Josip Causic

Brokerage Levels and Option Risk

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In this article, I will scrutinize the risk associated with trading different option strategies against the four levels of brokers' approval. (For more on the four different levels of options approval, see Option Approval Levels Explained.)

My intention is to demystify the myth of the true reason behind the different levels of brokers' approval. Are they truly in place to protect us, the traders, from the risk in the option market, or are they in place to protect the brokers?

Let's embark on the journey of finding it out.

A Figure is Worth a Thousand Words

One of the easiest ways to present the information that I will be discussing is with the chart below.

In the first column, I have included the abbreviation. I usually mark a long position with a plus sign in parentheses, while for a short position I use a minus sign. Calls are marked by "c" and puts by "p". In the case of a long stock, I used "LS".

The second column names the strategy, while the third one assigns to it the option level of approval by the broker, which I discussed in Option Approval Levels Explained.

The fourth and fifth columns are the most essential ones, because they deal with the risk perspective: broker's versus ours. And the last column presents the trader's reward.