There are several ways to invest, and the right way for everyone is different depending on their risk tolerance. Levels of risk tolerance can vary both within investment categories and between categories. I'm going to focus on 4 categories that fit my risk profile.
Stocks and ETFs
Investing starts with buying and selling stocks or exchange-traded funds (ETFs). To be successful in investing in individual stocks, one needs to conduct thorough research and have patience. My experience with buying individual stocks has been mixed, as I tend to purchase them when their prices are high and sell when they are low. However, I have had more positive results when investing in ETFs, especially with QQQ, which tracks the NASDAQ index. This ETF offers more consistent gains as the movements of the NASDAQ are less volatile compared to individual stocks.
Leveraged ETFs
Leveraged ETFs are similar to a standard ETF that tracks an index. It is similar in the fact that it moves in the same direction as the index. However, there is a major difference from a standard ETF. That difference is the fact that a leveraged ETF magnifies the amount of the move by 2 or 3 times. Since QQQ is my index fund of choice, let’s use TQQQ as our example. If QQQ rises by 1%, then TQQQ rises by 3%. The same is true in downturns, if QQQ falls by 1%, then TQQQ falls by 3%. These moves are quick, and it is hard to know when to exit when they happen. A lot of the professionals will say that leveraged ETFs cost too much or won’t be successful in the long run. But I’ve been using it for the last 5 years and have easily outperformed the market just using a buy and hold strategy. Look at the historical charts and determine whether this ETF fits your risk profile.
Selling Put Options and Covered Calls
Options seemed so foreign to me for years after I started investing. I didn’t understand them because I hadn’t devoted the time to read about how they are structured. In simple terms, there are put options and there are call options. With each of these two option types, you can buy or sell either of them to manage 100 shares of a stock or ETF.
My simple definition of Put options is: Selling a Put option lets someone PUT 100 shares of a fund into your brokerage account if the stock/ETF is below the strike price. You essentially buy the shares at your target price and you keep the additional money that you received from selling the put.
My simple definition of Call options is: Selling a Call option lets someone CALL 100 shares of a stock/ETF out of your brokerage account if the stock/ETF is selling for more than the strike price. You essentially sell the shares at your target price and you keep the additional money that you received from selling the call.
Selling Put Options
If QQQ is trading at $350 and you do not own any shares but would be willing to buy 100 shares for $345 within the next 30 days, then you can sell a put with a strike price of $345. The buyer of that put, and owner of 100 shares of QQQ, would pay you a small fee to take those 100 shares of QQQ from them if it falls below $345 before the option expires. If it stays above $345, then you keep the money that you received for selling the put and you keep the money that you would have used to buy the 100 shares at $345. I like to sell puts 1-3% lower than the current price of the stock/ETF and 1½ - 2½ weeks into the future. Selling 1 QQQ put 1 week in the future and 1% lower than the current price will sell for about 1% of the price of the ETF and has about a 40% chance of closing with you buying the 100 shares.
Selling Covered Calls
If QQQ is trading at $350 and you own 100 shares but would be willing to sell your 100 shares for $365 within the next 30 days, then you can sell a call with a strike price of $365. The buyer of that call would pay you a small fee to take those 100 shares of QQQ from you if it rises above $365 before the option expires. If it stays below $365, then you keep the money that you received for selling the call and you keep your 100 shares of QQQ. I like to sell calls 5-8% higher than the current price of the stock/ETF and 1½ - 2½ weeks into the future. Selling 1 QQQ call 1 week in the future and 5% higher than the current price will sell for about .04% of the price of the ETF and has about a 90% chance of closing with you keeping your 100 shares, which is my goal.
As an amateur trader, I can not recommend buying options outright. Whenever I do buy an option, it is normally part of a credit spread. There is too much research that you need to do on each stock or index fund to know which direction it is going to move. Even if you do the research, there is still no guarantee that your analysis and expectations are correct. With buying options, you really have to be right about the timing, direction and magnitude of a move to be successful. You can be wrong about one of these factors and still have a chance to make a little money if you exit the trade early enough, but you have a much higher chance of taking a big loss if you are wrong.
Selling Put Credit Spreads
Now that I have a working knowledge of options trading, one of my most profitable strategies is to sell out of the money put credit spreads. This works by selling a put w/ a strike price that is lower than the current price of the stock or ETF, while also buying a put with an even lower strike price at the same time. You are paid upfront for this trade and you make money as long as the price stays above your strick price at expiration. I sell put credit spreads weekly at a strike price that is 5% lower than the current price. I use less than half of my available cash and have an average gain of more than 1% per week. Although QQQ has fallen by 5% or more in a one-week period 5 times over the last 5 years. So although you have a 98% chance of winning, you need to keep half of your cash available to fix your trade those few times that it does go against you.
If QQQ is trading at $361 and I had $2000 in my account, I would sell a put with a strike price of $343, 5% below the current price, and I would buy a put with a strike price of $333 with the same expiration dates. This trade would have a maximum loss of $1000 if QQQ fell below $333 when the puts expire, but I would make about $28 this week. A $28 weekly gain turns into about $1400 in a year, so your initial $2000 turns into $3400 a year later, a gain of 70%. As you make gains, you can increase the number of open credit spreads to increase your profits.
