Diving into the world of option trading can be confusing, especially for beginning traders. The first step to trading options is opening an options brokerage account. This article provides a set of guidelines for picking the right options brokerage account depending on your needs and trading style. It also covers important points to keep in mind when deciding whether to trade these complex financial instruments. (See also: Getting Acquainted With Options Trading.)
Why Is It Important?
Several brokerage firms offer options trading on different assets at the local and global levels. Because technology has broken down geographical, informational and institutional barriers, it is possible for a U.S. citizen to trade binary options in little-known European markets. The internet has also given traders many more choices of brokers who offer a range of services with a menu of different prices.
With so many choices, both new options traders and experienced traders looking for a better broker can be overwhelmed by the diversity of offerings. Because options are complex products, there is a lot of corresponding complexity in products designed for different users’ strategies and trading styles. Not all brokers offer all desired features and functionality.
Traders should answer the following questions to identify the right options brokerage account for them:
- What are my individual needs and comfort level for my style of options trading?
- Do I know what to look for in a typical brokerage account?
- What kinds of accounts are available?
Needs, Trading Style and Comfort Level
The first and most important piece of information to consider before selecting an options trading account is what kind of trader you are. What is your trading style, risk appetite and, perhaps most importantly, how much money are you comfortable spending in fees?
Options are complex products to understand and trade. Some brokers may only allow one position per order, leaving it to the individual trader to place multiple orders—one at a time—to create a combination position, while other brokers may allow placing a unified order to create the combined option positions in one shot.
An individual may simply wish to buy and sell the plain-vanilla call or put options. Others may be more inclined to create complex option strategies and combinations. Some intraday traders may want to get discounted brokerage access for high-volume, frequent trading, while others may be good with the buy-and-hold approach till the option expiry date. Identifying these points based on an individual’s trading style and needs will help them select the right brokerage plan at the right cost. (See also: The Basics of Options Profitability.)
Key Pointers About a Typical Brokerage Account
Depending upon what the trader needs, he should confirm with the broker which features and functionality are available and at what associated costs. Certain features may be necessary for an individual’s trading strategy. For example, payoff functions are commonly used by options traders, but offered by only a few brokers. Hedgers may like to see a graphical display of option combinations while risk analysts may want readily available information on VaR and similar analytics.
Transaction costs, account minimums, trading interfaces (call-n-trade, online, mobile apps), website response time, customer support and the legalities of registration are general features to consider for any brokerage account. Individuals should be able to verify these details online and select the brokerage firm that offers the best possible fit. (See also: Customer Accounts – Types of Brokerage Accounts.)
Available Account Types
There are a few specialized option brokerage firms who offer trading only in a selected option type (like the heavily advertised binary options or barrier options). But in general, standard options are available for trading through standard brokerage accounts that are enabled for options trading.
In the U.S. there are three types of brokerage accounts: cash, margin and retirement. Different brokerage firms may offer variations on these themes using their own unique names, but in general all the available brokerage accounts will fall into these three categories.
Cash Account: The simplest brokerage account is the cash account, a standard trading account that allows the trader to execute option trades on a cash basis provided sufficient funds are maintained to cover the cost of the option premium. To buy an option one must have the entire cash price for the trade (option premium) available in the account at the time of purchase. Most brokers place the initially collected funds in interest-bearing accounts and hence offer interest on…