Index Options

Stock index options are based on a stock index rather than on specific stocks. The value of index calls increase as the index increases, and the value of index puts increases as the underlying index decreases. These options are similar to stock options, but with some important differences.

Because these options are based on indexes, there is greater diversification, and usually less volatility than with specific stocks. An index is never going to drop to zero, and it will never increase as dramatically as some specific stocks can, especially within a short period of time. Therefore, the risk is more limited, but so is the profit potential. Also, contract adjustments are rarely needed for a stock index. For instance, stock splits of stocks within the index do not affect the index, and thus, no adjustments on the contracts are needed.

The strike price is based on an index value multiplied by the multiplier of the contract, which is usually $100 (USD). These options are settled by the exchange of cash, not securities, which, for obvious reasons, is called a cash settlement. The option writer who is assigned an exercise pays cash to the holder who exercised the option.

Many index options are American-style options that can be exercised for a short time right before expiration. However, this makes little difference for options that are settled in cash, because the option holder can always sell the option on the exchanges for cash at any time before expiration. In fact, Kuala Lumpur Composite Index (KLCI) options are European-style options. They can only be exercised on the last day of trading.

The cash that is paid upon exercise depends on the index, which depends on the component prices of the index. Some contracts have AM settlement and some have PM settlement. In AM settlement, the cash settlement value is calculated using the opening component prices on the day of expiration. In PM settlement, closing prices on the day of expiration are used to determine the cash settlement value of the contract.

The cash settlement amount is determined by multiplying the absolute difference between the index and the strike price of the option times $100. For instance, SXY KO-E (2006 Nov 1375.00 Call) is based on the S&P 500 index. If the index should close at 1400 on expiration day, then a call holder would receive (1400 - 1375) x 100 = $2,500, and the assigned call writer would have to pay that much.

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Investing Is Not What Most People Think

Many people think that investing is this exciting process where there is a lot of drama. They think investing involves a lot of risk, luck, timing and hot tips. Some realize that they know very little about this mysterious subject. So they entrust their faith and money to someone they hope knows more than they do. Many other so-called investors want to prove that they can outsmart the market. Actually, this is not investing. This is more like gambling or should be described as guessing.

"Investing is a plan, often a dull, boring and almost mechanical process of getting rich."

Robert Kiyosaki

So according to Robert Kiyosaki, the correct definition or attitude towards investing should be something stated above. Investing is simply a plan, made up of formulas and strategies or a system that will almost guaranteed for getting rich. Of course, there are always some systematic risks that are unavoidable. Thus, investing does not have to be risky, dangerous and exciting.

So it is just common sense for anyone wishes to achieve financial freedom to find a plan or recipe to be rich and follow it. Why try to make your own unproven recipe when someone else has already shown you the way?

In fact, following a simple plan to become rich is boring. Also, human beings are quickly get bored and want to find something more exciting and amusing. That's why very few people ever become rich. They start following a plan and soon they are bored. So they stop following the first plan and look for a magic way to get rich quick. Soon after, they are trapped and fall prey to the "Get Rich Quick Scheme".

Most people cannot stand the boredom of following a simple and uncomplicated plan. They repeat the process of boredom, amusement and boredom again for the rest of their lives. They think that if investing is not complicated, it cannot be a good plan. In fact when it comes to investing, simple is better than complex.

As an example, most of us have played Monopoly as children. The formula and strategy involved is simply buy four green houses and then exchange them for a red hotel. Believe it of not, playing Monopoly in real life were what some of the successful entrepreneurs were doing. Once they learnt the formula, the process became automatic. They could do it even when they were sleeping and without much thinking.

So just find one simple formula and follow it. Nobody needs to be a rocket scientist to be rich. All one needs to do is simply know what is wanted, have a plan and stick to the plan. In other words, all it takes is a little discipline.

Different Categories of Investors

What kind of investor do you want to be?

This may be the question bothering everyone who has the goal of achieving financial independence. However, are you mentally prepared to become an investor? Have you done your analysis and research before you get in the market?

In fact, a true investor is prepared for whatever happens. A gambler tries to predict what and when things happen. If you are prepared, there is a deal of a lifetime being presented to you everyday of your life! The following explains the different categories of investors exist in the market. Let's review them one by one:

The Accredited Investor

The accredited investor is someone with high income or high net worth. A long-term investor who has chosen for security and comfort may very well qualify as an accredited investor. Many highly paid employees or self-employed persons fit in this category of investor.

Individuals with the following amount of money can be classified as accredited investors:

• $200,000 or more annual income for an individual
• $300,000 or more for a couple
• $1 million net worth

The Qualified Investor

The qualified investor can be defined as the person who has money as well as some knowledge of investing. Qualified investors include most professional stock traders who are accredited investors and has invested in financial education. They have learned and understand the difference between fundamental and technical investing.

A fundamental investor searches for value and growth of a company by looking at the financial statement. The most important consideration for selecting good stock for investment is the future earnings potential of the company. Warren Buffet has been acknowledged as one of the best fundamental investors.

On the other hand, a well-trained technical investor invests on the emotions of the market and invests with insurance to hedge against catastrophic loss. The most important consideration for selecting a good stock is based on the supply and demand for the stock of a company. George Soros is often recognized as one of the best technical investor.

The Sophisticated Investor

The sophisticated investors know as much as the qualified investors but has also studied the advantages available through the legal system. They are familiar with the following specialties of law:

• Tax law
• Corporate law
• Securities law

While not a lawyer, the sophisticated investor relies his or her investment strategy on the law as well as the financial products in determining the potential returns. They often gains higher returns with very low risk by using the different disciplines in law.

The Inside Investor

Although an important distinction of the inside investor is the aspect of control over management of a company, the most imperative point is that one does not need to have a lot of income or net worth to become an inside investor. An officer, director or owner of 10% or more shares of the company is an inside investor.

Actually someone with the financial education but not the financial resources can still become an inside investor. This is where many people enter the world of investing today. By building their own companies, inside investors are building assets that they can run, sell or take public.

The Ultimate Investor

The ultimate investor is a person like Bill Gates or Warren Buffett. These investors build giant companies that other investors want to invest in. The ultimate investor is a person who creates assets that become very valuable that it is worth literally billions of dollars to millions of people.

Both Gates and Buffett became rich not because of their high salaries but because they built great companies and took them public. While it is not likely that everyone of us will ever build a Microsoft or Berkshire Hathaway, we all have the possibility of building smaller businesses and becoming wealthy by selling it privately or publicly.

[Other financial posts...]

Oei Hong Leong

Singapore tycoon Mr. Oei Hong Leong bought one million American International Group (AIG) shares on Tuesday (16 Sep 2008) when the stock was in freefall and many investors were bailing out of the giant insurer.

Mr Oei bought in on the upswing and landed his average cost of purchasing at US$1.80. The stock price closed at US$3.75 at the end of the trading. He had looked hard at the unfolding AIG crisis and calculated that the firm was just too big and important to be allowed to fail.

He bought the shares when AIG shares price was dropping due to the rumor that AIG encountered short-term shortages of cash flows and grabbed one million shares of AIG.

Mr. Oei then sold the shares on Monday (22 Sep 2008) at US$5.00. The selling price rose more than double compared to the bidding price.

He donated the shares which have already shot up in value (about S$ 890 million) as promised to LKY School to mark Minister Mentor Lee Kuan Yew's 85th birthday, which fell on Tuesday. In other words, the school will receive about US$ 5 million from the shrewd investor.

Mr. Oei actually had donated S$ 1 million to LKY school 5 years ago felicitating Lee's 80th birthday.

Brief Biography

Mr. Oei Hong Leong estranged from his father, Eka Tjipta Widjaja who was one of the richest men in Indonesia. This Singapore citizen is now considered as a savvy investor with stakes in steel, coffee, real estate and health care industries. He committed to invest $10 million in waste-management firm Citiraya whose stock hasn't traded in over a year following a corporate scandal.

He was ranked number tenth in the Singapore's 40 Richest Men by Forbes Magazine. He is now 58 years old and has a net worth of about US$ 475 million.