InvestLL Archives | Page 69 of 73

Mar

2022

Implied Volatility vs Historical Volatility

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

Whether you are a new investor or a seasoned trader, it’s common to hear the word “volatility” when discussing the movements of a stock price or index. More volatile stocks tend to have larger swings, both up and down.

However, depending on the context, the speaker may be referring to historical volatility, as in the case of comparing two stocks, or implied volatility, as in the case of discussing options prices. It’s crucial for participants in these markets to understand the difference.

Here’s what you need to know about implied volatility vs. historical volatility.

Historical Volatility Definition

Historical volatility is a statistical measurement of how much a given stock moves up and down. As the name suggests, historical volatility measures a stock’s price as compared to its average or mean. The most popular way to calculate a stock’s historical volatility is by calculating the standard deviation of a stock’s price movements over a period of time.

Investors use historical volatility to get an idea of how likely the stock is to make large movements in its price. A stock with higher volatility is inherently riskier, because there is a bigger chance the stock’s price will drop significantly. Highly volatile investments purchased with leveraged accounts can be even riskier still.

On the other hand, it can also be potentially more rewarding, since there is also a possibility that the stock’s price will make a big jump upward. Stocks tend to generally become more volatile during times of recession or uncertainty.

Investors measure a stock’s historical volatility as a percentage of the stock’s price and not as an absolute number. That makes it easy to compare historical volatility between stocks, even if they have very different values, when assessing investment opportunities. When comparing the volatility of stocks, it’s important to make sure you’re looking at them over the same time period.

Implied Volatility Definition

Implied volatility is another measure of the volatility of a stock. While historical volatility is backward-looking, implied volatility attempts to quantify a stock’s volatility going forward. Implied volatility reflects the prices of the options contracts associated with a particular stock. Options traders usually reference implied volatility with the Greek letter σ (Sigma).

A stock with a higher implied volatility generally has options contracts with higher premiums. This is because there is more uncertainty around the direction of the underlying stock.

Historical vs Implied Volatility

While both implied volatility and historical volatility measure the volatility of a particular stock, they measure it in different ways. Historical volatility reflects the past price movements of a particular stock or index, while implied volatility gauges future expectations of price movements based on the prices of options contracts.Traders use implied volatility when they are determining the extrinsic value of an option.

When to Use Historical vs Implied Volatility

One way to use implied volatility is to look for options whose implied volatility is different from the historical volatility. If an option’s implied volatility is lower than the historical volatility of the underlying stock, that may be a signal of an undervalued option premium.

Comparing Implied and Historical Volatility

Here is a quick summary of the differences between historical and implied volatility:

Historical Volatility	Implied Volatility
Calculated using the historical prices of a stock or index	Determined indirectly based on the prices of options contracts
Used primarily for stocks or indexes	Used primarily for options
Measures past performance based on historical data	Projects future performance, representing an indicator of future volatility

How to Use Implied and Historical Volatility Together

Because implied volatility and historical volatility measure different things it can be useful to employ them both. The historical volatility of a given stock or index will measure how much the price has historically moved, both up and down. If you’re interested in investing in options for a stock, you can look at how its historical volatility compares to the implied volatility denoted by the prices of its options contracts.

One way that you can incorporate some of these ideas into your trading strategies through a volatility skew. A volatility skew depends on the difference in implied volatility between options contracts that are in the money, at the money and out of the money.

Another relevant concept when it comes to implied volatility is a volatility smile, a graphic representation of the strike prices and the implied volatility of options with the same underlying asset and expiration date.

The Takeaway

Options traders often look at both historical and implied volatility when determining their options trading strategy. You may also use these tools while investing, or you might look at other factors to evaluate potential investments.

If you’re ready to start trading options, one way to start is with SoFi’s options trading platform. This platform offers an intuitive and approachable design where you can make trades from the mobile app or web platform. Plus, you can reference a library of educational content about options if questions come up along your investing journey.

Pay low fees when you start options trading with SoFi.

FAQ

How is implied volatility calculated from historical volatility?

The historical volatility of a stock or index reflects the changes in historical stock prices. It is often, but not always, calculated as the standard deviation of a stock’s price movements. Implied volatility is not something directly calculated — instead, it is implied based on the prices of options contracts for the underlying stock.

Is there a difference between implied and realized volatility?

Realized volatility is another name for the historical volatility of a stock. So while implied and realized volatility both measure how volatile a stock is, they have different definitions, and investors use them in different ways.

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SoFi Invest®

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

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Before an investor begins trading options they should familiarize themselves with the Characteristics and Risks of Standardized Options . Tax considerations with options transactions are unique, investors should consult with their tax advisor to understand the impact to their taxes.
SOIN0122048

Mar

2022

Credit Spread vs Debit Spread

By Colin Dodds | Growing Wealth, invest, Investing | Comments Off

An options spread involves buying and selling different options contracts for the same underlying asset, at the same time. In the world of vertical spreads, there are credit spreads and debit spreads. What is the difference between a credit vs. a debit spread, and how do investors use these strategies?

When an investor chooses a credit spread, or net credit spread, they simultaneously sell a higher premium option and buy a lower premium option, typically of the same security but at a different strike price. This results in a credit to their account.

A debit spread is the inverse: The investor purchases a higher premium option while simultaneously selling a lower premium option of the same security, resulting in a net payment or debit from their account.

Keep reading to learn more about the differences between credit spreads and debit spreads, and how volatility may impact each.

Why Use a Spread Strategy When Trading Options?

Options contracts give their holder the right, but not the obligation, to buy or sell an underlying asset, often a security like a stock. Having different strategies to trade options gives investors exposure to price movement in an underlying asset, allowing them to take a bullish or bearish position without having to own the security itself. Beyond the market price of the underlying, a number of factors — including the level of volatility, time to expiration, and market interest rates — impact the value of the options contract.

With so many factors to consider, investors have developed a host of strategies for how to trade options. A vertical spread comes in two flavors — a credit or a debit spread — which can involve buying (or selling) a call (or put), and simultaneously selling (or buying) another call (or put) at a different strike price, but with the same expiration. Let’s look at these two strategies for trading options.

How a Credit Spread Works

In a credit spread, the investor sells a high-premium option and buys a low-premium option of the same security. Those trades result in a credit to the trader’s account, because the option they sell is worth more than the one they buy. In this scenario, the investor hopes that both options will be out-of-the-money on the expiration date and expire worthless, allowing the investor to keep the original net premium collected.

How a Debit Spread Works

In a debit spread, the investor buys a high-premium option and sells a low-premium option of the same security. Those trades result in a debit from the trader’s account. But they make the trade in the expectation that the price movement during the life of the options contract will result in a profit. The best case scenario is that both options are in-the-money on the day of expiration, allowing the investor to close out both contracts for their maximum potential gain.

Credit Spreads

To help with understanding how credit spreads works: An investor simultaneously buys and sells options on the same underlying security with the same expiration, but at different strike prices. The premium that the investor receives on the option they sell is higher than the premium they pay on the option they buy, which leads to a net return or credit for the investor.

One important note is that credit spreads require traders to use margin loans, because if both options are in-the-money at expiration, their short leg will be more valuable than their long leg. So before a trader can engage in a credit spread, they’ll need to make sure their brokerage account is appropriately set up.

The strategy takes two forms. The first credit spread strategy is the bull put credit spread, in which the investor buys a put option at one strike price and sells a put option at a higher strike price. Put options tend to increase in value as the underlying asset price goes down, and they decrease in value as the underlying price goes up.

Thus, this is a bullish strategy, because the investor hopes for a price increase in the underlying such that both options expire worthless. If the price of the underlying asset is above the higher strike price put on expiration day, the investor achieves the maximum potential profit. On the flip side, if the underlying security falls below the long-put strike price, then the investor would suffer the maximum potential loss on the strategy.

Another factor that can work in favor of the investor in credit spread is time decay. This is the phenomenon whereby options tend to lose value as they approach their expiration date. Holding the price of the underlying asset constant, the difference in value between the two options in a credit spread will naturally evaporate, meaning that the investor can either close out both contracts for a gain or let them expire worthless.

The other credit-spread trading strategy is called the bear call credit spread, or a bear call spread. In a way, it’s the opposite of the bull put spread. The investor buys a call option at one strike price and sells a call option at a lower strike price, hoping for a decrease in the price of the underlying asset.

A bull put spread can be profitable if the price of the security remains under a certain level throughout the duration of the options contracts. If the security is below the lower call’s strike price at expiration, then the spread seller gets to keep the entire premium on the options they sell in the strategy. But there’s a risk, too. If the price of the security underlying the options rises above the long-call strike price at the expiration of the strategy, then the investor will face the maximum loss.

Debit Spreads

A debit spread is the inverse of a credit spread. Like a credit spread, a debit spread involves buying two sets of options, in equal amounts, of the same underlying security with the same expiration date. But in a debit spread, the investor buys one set of options with a higher premium, while selling a set of options with a lower premium.

While the credit spread strategy results in a net credit to the trader’s account when they make the trade, a debit spread strategy results in an immediate net debit in their account, hence the name. The debit occurs because the premium paid on the options the investor purchases is higher than the premium the investor receives for the options they buy.

Investors typically use debit spread strategies as a way to offset the cost of buying an expensive option outright. They may choose a debit spread over purchasing a lone option if they expect moderate price movement in the underlying asset.

Like credit spreads, debit spreads come in bullish and bearish varieties. A bull-debit spread can be constructed using call options, where the investor purchases a call option at a lower strike price and sells a call option at a higher strike price. The maximum potential gain is equal to the difference in strike prices minus the net premium paid up front, and is achieved if the underlying asset goes above the higher strike price call on expiration day. Similarly, one can construct a bear-debit spread using put options.

With debit spread strategies, the investor faces an initial outlay on their trade, which also represents their maximum potential loss. Unlike with credit spreads, time decay is typically working against the investor in a debit spread, since they are hoping for both options to expire in-the-money so that they can close out both contracts and pocket the difference.

Pros and Cons of Credit and Debit Spreads, Depending on Volatility

When comparing a credit spread vs. debit spread, here are a few key details to keep in mind.

Credit Spreads	Debit Spreads
Investor receives a net premium when the trade is initiated.	Investor pays a net premium when the trade is initiated.
Maximum potential loss may be greater than the initial premium collected upfront.	Maximum potential loss is limited to the net premium paid.
Requires the use of margin.	Does not require the use of margin.
Time decay works in favor of the investor.	Time decay is working against the investor.

The Takeaway

Of the many options strategies that investors employ, one popular type is an options spread: either a credit spread or a debit spread. The spread in these strategies refers to a practice of buying and selling of different options with the same underlying security and expiration date, but with different strike prices.

Key to the strategy is the fact that spreads create upper and lower bounds on potential gains and losses. It’s at the discretion of the investor to choose the strike prices of the options they buy and sell when creating the spread. This gives the investor a degree of flexibility with respect to how much risk they take on.

Ready to start investing? You can get started trading options with a user-friendly platform like SoFi. SoFi’s options trading platform offers investors the ability to trade from the web platform or mobile app, and they can also reference information about options through the library of educational resources.

Trade options with low fees through SoFi.

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SoFi Invest®

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

Mar

2022

Guide to Risk Reversal

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

Risk reversal can have two different meanings, depending on the context. From a stock market perspective, it can be a way to hedge a stock position. You can use a risk reversal option strategy to protect either a long or short position and minimize your downside risk.

Risk reversal is also used in foreign exchange trading (forex or FX) with a slightly different definition. There, risk reversal refers to the difference in implied volatility between call and put options. This can give forex traders an idea of the overall market conditions.

What Is Risk Reversal Option Trade?

Risk reversal is an options strategy that allows you to protect either a long or short position in a stock by buying put or call options to hedge your position. If you are long a stock, you can buy a put and sell a call option to protect you against extreme movements in the stock. If you are short a stock, you can use a risk reversal trade by selling a put and buying a call option contract.

How Does Risk Reversal Work?

Here is how a options traders use risk reversal options, and how you might use them to hedge a position that you hold:

Setup

How you set up a risk reversal depends on whether you are long or short the underlying stock. You’ll want to use both a call and put option contract in each case, but which one you sell and which you buy depends on if you are long or short. If you are long a stock, you will hedge by writing a call option and purchasing a put option. If you are short a stock, you will do the opposite — selling a put option and buying a call option that expires at the same time.

Profit/Loss

Let’s examine a scenario where you are long a stock and want to use risk reversal to hedge some of the risk in your position. So you sell an out-of-the-money call option and buy an out-of-the-money put option, usually at a net credit to yourself.

If the stock’s price goes up past the strike price of your call, you will profit based on the increased value of your stock holding. Your maximum loss will come if the stock’s price goes down, but your total can not amount to more than the strike price of the put option that you bought.

Breakeven

Because you generally hold the underlying stock as well as the option when using risk reversal, there is not a specific breakeven price.

Exit Strategy

Often when using a risk reversal strategy, you will keep repeating the process each month as new options expire. That way you can continue to hold the underlying stock and collect the net premium from your options each month. Eventually either your put or call will expire in the money, and you will sell your shares to fulfill your option obligations.

Maintaining a Risk Reversal

Maintaining your risk reversal will depend on the movement of the underlying stock. In an ideal situation, the stock will not make any drastic movements. If the stock’s price closes between the strike price of your call and put option, both will expire worthless. That will allow you to continue to use the risk reversal strategy and collect an additional premium.

Risk Reversal Example

Let’s say you are slightly bullish on a stock ABC that is trading at $80 per share. You own 100 shares of ABC stock and want to protect against risk. You can use the risk reversal strategy by buying a $75 put and selling an $85 call through your brokerage. Prices will vary depending on the delta or theta of the options, but you will likely receive a slight credit.

If the options expire with the stock in between $75 and $85, both financial instruments will expire worthless. Then you can continue the strategy by buying another put and selling another call. If the stock price rises above $85, your call option will be exercised, and you will close your stock position with a slight profit. You are also protected against any downward move of the stock below $75, thus mitigating your downward risk.

Forex Risk Reversal

Risk reversal has a slightly different meaning in the world of foreign exchange trading (forex), having to do with the volatility of out-of-the-money call or put options. A positive risk reversal is when the volatility of call options is higher than that of the corresponding put options. A negative risk reversal is when the volatility of put options is higher than that of call options. This information can help traders decide on which strategies might be more effective.

The Takeaway

The risk reversal options strategy is one method of protecting your investment from unexpected moves. Understanding how different options strategies work can help you learn about the stock market.

Once you’re ready to dive in, consider trying a user-friendly options trading platform like SoFi’s. Its intuitive design gives investors the ability to trade options through either the mobile app or web platform. Plus, support is offered in the way of a library of educational resources about options.

Trade options with low fees through SoFi.

FAQ

Why is it called risk reversal?

The risk reversal strategy gets its name because it allows investors to mitigate or reverse the risk you have from a long or short stock position. If you’re slightly bullish on a stock, you can use risk reversal to protect you against downward movement on the stock.

How are long and short risk reversal different?

With a long risk reversal, you are hedging against a short position in the underlying stock. You can do this by purchasing a call option and funding that call purchase by selling a put option. In a short risk reversal, you are mitigating the risk of a long position by selling a call and buying a put option.

How can you calculate risk reversal?

In forex trading, you can calculate the risk reversal by looking at the implied volatility of out-of-the-money call and put options. If the volatility of calls is greater than the volatility of the corresponding put option contracts, there is positive risk reversal, and vice versa.

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

Mar

2022

What Is a Derivative?

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

A derivative is a financial instrument that derives its value from an underlying asset, such as a stock or bond, or a benchmark, such as a market index. Derivatives can also represent statistics or numerical indexes not related to financial assets.

Derivative investments work as a contract between two parties, a buyer and seller. The derivative is a secondary security, meaning it is not an asset itself, but rather it tracks the value of an underlying asset. This puts it into the category of secondary securities. The value of a derivative is based on market events, price changes, and other factors related to the underlying asset.

Experienced investors often use derivative finance to hedge their investments against future loss or profit from upcoming market shifts, but some investors also use them to profit or speculate on commodities like gold or oil. They can serve different purposes for different people, such as limiting risk related to possible future events.

How Does a Derivative in Finance Work?

A derivative is a contract that includes information about rules and asset costs for a particular future transaction that may take place. For instance, if an investor has a significant amount of a particular stock with an unrealized gain, they might choose to enter into a derivative contract that gives them the ability to sell it at today’s prices on a future date. This will give them some protection against future losses.

Derivatives are also a way to give investors exposure to a certain asset class without having to actually buy the assets. The seller of a derivative doesn’t have to actually own the underlying asset. They can give the buyer money to buy the asset, or they can give the buyer another derivative contract of the same value of the first one.

Derivative Example

You might have a derivative that provides you with the right to purchase 50 shares of a particular stock for a set price of $1,000 per share in six month’s time. This will be a valuable contract if the stock is trading higher than $1,000 and continues to trade at that level in six months. But if the stock goes down in value and trades under $1,000 per share then the derivative won’t have any value.

3 Types of Derivatives

There are two categories of derivatives: lock and option. Lock contracts include swaps and futures. These form an obligation between the two parties. Option contracts give the parties the right, but not the obligation, to fulfill the contract transaction.

Options

One of the most common examples of a derivative is an options trade, which gives traders the right to buy or sell a stock at a specific price within a certain period of time. The options buyer will pay a “premium” is paid upfront, but when the contract expires the right to buy or sell is no longer valid.

If a call option is “in the money,” that means that the strike price is lower than the stock price, while a put option is “in the money” when the strike price is higher than the stock’s price. “Out-of-the money” options are the opposite, and “at the money” options have a value that’s roughly equal to their strike price.

The difference between options and futures is that options give traders the right to buy or sell but they are not obligated to do so. If the options contract doesn’t go the way the option buyer had hoped, they wouldn’t exercise their right and they would only lose the premium they paid upfront. There are many different options-trading strategies.

For example, some options traders use a straddle technique, which is a neutral options trading strategy creating the opportunity for an investor to profit whether the underlying asset goes up or down in price.

Investors may also sell naked options, in which they have not set aside the cash or underlying security to meet the obligation of the contract. If the option holder in that case decides to execute their option, the seller will need to buy the security or provide the cash that they now owe.

Futures

With futures derivatives, the buyer and seller set a price for the future exchange of an asset or commodity. The contract includes the price, the amount, and the future settlement date. The contract obligates them to execute on the transaction.

Only a small amount of the total asset value is deposited into one’s account, but a higher amount must be kept in the account to cover losses that might occur. Once the contract is entered into, the price of the underlying asset is tracked daily, and any gains or losses are added to or removed from the trader’s account until the contract is sold or expires.

There are specific futures exchanges set up to monitor and standardize futures trading. But some similar contracts known as forwards are sold in over-the-counter markets that are unregulated and allow for more negotiation.

Swaps

Swaps are contracts traded over the counter for the exchange of financial terms or cash flows such as interest rates and currencies. Companies can swap types of interest rates in order to get better terms. Oftentimes one rate is variable and the other rate is fixed. With currency swaps, companies can invest overseas with a lower risk of exchange rate fluctuations.

How Derivative Trading Works

A derivatives contract says that one will either earn or pay money related to the underlying asset. Although there is an initial deposit for the derivative contract, there is the risk of having to pay more depending on how the asset’s value shifts during the period of the contract.

There is additional risk involved in trading derivatives because there is a possibility that the losing party won’t pay the money owed, and this can lead to legal trouble as well. If there is a contract related to an unregulated market this can also be risky because there is potential for market manipulation.

Once a derivative contract is entered into, the buyer can either hold onto it until the expiration date when they purchase the asset at the agreed upon price, or they can sell the contract to someone else, potentially for a profit. Trading one derivative for another one prior to the contract end date is common. Generally the contract will sell for only a tiny amount of the value of the underlying asset, but the value of the contract can fluctuate along with asset price fluctuations.

There is a small down payment involved for entering into the contract, known as “paying on margin.” It’s typical for derivatives for stocks and market indexes to represent groups of 100 shares. For example, there could be a contract to purchase 100 shares of a stock for $3,000 per share, and the contract might trade at $3 per share per contract.

Before entering into a derivative contract, it’s important to understand how derivatives work and read what the contract entails, including the disclosure statement. There will be an agreement to sign stating that both parties have read and understand the terms.

Also, trading derivatives requires ongoing work and attention. Markets can change quickly and there may be obligations throughout the contract period such as tracking the value of the underlying asset.

Costs

When entering into a derivative contract, there may be a deposit and an initial fee, and there may also be a holding fee involved as well as additional hidden fees. Pricing for derivatives vary depending on the type and value of the underlying asset as well as the broader market for that derivative.

Pros and Cons of Trading Derivatives

There are several pros and cons to trading derivatives. Some of the main ones are:

Pros

Derivatives traders enjoy several advantages by using the financial instrument. Those include:

• A hedge against the risk of future losses

• An opportunity for speculation

• Exposure to an asset without having to purchase it

• Can help predict future cash flows

• Provides the ability to lock in prices

Cons

In addition to the advantages, there are several drawbacks that derivatives traders should understand.

• Trading derivatives is very complex and can be risky for inexperienced traders

• The derivative contract may not be liquid or easily sellable on the open market

• There is a risk of losing more than you invest, if you’re using naked options

• Online scams in derivatives trading are common, adding to the risk

• There are fees and costs associated with the contract

• There may be ongoing maintenance and time commitment required

Financial Derivatives Regulations

Regulations around derivatives depend on where they are traded. The Securities and Exchange Commission regulates derivatives traded on national securities exchanges, while over-the-counter derivatives may not have any regulating body.

In the latter case, the parties negotiate the terms of contracts on their own. Sometimes these parties include banks and financial institutions regulated by the SEC. Futures brokers and commercial traders must be registered with the National Futures Association (NFA) and the Commodity Futures Trading Commission (CFTC).

The Chicago Board Options Exchange (CBOE) is the most well known options exchange platform and is regulated by the SEC. These regulating bodies help to prevent fraud and abusive trading practices and keep the markets running fairly and smoothly.

Start Investing Today with SoFi Invest

Derivatives can be a riskier type of investment but they can provide value to both institutional and retail investors’ portfolios when used wisely. Trading derivatives requires more work than simply buying and selling more traditional securities, but the additional risk and additional work can also yield greater rewards.

SoFi offers an intuitive and approachable options trading platform, thanks to its user-friendly design and the educational resources about options it provides. Investors can trade options from the mobile app or the web platform, depending on their preference.

Pay low fees when you start options trading with SoFi.

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

Mar

2022

What Is Time in Force? Definition and Examples

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

Time in Force is a stock investing term referring to the length for which a trading order is good. While casual or buy-and-hold investors may not use time-in-force stock limits, they’re an important tool for active traders.

Understanding different time-in-force options can help you close out more successful positions.

What Does Time in Force Mean?

Time-in-Force is a directive, set by a trader, that defines how long a trade will remain open or “in force” before expiring. Options traders and other active traders typically want to set an appropriate end date for trades to avoid unintended trade execution. This is especially true for investors employing day trading strategies and taking advantage of volatile market conditions with rapidly changing prices.

Recommended: Understanding the Risks of Day Trading

Basics of Time In Force

Before you place a Time-in-Force stock order, you’ll want to make sure that you understand exactly how they work. As with options trading terminology, it’s important to understand the language used to describe Time-in-Force orders.

Recommended: A Guide to Trading Options

Types of Time in Force Orders

There is no specific type of stock market order called “Time in Force”. Instead, the phrase refers to the collection of order types that set how long a trade order is valid, or “in force” in order to take advantage of investment opportunities. If you are considering a buy-to-open or buy-to-close order, you can also specify the time in force for either of those types of orders.

Not all brokers or dealers support every different kind of time in force order, but here is a look at several of the most common types of time in force stock market orders.

1. Day Order

This is the most common time-in-force order, and means the trade remains open until the end of the trading day. If your order has not been executed at the close of the day’s markets, it will expire. With many brokers, day orders represent the default option, and as such, this is the time in force order with which most people are likely familiar.

2. On-Open Order

Depending on the types of order that your broker or dealer offers, there can be two different types of time-in-force-on-the-open orders.

A market-on-open (MOO) order is an order filled when the market opens, at the prevailing opening price. With a Limit-on-Open (LOO) order, you can set a limit price for the highest price you’ll pay or the lowest price at which you’ll sell. If the market opens within the constraints of your limit order, it will be executed. Otherwise, your broker will cancel the LOO order.

3. Market on Close Order

A Market-on-Close (MOC) order is one that requests the sale or purchase of a security at the final closing price of the trading day. If your brokerage offers market-on-close orders, they will generally have a cutoff time by which you need to enter in any MOC orders.

Recommended: Buy to Open vs. Buy to Close

4. What Is Good ‘Til Canceled (GTC)?

As its name suggests, a good-til-canceled (GTC) order is a type of time-in-force order that remains in force until you proactively cancel the order or it is filled. Depending on the type of options strategy you’re employing, a good-to-cancel order can make a lot of sense, if you’re waiting for a moment in the underlying stock price. Many brokerages will restrict the number of days a good-to-cancel order will be open, often to 90 days.

Examples of Time in Force

You currently own 100 shares of ABC stock that you purchased at $20 per share. ABC stock announced earnings last night, and you’re considering liquidating your position. You’re not sure how the market will react to the earnings news, so you place a Limit-on-Open (LOO) order for $30 per share. If ABC stock opens at $30 or higher, your trade will execute, otherwise your broker will cancel it.

If ABC stock’s shares have been rising all day, but you expect them to open at a lower price, you might use a market-on-close order in order to try to sell at the high price at the end of the day. If you want to hold onto your ABC stocks until they reach $40 per share, you could set a good-til-canceled order to do so. Your order would automatically execute when shares hit $40, or it would expire after reaching your broker’s time limit for such orders, typically 90 days.

Time in Force Day Order vs On-Close Order

A Day order and an On-Close order are similar, but they have some important differences. A Day order is one that is good for the entire trading day, up to and including close. If you’re placing an order in the middle of the trading day and don’t care when it executes, this is the type of order you’d use.

On the other hand, an On-Close order (either Market on Close or Limit On Close) is only good at the close of the trading day. The intent of an On Close order is to execute at the final trading price of the day. If you place an On Close order in the middle of the trading day, it will not execute until the end of the trading day, regardless of the price throughout the day.

Using Time in Force Orders

How you use the different Time-in-Force orders will depend on your options trading strategy. Most buy-and-hold investors won’t use Time-in-Force orders at all, but if you’re using a more complex strategy, such as buying to cover, you may want to have more control over how and at what price your order is executed.

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Using time-in-force orders can help day traders execute on specific strategies and minimize potential offers. It determines how long a trade will remain open before being canceled. Most long-term investors do not use time-in-force orders.

If you’re ready to start options trading one way to get started is with SoFi’s options trading platform. This user-friendly platform boasts an intuitive design, and you can make trades from either the mobile app or web platform. Plus, there’s a library of educational content available for reference.

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What Is Time in Force? Definition and Examples

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