Using Benchmarks with Options

One way to analyze options is by using an appropriate investment benchmark. A benchmark is a standard against which you can compare the performance of a security or group of securities. Investors trading stock, for example, might look at the Standard & Poor's 500 Index (S&P 500) as a benchmark for large-cap stocks. If you follow the S&P 500, you can compare the return on a particular stock to that of the entire market segment, giving you an idea of how that stock has performed in relation to other similar stocks.

In the options marketplace, benchmarks track the market's prediction of how volatile a stock will be, or its implied volatility. The Chicago Board Options Exchange (CBOE) Volatility Index, commonly known by its ticker VIX, for instance, tracks the implied volatility of S&P 500 index options. Here, implied volatility represents how actively investors believe the S&P 500 and, by extension, the stock market as a whole and a single stock in particular, will fluctuate.

Tracking the VIX can help you decide when to close out, exercise, or do nothing with your option. A high VIX means that investors expect significant price movement.

However, since investor sentiment doesn't guarantee future results, you should also track the prices of the stocks underlying your options contracts closely. This may be especially helpful as you near your option's expiration date so you can close a position to realize a gain or protect against a greater loss before it's too late.

Options involve risk and are not suitable for all investors. Detailed information on our policies and the risks associated with options can be found in Scottrade's Options Application and Agreement, Brokerage Account Agreement, and Characteristics and Risks of Standardized Options (available at your local Scottrade branch office or from the Options Clearing Corporation at 1-888-OPTIONS or by visiting www.888options.com). All option accounts require prior approval by Scottrade. Market volatility, volume, and system availability may impact account access and trade execution. Supporting documentation for any claims will be supplied upon request.