for $6. The total cost or net debit is $1 per share or $100 per option, each option represents 100 shares.

If the price rises above the short call strike price of $110 to $115:

Unrealized Profit on Stock Position = Current Price – Purchase Price

Unrealized Profit on Stock Position = $11,500 – $5,000 = $6,500

Maximum Profit = Short Call Strike Price – Purchase Price – Net Debit Paid

Maximum Profit = $11,000 – $5,000 – $100 = $5,900

You have given up $600 of potential profit to protect your downside risk.

If the stock trades anywhere between $90 and $110, For example $105:

Unrealized Profit on Stock Position = Current Price – Purchase Price

Unrealized Profit on Stock Position = $10,500 – $5,000 = $5,500

Profit = Current Price – Purchase Price – Net Debit Paid

Profit = $10,500 – $5,000 – $100 = $5,400

You have paid $100 to protect your downside risk. It may also have been possible to choose options that would have allowed you to profit on the protective collar.

If the price drops below the long put strike price of $90 to $85:

Unrealized Profit on Stock Position = Current Price – Purchase Price

Unrealized Profit on Stock Position = $8,500 – $5,000 = $3,500

Maximum Loss = Long Put Strike Price – Purchase Price of Stock – Net Debit Paid

Maximum Profit = $9,000 – $5,000 – $100 = $4,000

You have avoided additional losses of $500 by purchasing the protective collar.

Collars and Taxes

Nobody likes paying unnecessary capital gains taxes. Protective collar options can be used to avoid that scenario. The strategy offers downside risk control while allowing you to keep your shares.

You still might be required to sell your stock to the holder of the calls you wrote, though. If you decide to sell your shares to the put owner, that too will trigger a taxable sale. The potential taxes can’t be avoided using this strategy, but they can be deferred, let’s say into next year, and this can be valuable in itself.

The Takeaway

Protective collar options are used to guard against near-term losses on a long stock position. The combination of a protective put with a covered call offers a low-cost way to help control risk. It can also be a tax-savvy move to protect an unrealized gain without triggering a taxable event as you would when selling shares.

If you’re ready to try your hand at options trading, SoFi can help. You can trade options from the SoFi mobile app or through the web platform. And if you have any questions, SoFi offers educational resources about options to learn more.

With SoFi, user-friendly options trading is finally here.

FAQ

Are protective puts worthwhile? When does it make sense to buy protective puts?

Protective puts can make sense if you are concerned about bearish price action on your underlying stock position. They are worthwhile if you have a strategy with respect to timing, direction, and price of the trade.

What does protective, covered, and naked mean in options?

“Protective” in options trading refers to having downside risk protection should a stock position drop in price. A protective put, for example, rises in value when shares fall.

“Covered” in options parlance means that you are writing call options against an asset you currently own.

“Naked” is when you are writing call options that you do not currently own.

What are the benefits of collar trades?

Protective collar options trades are used when you are bullish on a stock but are concerned about near-term downside risk. A major benefit is that the strategy helps to cushion losses if the underlying stock drops. Since the strategy assumes you own shares of the underlying asset, a combination of a protective put and a covered call help to keep costs low on the trade. That is a major benefit to traders looking to protect a long stock position.

Photo credit: iStock/Prostock-Studio

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2023

Guide to Synthetic Longs

By Mike Zaccardi, CMT, CFA | Growing Wealth, invest, Investing | Comments Off

A synthetic long is an option strategy that replicates going long the underlying asset. The strategy is used by bullish investors who wish to use the leverage of options to establish a position at a lower capital cost.

As with going long in a particular asset, potential profits are unlimited, however, potential losses can be substantial if the underlying asset price goes to zero.

What Is a Synthetic Long?

First, a refresher on the two basic types of options: puts and calls. Options are a type of derivative that may allow investors to gain — not by owning the underlying asset and waiting for it to go up, but by strategically using options contracts to profit from the asset’s price movements.

Establishing a synthetic long requires purchasing at-the-money call options and selling put options at the same strike price and expiration. A synthetic long strategy has a bullish outlook since the maximum profit is unlimited while the downside risk, increases until the asset price goes to zero.

An investor puts on a synthetic long options position when bullish on the underlying asset, but wants a lower cost alternative to owning the asset. You can learn more about how options trading works with SoFi.

A synthetic long options position has the same risk and reward profile as a long equity position. The setup can be beneficial to traders since a lower amount of capital is needed to establish the position. The options exposure offers leverage while owning the asset outright does not.

A key difference between a synthetic long and a long position in the underlying asset is the time limit dictated by the option’s expiration date. The options trader also does not have shareholder voting rights and will not receive dividends.

How Do Synthetic Longs Work?

Synthetic longs work by offering the options trader unlimited upside via the long call position. If a trader was very bullish, they might buy only the long call.

However, the short put helps finance the synthetic long trade by offsetting the expense of buying the long call. In some cases, the trade can even be executed at a debit (profit) depending on the premiums of the two options.

By including the short put, the investor can be exposed to losses, should the asset price drop below the strike price of the short put, but no more than would be expected if the trader went long the underlying asset.

Setup

A synthetic long options play is one of many popular options strategies, and it can be constructed simply: You buy close-to-the money (preferably at-the-money) calls and sell puts at the same strike price and expiration date.

Your expectation is to see the underlying asset price rise just as you would hope if you were long the asset outright. If you’d rather own the asset outright, you can always purchase the stock directly through your brokerage.

Maximum Profit

There is unlimited profit potential with a synthetic long, just as there is with a long position. If the underlying share price rises the value of the call will increase and you can sell the call at a profit while covering (buying back) the short put to close out your trade.

Breakeven Point

A synthetic long’s breakeven point is calculated as the strike price plus the debit (cost) paid or minus the credit (profit) received at the onset of the trade.

Maximum Loss

The maximum loss is limited, but only because an asset’s price can’t drop below zero, but it can be substantial. Losses are seen if the underlying share price drops below the break even point and maximized if the asset price drops to zero.

In the event that the asset price drops below the strike price of the short put, the trader can be assigned shares and would be obligated to buy the asset at the strike price. The risk of assignment increases as the asset price drops and the option nears expiration, but it can happen at any time once the asset trades below the strike price.

The loss would be slightly higher or lower based on the credit or debit of the initial trade.

Exit Strategy

Most traders do not hold a synthetic long through expiry. Rather, they use options to employ leverage with a directional bet on the underlying asset price, then exit the trade before expiration.

To exit the trade, the investor sells the long call and buys back the short put. This tactic avoids buying the underlying asset and the increased capital outlay that would incur.

Synthetic Long Example

Let’s say you are bullish shares of XYZ company currently trading at $100. You want to use leverage via options rather than simply buying the stock.

You construct a synthetic long options trade by purchasing a $100 call option contract expiring in one month for $5 and simultaneously selling a $100 put option contract at the same expiration date for $4. The net debit (premium paid) is $1.

Net debit = Call Option Price – Put Option Price = $5 – $4 = $1 per share

Note: The $1 net debit is per share. Since an option contract is for 100 shares, the debit will be $100 per option contract.

If the asset price falls, you experience losses. If the stock price drops to $90 after one week, the put premium rises to $12 while the call option price falls to $4. Your unrealized loss is $9 (the long call price minus the short put price minus the net debit paid at initiation).

You choose to hold the position with the hope that the stock price climbs back. Because the stock price has dropped below the $100 strike price you are at risk of your short put being exercised and assigned.

Unrealized loss = Long Call Price – Short Put Price – Net Debit at Initiation

Unrealized loss = $4 – $12 – $1 = Loss of $9 per share or $900 per option contract

A week before expiration, the stock price has risen sharply to $110. You manage the trade by selling the calls and covering the short put. At this time, the call is worth $12 while the put is worth $3. The net proceeds from the exit is $9. Your profit is $8 ($9 of premium from the exit minus the $1 net debit).

Profit = Long Call Price – Short Put Price – Net Debit at Initiation

Profit = $12 – $3 – $1 = Profit of $8 per share or $800 per option contract

You could hold the trade through expiration but would then be exposed to having to own the stock.

Finally, user-friendly options trading is here.^*

Trade options with SoFi Invest on an easy-to-use, intuitively designed online platform.

*Check out the OCC Options Disclosure Document.

Calculating Returns

A synthetic long replicates a long position in the underlying asset but at a lower cost.

In the example above, an investor might have purchased 100 shares of XYZ at $100 each for a capital outlay of $10,000. If the shares closed at $110, the long position would be worth $11,000.

$ Gain = Selling Price – Purchase Price

$ Gain = $11,000 – $10,000 = $1,000

% Gain = $ Gain / Purchase Price

% Gain = $1,000 / $10,000 = 10% Gain

The synthetic long in the example above is substantially cheaper at a cost (debit) of $100 for one option representing 100 shares of XYZ. When sold, the options were worth $900.

$ Gain = Selling Price – Purchase Price

$ Gain = $900 – $100 = $800

Note this gain is approximately the same as the gain if the shares were bought.

% Gain = $ Gain / Purchase Price

% Gain = $800 / $100 = 800% Gain!

As you can see, while dollar gains are very similar, the percentage gains are larger due to the power of leverage using options. But leverage works both ways.

If we take a loss on a synthetic long, dollar losses will also be in line with losses on a long position, but percentage losses can be as outsized as the gains.

Pros and Cons of Synthetic Longs

Pros	Cons
Unlimited upside potential	Substantial loss potential if the stock falls to zero
Uses a smaller capital outlay to have long exposure	You do not have voting rights or receive dividends as a shareholder would
You can define your reward and risk objectives	The trade’s timeframe is confined to the options’ expiration date

Alternatives to Synthetic Longs

To have long exposure to a stock you can simply own the stock outright. Stock ownership carries with it the benefits of voting rights and dividends but at a much higher capital outlay.

Another alternative similar to a synthetic long options trade is a risk reversal. A risk reversal options trade is like a synthetic long, but the strike price on the call option is higher than the put strike price. A risk reversal is also known as a collar.

A synthetic long call can also be created with a long stock position and a long put.

A bearish alternative is a synthetic long put strategy. A synthetic long put happens when you combine a short stock position with a long call.

The Takeaway

Options synthetic long strategies combine a short put and a long call at the same strike and expiration date. It replicates the exposure of being long the underlying asset outright — but the investor needs a lower-cost alternative to owning the asset. It’s one of many options strategies that allow traders to help define their risk and reward objectives while employing leverage.

Putting on a synthetic long position means buying at-the-money call options and selling put options at the same strike price and expiration. This strategy has a bullish outlook because the maximum profit is unlimited, while downside risk increases until the asset price goes to zero.

If you’re ready to try your hand at options trading, SoFi can help. You can set up an Active Invest account and trade options onlinefrom the SoFi mobile app or through the web platform. And if you have any questions, SoFi offers educational resources about options to learn more. SoFi doesn’t charge commission, and members have access to complimentary financial advice from a professional.

With SoFi, user-friendly options trading is finally here.

FAQ

What is a long combination in options trading?

A combination is a general options trading term for any trade that uses multiple option types, strikes, or expirations on the same underlying asset. A long combination is when you benefit when the underlying share price rises.

How do you set up a synthetic long?

A synthetic long is established by buying an at the money call and selling a put at the same strike price. The options have the same expiration date. The resulting exposure mimics that of a long stock position.

What is the maximum payoff on a synthetic long put?

The maximum payoff on a synthetic long put happens if the stock price goes to zero. Maximum profit when the underlying stock goes to zero is the strike price of the put minus the premium paid to construct the trade.

Photo credit: iStock/FG Trade

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2023

Guide to Writing Call Options: What You Should Know

By Dan Miller | Growing Wealth, invest, Investing | Comments Off

Selling a call option is referred to as writing a call option. When writing a call option you will be initiating the option contract for sale, and will collect a premium from the buyer when the contract is initially sold.

There are two ways to write a call option — sell covered calls or sell naked calls.

• When you write a covered call, you are selling an option on an underlying stock that you own.

• Writing a naked call means you are selling an option on a stock you do not currently own.

The biggest difference between these two paths is the risk profile. Your risk with covered calls is that you may miss out on some of the upside gains if the stock’s price goes above the strike price of your call option.

When you sell a naked call, you have no risk protection and theoretically unlimited risk.

What Are Calls?

Remember the basics of put vs. call options: When you buy a call option at a specific strike price, you have the right (but not the obligation) to purchase the underlying stock at the strike price of the option over a given time period.

Buying put gives you the right, but not the obligation, to sell the underlying stock or asset before the expiration date.

If you are wanting to know how to trade options, it’s important to understand the differences between calls and puts, when you would buy or sell options, and how to arrange options trading strategies to minimize your risk. When you buy an option, your maximum risk is capped at the amount of premium that you initially paid for the option. But when you write a call option or put option, your risk is theoretically infinite.

Writing Call Options

Writing call options is similar to writing put options in that you are selling the option initially. When you write a call option, you are creating a new option contract that allows the buyer the right to buy the stock at the specified strike price at any time before the expiration date.

When you write a call option, you can be forced to buy the stock at the strike price at any time. In practice, this is unlikely to happen unless the stock is deep in-the-money before expiration or if it’s at or in-the-money at the date of expiration.

Finally, user-friendly options trading is here.^*

Trade options with SoFi Invest on an easy-to-use, intuitively designed online platform.

*Check out the OCC Options Disclosure Document.

Writing Call Option Strategies

There are several strategies when trading options, depending on whether you have a bullish or bearish outlook for a given stock. Here are two of the most common call writing option strategies:

Writing Covered Calls

One common options strategy is writing covered calls. A call is considered a “covered” call when you also own at least 100 shares of the underlying stock. Writing covered calls is a popular income strategy if you think that the stock you hold will move within a specific range. You then might write a covered call with a strike price a little above the expected price range.

When you write covered calls, since you are the seller of the option contract, you will collect an initial premium. Your best case scenario is that the underlying stock will close below the strike price of the call option at expiration. That means that the call will expire worthless, and you will keep the entire premium. If the stock closes above the strike price at expiration, you will be forced to sell your shares of stock at the strike price. This means that you may miss out on any additional gains for the stock.

Writing Naked Calls

If you are wondering what naked calls are, it is when you write a call when you don’t have a long position in the underlying stock. Unlike covered calls, writing naked calls comes with significant risk. Since a stock has no maximum price, you have unlimited exposure. The more a stock’s price rises above the strike price of the call option, the more money you will lose on the trade.

Because of this, writing naked calls is something that is recommended only for people with significant options experience and/or those who have a high tolerance for risk. You will want to make sure you understand your risk before writing naked calls, and have a plan for what you will do if the stock moves against you.

Writing Call Options Example

To understand the difference between writing covered calls and naked calls, here are two examples.

Covered Call Example

Say that you own 100 shares of stock XYZ with a cost basis of $65. You feel that the stock is trading in a range of $60-$70, so you write a covered call with a June expiration and a strike price of $70, collecting $1.25 in premium, or $125 ($1.25 x 100).

If the stock closes below $70 at June’s expiration, you keep your shares and the entire $125 premium. Because you still own shares in XYZ, you can write another covered call in July (and beyond) generating income as you collect the premiums.

If instead the stock rises to $75 by June, then you will be obligated to sell 100 shares of XYZ at the strike price of $70. Because you already own 100 shares of XYZ, your shares will be called away. Your broker will automatically sell your 100 shares at the price of $70/share. You will miss out on any additional gains above the $70 price.

Naked Call Example

Say that you are bearish about stock ABC, which currently is trading at $100/share. You sell the October $110 calls for a premium of $4.25. You collect $425 upfront ($4.25 * 100 shares per option contract). As long as stock ABC closes below $110/share, you will keep the entire $425.

However if stock ABC closes above $110 at October options expiration you will be forced to buy 100 shares of ABC at whatever the prevailing market price is for stock ABC.

When you wrote (sold) the call option, you gave your buyer the right to buy 100 shares of stock ABC at $110/share. If ABC has risen to $250/share, for example, you will have to pay $25,000 to buy 100 shares, and then sell those 100 shares for $11,000 ($110/share), taking a $14,000 loss on your trade offset slightly by the $425 premium you collected.

The Takeaway

Writing call options can be a viable and valuable options strategy with several different uses. Writing covered calls on a stock whose shares you also hold can be a way to earn additional income if the stock is not very volatile. You can also write naked calls, or calls on stocks that you don’t own. Writing or selling naked calls leaves you in a position where you have unlimited risk, so make sure that you have a risk mitigation plan in place.

If you’re ready to try your hand at options trading, SoFi can help. When you set up an Active Invest account and start investing online, you can trade options from the SoFi mobile app or through the web platform. SoFi doesn’t charge any commission, and also enables you to trade stocks, ETFs, and more. And if you have any questions, SoFi offers educational resources about options to learn more.

Trade options with low fees through SoFi.

FAQ

Is writing a call option the same thing as buying a put?

It is important to understand put vs. call options and how they are different. While writing a call option and buying a put option are both bearish options strategies, they are very different in terms of their risk/reward profile. When you write a call option, you collect the option premium upfront but have unlimited risk. Buying a put option has a defined risk of the initial premium that you paid to purchase the put option, which gives you the right but not the obligation to sell the underlying shares.

Does a writer of a call option make an unlimited profit?

No, the writer of a call option does not and cannot make an unlimited profit. When you write a call option, your maximum profit is defined by the initial premium that you collect when you first write the option. As a call option writer, you are hoping that the stock closes below the strike price of your option at expiration. In that scenario, it will expire worthless and you will receive your maximum profit.

How are call options written?

Writing a call option is another way to say that you are selling a call option. When you write a call option, you are giving the buyer the right (but not the obligation) to buy 100 shares of the underlying stock at a given strike price at any time before the options expiration. When you write a call option, you collect an initial premium from the buyer of the option.

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2023

What Is an ESG Index? 5 ESG Indexes to Know

By Kenny Zhu | Growing Wealth, invest, Investing, Terminology | Comments Off

An index is a group of companies that reflect the performance of a certain sector. Thus an ESG index includes companies that meet certain criteria for environmental, social, and governance standards and reflect that sector.

Just as a large-cap equity index like the S&P 500 can be used as a performance benchmark for the performance of large-cap U.S. stocks, different ESG indexes can be used as benchmarks for sectors focused on sustainable or socially responsible investing (sometimes called SRI) practices.

Some indexes may also include or exclude companies as a form of risk mitigation.

The challenge is that the criteria for what constitutes sustainable investing, in any form, is inconsistent throughout the industry.

Nonetheless, recent industry research suggests that ESG investing strategies perform similarly to, and sometimes better than conventional strategies. By knowing some of the top ESG indexes, then, it’s possible to invest in funds that capture the performance of that index, and put your money toward companies whose aim is to focus on positive environmental, social, and corporate governance outcomes.

What Are ESG Indexes?

There are a number of ESG indexes maintained by major data providers which track the performance of firms that embrace ESG or SRI criteria. Why are environmental, social, and governance factors considered important enough to be the foundation of dozens of industry indexes?

Some investors believe in investing their money in the stocks of companies (or other securities) that reflect certain proactive values regarding the planet, society, and fair and ethical corporate structures. At the same time, adherence to ESG factors is increasingly considered by many stakeholders as a form of risk management. For example, investors might choose to assess a company’s ESG scores or ratings to gauge its risk exposure (as well as possible future financial performance). Consumers might want to know about a company’s environmental and social practices to inform their purchasing decisions.

While you cannot invest in an index, investors can gain exposure to ESG companies in an index by purchasing an index mutual fund or exchange-traded fund (ETF) that seeks to replicate the performance of that index (aka passive investing).

Just as there are many different flavors of equity indexes — from large cap to small cap, domestic to international, and so on — there are numerous ESG indexes. These exist in many forms, depending on the underlying metrics used to construct them, and there are hundreds of ESG index funds and ETFs that investors can access.

Recommended: How to Invest in ESG Stocks

New Growth in the ESG Sector

According to Deloitte, some 149 ESG-related funds were launched in 2021 alone, making up 22% of all funds launched by managers in that year.

The number of ESG-related funds on the market continues to grow, roughly a third of them passively managed index funds or ETFs. In 2021, socially responsible U.S. mutual funds saw record inflows of some $70 billion — a 36% increase over 2020. However, ESG funds saw substantial outflows through 2021 and most of 2022. But sustainable funds still managed to outperform non-sustainable funds through Q3 of 2022, despite challenging market conditions, according to Morningstar research as of September 30, 2022.

ESG vs Socially Responsible Investing: What’s the Difference?

There are various terms for investing according to a certain set of values — including impact investing and socially responsible investing (SRI) — and not all of them refer to green investing strategies. Some terms may be used interchangeably, but there are some key differences to understand.

• Impact investing is a broad term that encompasses investors who seek measurable outcomes. Impact investing may or may not have anything to do with environmental or social factors.

• Socially responsible investing is also a broader label, typically used to reflect progressive values of protecting the planet and natural resources, treating people equitably, and emphasizing corporate responsibility.

• Securities that embrace ESG principles, though, may be required to adhere to specific standards for protecting aspects of the environment (e.g. clean energy, water, and air); supporting social good (e.g. human rights, safe working conditions, equal opportunities); and corporate accountability (e.g. fighting corruption, balancing executive pay, and so on).

ESG Investing Standards

That said, there isn’t one universally observed set of criteria that define an ESG investment or an ESG index. Rather, each ESG index and corresponding index fund is typically based on proprietary metrics of qualitative and quantitative factors relating to environmental, social, and governance factors.

These metrics may be formulated internally by investment managers/research teams, based on metrics established by popularly accepted ESG frameworks, or a combination of both.

While it’s clear where the money’s been trending with regards to ESG investments, prudent investors should still remain selective when it comes to picking an ESG fund, as how these indexes are constructed can sometimes be based on opaque methodologies.

5 Commonly Used ESG Indexes

Following is an overview of five ESG indexes commonly used as benchmarks for some of the largest ESG funds, and the manner in which they’re constructed.

1. S&P 500 ESG Index

The S&P 500 ESG Index consists of 307 domestic investments across the broader market. All firms included in the index must meet specified ESG criteria established by S&P Dow Jones Indices.

ESG Criteria: According to S&P, the index uses an exclusionary methodology to filter out firms within the S&P 500 that partake in undesirable business activities, defined as follows:

• Firms operating within the thermo coal, tobacco, and controversial weapons industries.

• Companies that score within the bottom 5% of the United Nations Global Compact (UNGC).

• Companies that score within the bottom 25% of ESG scores within each global GICs industry group.

2. Nasdaq-100 ESG Index

The Nasdaq-100 ESG Index consists of 96 separate securities that meet ESG criteria established by Nasdaq. The parent index includes 100 of the largest domestic and international non-financial firms that trade on the Nasdaq exchange.

ESG Criteria: Firms must meet the following requirements, at a minimum, to qualify under the index:

• “An issuer must not be involved in certain specific business activities, such as alcohol, cannabis, controversial weapons, gambling, military weapons, nuclear power, oil & gas, and tobacco.”

• “…an issuer must be deemed compliant with the United Nations Global Compact principles, meet business controversy level requirements.”

• “…have an ESG Risk Rating Score that meets the requirements for inclusion in the Index.”

3. MSCI KLD 400 Social Index

Established in 1990, the MSCI KLD 400 Social Index is one of the first and oldest socially responsible investing (SRI) indexes, making it a popular standard for evaluating long-term ESG performance.

The KLD 400 Social index comprises 402 U.S. securities that meet the ESG standards set by the MSCI ESG Research team.

ESG Criteria: MSCI uses the following methodology to determine eligibility and inclusion within the index.

• Companies involved in nuclear power, tobacco, alcohol, gambling, military weapons, civilian firearms, GMOs, and adult entertainment are excluded.

• Must have an MSCI ESG rating above “BB.”

• Must have an MSCI Controversies score above “2.”

4. MSCI USA Extended ESG Focus Index

The MSCI USA Extended ESG Focus Index includes securities across the U.S. equity markets, but selects constituents from the MSCI USA parent index using an optimization process that targets companies with high ESG ratings in each sector. Companies related to segments such as tobacco, controversial weapons, producers of or ties with civilian firearms, thermal coal and oil sands are excluded.

The MSCI USA Index has 628 constituents while the MSCI USA Extended ESG Focus Index has around 321, which means an exclusion close to 49%.

5. FTSE US All Cap Choice Index

The FTSE U.S. All Cap Choice Index is part of the FTSE Global Choice Index Series. It’s designed to help investors align their investment choices with their values, by selecting companies based on the impact of their products and conduct on society and the environment., but excludes companies involved in:

• Vice-related industries (e.g. alcohol, tobacco, gambling, adult entertainment)

• Non-renewable energy (e.g. fossil fuels, nuclear power)

• Weapons (conventional military weapons, controversial military weapons, civilian firearms)

• Companies are also excluded based on controversial conduct and diversity practices

Risks and Drawbacks of ESG Indexes

As with all investments, the risks of choosing ESG-linked investments is that they may not necessarily outperform over your target timeframe. There are also unique ESG-linked issues that come with evaluating these indexes.

Diversification Risk

The primary risk of using an ESG-based strategy is the risk of underperformance and the risk of reduced diversification relative to cheaper, broader-market index funds.

This isn’t a surprise, as many of the top ESG indexes are market capitalization (“cap”) weighted, which means that the largest firms in the index bear the greatest responsibility for changes in index values.

Given that some of most popular ESG investments also track the performance of the broader-market indexes, this makes these particular indexes less attractive as part of a diversifying strategy.

Higher Costs

Another issue of concern is that some ESG funds charge higher fees and expense ratios relative to conventional funds.

While these fees aren’t necessarily head and shoulders above broader-market index funds, they can get progressively more expensive depending on how nuanced the fund’s investing strategy is. This is because ESG is a factor-based investment strategy which entails more complexity than traditional broader-market indexing.

Typically, the longer the time frame for comparison, the greater the risk for underperformance becomes, net of fees.

Inconsistency of ESG Standards

Perhaps the biggest drawback of ESG-investing is the inconsistent reporting among industry firms, and the desire for more uniformity among which ESG frameworks are applied.

In other words, the ESG criteria established at one institution for their index or funds has little or no bearing on the ESG criteria employed by another firm.

Because sustainable investing has grown over the past decade, there has been an industry-wide movement towards greater consistency in ESG criteria and reporting. The Securities and Exchange Commission (SEC) has even recently undertaken efforts to codify aspects of financial reporting when it comes to ESG-related investments.

Nevertheless, these efforts remain in their early stages, and investors should continue to be discerning when it comes to picking ESG-linked investments.

Relevance of ESG Criteria

Existing ESG frameworks run the gamut when it comes to which metrics they choose to apply; whether these metrics are actually relevant to the underlying investments can be debated. For example, metrics related to carbon emissions may be relevant to heavy industry, but how relevant would those metrics be to the financial or technology sectors?

To address the issue of relevance, some ESG-linked funds have introduced an additional factor to correctly weight relevance of certain criteria. However, individual investors would do well to identify and assess when these solutions are applied.

Finally, expect to encounter data consistency issues when trying to quantify information that is naturally qualitative, particularly when management at each firm has wide discretion over how they choose to represent those metrics.

The Takeaway

There’s no doubt that enthusiasm for ESG investing has grown over the past decade, and continues to gain traction. Understanding ESG indexes and how they apply sustainability rules and criteria to the companies in the index can help investors understand the corresponding index mutual funds and ETFs they may want to invest in.

Due to the sheer number of ESG-centric investments available to date, it’s a good idea to be selective when reviewing the underlying strategy of each fund, and understanding the underlying methodology of how each index constructs its portfolio.

Exploring and incorporating sustainable strategies in your portfolio can be easy when you open an online brokerage account with SoFi Invest. The app allows you to buy and sell shares of stocks, ETFs, fractional shares, IPO shares, and more. Even better, SoFi members have complimentary access to advice from professionals, who can answer any questions you may have.

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

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SOIN0722051

Guide to Speculative Investments

What Are Speculative Investments?

How Does Speculation Work?

4 Examples of Speculative Investments

1. Foreign Currencies

2. Precious Metals

3. Cryptocurrencies

4. Bond Market

Pros and Cons of Speculative Investment

Pros

Cons

Speculative Investments vs Traditional Investments

Speculative Investments vs Gambling

Other Risky Investments

Margin Trading

Options Trading

Penny Stocks

The Takeaway

FAQ

What are some examples of some speculative investments?

Is speculative investing the same as gambling?

Is Bitcoin considered a speculative investment?

Guide to Protective Collars in Options Trading

What Is a Protective Collar?

How Do Protective Collars Work?

Maximum Profit

Maximum Loss

Break Even

Constructing Protective Collars

Pros and Cons of Protective Collars

When Can It Make Sense to Use Protective Collars?

Finally, user-friendly options trading is here.*

Trade options with SoFi Invest on an easy-to-use, intuitively designed online platform.

Protective Collar Example

Collars and Taxes

The Takeaway

FAQ

Are protective puts worthwhile? When does it make sense to buy protective puts?

What does protective, covered, and naked mean in options?

What are the benefits of collar trades?

Guide to Synthetic Longs

What Is a Synthetic Long?

How Do Synthetic Longs Work?

Setup

Maximum Profit

Breakeven Point

Maximum Loss

Exit Strategy

Synthetic Long Example

Finally, user-friendly options trading is here.*

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Calculating Returns

Pros and Cons of Synthetic Longs

Alternatives to Synthetic Longs

The Takeaway

FAQ

What is a long combination in options trading?

How do you set up a synthetic long?

What is the maximum payoff on a synthetic long put?

Guide to Writing Call Options: What You Should Know

What Are Calls?

Writing Call Options

Finally, user-friendly options trading is here.*

Trade options with SoFi Invest on an easy-to-use, intuitively designed online platform.

Writing Call Option Strategies

Writing Covered Calls

Writing Naked Calls

Writing Call Options Example

Covered Call Example

Naked Call Example

The Takeaway

FAQ

Is writing a call option the same thing as buying a put?

Does a writer of a call option make an unlimited profit?

How are call options written?

What Is an ESG Index? 5 ESG Indexes to Know

What Are ESG Indexes?

New Growth in the ESG Sector

ESG vs Socially Responsible Investing: What’s the Difference?

ESG Investing Standards

Finally, user-friendly options trading is here.^*

Finally, user-friendly options trading is here.^*

Finally, user-friendly options trading is here.^*

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