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You say you wouldn't touch options with a 10-foot pole? You're not alone.
In a recent survey, securities broker TD Ameritrade (NYSE: AMTD) found that more than three-quarters of "buy-and-hold" investors have never bought or sold stock options.
The reason? "Too risky," according to a third of the respondents. Twenty-five percent said they "don't need them," and another 23% admitted they "don't know how they work."
Yes, stock options can be risky, but so is investing in Apple (NASDAQ: AAPL). And, no, stock options are not necessarily "needed" by everyone -- only those investors who want to reduce exposure to market volatility, preserve capital and, yes, generate income.
Take Warren Buffett, for example.
The king of buy and hold first bought stock in Coca-Cola (NYSE: KO) in 1988. At the time, Buffett said he expected to hang on to the shares of this "outstanding business" for "a long time." Today, Coca-Cola is one of Berkshire Hathaway's (NYSE: BRK-B) largest holding. As of March 31, the Oracle of Omaha owned 400 million shares of KO -- a 9% stake -- valued at $16.1 billion.
But Buffett is not the type of investor who'll buy shares of a favored company at just any price -- not even Coca-Cola.
The world's greatest investor is a bargain hunter. If Buffett likes the company but believes its share price is too high, he'll wait until the market "cooperates" by correcting lower before he'll buy shares.
And that's where options come into play.
In April 1993, Buffett's beloved KO was trading at about $39 a share (before two splits) -- a price he regarded as too expensive at the time. But did the self-made billionaire let his cash sit idle while waiting for a downturn? Not a chance.
Buffett employed an options strategy that earned him income of $7.5 million -- all without buying or selling a single share. Here's how he did it...
After determining that $35 would be a reasonable entry point for KO, Buffett wrote 5 million put options with a $35 strike price.
A put is an option contract that gives the owner the right, but not the obligation, to sell 100 shares of the underlying stock at a specified price, known as the "strike price" -- in this case $35.
In exchange for writing the puts, Buffett received a premium of $1.50 a share from the buyers of the puts. (With options, the premium, or cost, is determined by such factors as the stock price, strike price and time remaining until expiration.)
If KO were to fall below $35, the buyers of the options that Buffett wrote would exercise those options and sell their shares to him. In other words, Buffett would be obligated to buy KO at $35, which is precisely what he wanted to do in the first place.
If KO instead were to rise during the life of the contract, the owners of the options wouldn't exercise them. They'd let them expire and Buffett would simply pocket the $7.5 million premium ($1.50 x 5 million shares). And that's just what happened -- Buffett received $7.5 million in instant income for the opportunity to buy shares of KO at $35 each.
The best part: You don't have to actually be a billionaire guru to benefit from this strategy -- you just have to act like one.
If you want to learn more about how to use this strategy in your own portfolio, an options expert has put together an eight-minute, step-by-step training video. This may be the simplest and most effective explanation of put selling I've ever seen.
What's more, this expert has an astonishing 100% win rate. Since February 2013, she has closed 85 winning trades in a row, averaging annualized gains of 53% per trade.
So I urge you to take just eight minutes to find out how you could employ a strategy used by Buffett, the greatest buy-and-hold investor of all time, to make anywhere from $45 to $1,300 this week. Click here to watch.
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