The purchaser of the option is said to “have the right, but not the obligation” to exercise the option. In other words, if the financial situation would make it profitable for the purchaser to exercise the option, then he or she can do that. If, on the other hand, it would not be profitable for the purchaser to exercise the option, then he or she is not forced to do so. The option simply expires worthless.

Options are used in many different situations besides the stock market and Forex market. A great example of this is in real estate. If you think that the value of a certain piece of property is going to go up, you might purchase an option that would allow you to buy that property at the current market value. If the value of the property does indeed rise while the option is still good, then you can exercise the option and purchase the property for the specified amount.

Let’s take a closer look at options in both the stock market and the Forex market and see what sorts of strategies traders have when they use them.

Traditional Options

Options come in two flavors: the call and the put. A call option, or simply a call, gives the purchaser the right to buy an item at a specified price, known as the strike price. A put option, or a put, allows the purchaser to sell an item at the strike price. These options are widely used in the stock market as both a means of generating cash and as a method of reducing risk in a portfolio. Let’s see some examples.

Let’s say that you own 1,000 shares of XYZ Corp. stock, which is currently trading at $50 per share, and you think the stock price is going to decline to $40 per share over the next month. This puts you in the position of possibly losing $10,000. (Your current value of $50,000 minus the potential value of $40,000 leaves a $10,000 loss.) On the other hand, if you sell your stock now, and the price actually goes up, then you would have missed out on the gain.

To hedge your risk, you could purchase a put that would allow you to sell your stock at $45 per share. This way, if your prediction comes true and the stock falls to $40 per share, then you can sell your stock at $45 per share and cut your potential loss in half. If the stock price rises or stays even, then your option expires worthless and you’re only out the price you paid for the option.

Here’s another example: You have researched ABC Company and think that their stock is undervalued. Let’s say it’s currently trading at $100 per share and you feel confident that it is going to increase by $15 per share in the next two weeks. You want to purchase 1,000 shares of the stock, but it would be difficult to come up with the liquid cash at the moment.

An alternative in this scenario would be to purchase a call on ABC stock allowing you to purchase 1,000 shares at $105 per share. If the stock rises as you predict, then you’ll be able to exercise your option and purchase the $115 stock for $105. In this scenario, you’d actually be able to purchase the stock without having to raise the necessary cash. Any broker would take your option as collateral for the stock purchase and you’d only have to pay the purchase price of the option out of pocket.

Forex Options

The Forex market works very much like the stock market; the main difference is that instead of trading stocks and bonds, you are trading foreign currencies. Similarly, a Forex option works very much like a stock market option; the only difference is that you are trading the rights to buy and sell currencies instead of stocks.

Any transaction on the Forex market involves two currencies. You have US dollars and you want to buy Great Britain pounds or you have Euros and you want to buy Japanese yen. In any transaction such as these, you are both buying and selling. If you are trading dollars for pounds, you are selling dollars and buying pounds. Similarly, any Forex option trading can also be seen as both buying and selling.

When you purchase an option for the Forex market, both the currency you have and the currency you want are specified in the contract. If you wanted to sell dollars and buy pounds, that would be called a USDGBP option, using the standard ISO codes for each of the currencies. This option is both a put on dollars (giving you the right to sell your dollars if the conditions are favorable) and a call on pounds (giving you the right to buy pounds if you wish).

You would purchase a Forex option when you think that the currency fluctuations will let you make a profit but you don’t want to risk all or a large portion of the money in your portfolio. For instance, if you think that the Canadian dollar will become stronger against the US dollar, then you would want to buy a USDCAD put, allowing you to sell your US dollars at the current exchange rate for Canadian dollars. If you currently hold Japanese yen and think that the Great Britain pound will fall, then you would want to buy a JPYGBP put, allowing you to sell your yen for pounds at a favorable exchange rate.

Where To Trade Them

Forex options trading occurs OTC, or over the counter, which means that they are not traded on an exchange. (Actually, a small amount are traded on a couple of exchanges, but the vast majority are not.) Many “mainstream” brokers offer limited access to Forex trading and many of the Forex websites out there offering can’t-miss-strategies are little more than scams. Your best bet is probably to go with an established online broker such as Zecco. Going this route also makes online Forex option trading a breeze.

Finding a personal broker for your Forex option trading can be a bit difficult as there is a limited number of brokers with any real experience in the Forex market. If you want to go with a personal Forex options broker, you can find them out there, but your experience with them may not be the best. It’s generally recommended that you learn enough on your own to make wise investment decisions if you plan on getting into the Forex market.

401k Rollover Rules

Parting is such sweet sorrow. The words of the Bard were never more true than when you leave a job. Even if you left on good terms and for a better opportunity, leaving a job and starting a new one is always going to be a fair sized hassle. Learning new places, meeting new people, and filling out a small mountain of paperwork. Among the things that should be on your To-Do list is taking care of the money left in your 401k at your old job.

There are a few things that you can choose to do with your old 401k. Essentially your options are: leave the money where it is, cash out and have your old company send you a check, or roll the funds into a retirement account at a new institution. Leaving the money where it is can be a good temporary solution – since you’re going to have your hands full for the time being with a new job – but it may not be the best long term answer. Cashing out and receiving the funds yourself is a bad financial decision, due to the taxes and penalties you’ll pay for making an early withdrawal. Rolling your 401k into a retirement account at a new institution – whether it’s a brokerage account or your new 401k – is generally the best option. Doing this allows you more investment choices for your money and helps you keep all of your retirement funds together at just one or two institutions, instead of spread out among several previous employers. Let’s take a deeper look at the options available to you and see which one makes the most sense for your situation.

Keeping The 401k Where It Is

Your first option when it comes to deciding what to do with your 401k is to simply leave the funds as they are in your old employer’s 401k plan. You will still be able to choose how your money is invested and you’ll continue to get a statement just as you have in the past.

Pros: This option is easy and requires no action on your part.

Cons: Long term, this is probably not the best solution. You only have access to the investment options your old employer has made available and you can’t contribute any more money to the account. In addition, over the course of several jobs or careers, this can lead to quite a few old 401k accounts spread out among various old employers.

One thing to note about this option is that it won’t be available to everyone. If your balance is under $5,000 when you leave a job, your employer can force you to withdraw your funds from their 401k plan and place them elsewhere. If this happens to you, your best option is to do one of the 401k rollovers that I describe below.

Rolling Into A New 401K

Your next option is to take the money in your old 401k and roll it directly into the 401k offered at your new employer. This assumes, of course, that your new employer offers a 401k, but chances are good that they do.

Pros: For people who don’t want to mess around with their retirement accounts too much and want to keep things as simple as possible, this is probably the best option. Rolling the money right into your new 401k is fairly easy, as you don’t have to deal with any outside companies or make too many investment decisions. Just fill out the necessary paperwork, roll the money in, and invest it the same as you have chosen to invest your ongoing contributions to your new 401k.

Cons: Rolling your old 401k into your new one limits the investment options that you have available. You can only choose to invest the money in the particular options your employer has made available. These options will nearly always be mutual funds with a big name investment firm. If you want to invest your money in stocks, bonds, ETFs, or even mutual funds that aren’t part of the new 401k plan, you are out of luck. Some will see this lack of options as “keeping things simple” while others will see it as an unnecessary limitation of investment options.

401k Rollover To An IRA With A Mutual Fund Company

If you choose not to roll your money into your new 401k, then moving the funds into an IRA is another option. An IRA is a retirement account much like a 401k, but it is not tied to an employer. You can open up an IRA with just about any bank, brokerage house, or mutual fund company. If you like the simplicity and security of mutual funds and want to invest in them, you can open your IRA directly with a mutual fund company.

Pros: Rolling your 401k into an IRA with a mutual fund company, such as Vanguard, Fidelity, American Funds, or others, gives you more investment options than you are likely to see from your new employer. These companies nearly always have easily understandable investment models and can even choose your investments for you based on the amount of time you want the money to be invested. On top of all that, these companies handle plenty of 401k rollovers, so your chances of getting things done quickly and cleanly are good.

Cons: You can only invest your money in the funds available from your particular fund company. Again, some will see this lack of choice as a good thing while others will object to it. If you think you’ll fall into the latter category, then this option isn’t for you. Additionally, fees and expenses can be higher in individual accounts then you would see in a group plan, such as your employer’s 401k.

401k Rollover To An IRA With A Broker

Offering you the greatest flexibility in investment options, rolling your funds into an IRA with a broker can be a great idea if you know how to take advantage of that flexibility.

Pros: Rolling your funds into an IRA with a broker opens up the whole wide world of stocks, bonds, ETFs, mutual funds, index funds, options, puts, warrants, and SPDRs up to you. If you want that kind of flexibility, then this is definitely the option for you. Brokers that fit in this category include eTrade, Scottrade, Zecco, TD Ameritrade and others.

Cons: Having a personal broker can cost more than a mutual fund account would if you don’t plan on trading often. If you are the “invest and forget about it” type, then this is not the option for you. Also, if you choose to go with a low- or no-fee broker to keep expenses down, you are essentially on your own when it comes to planning your investments. I don’t recommend this unless you have some good experience with investing. You don’t want to lose your entire retirement nest egg because you took some bad stock advice from your cousin.

401k IRA Rollover To A Roth

Another option that bears mentioning, rolling your money into a Roth IRA would be essentially the same as rolling it into a regular IRA, but it has an important tax distinction. The money that you put into 401k accounts and regular IRAs is not taxed until you pull the money out. In other words, the money comes straight from your paycheck without taxes being taken out, and then the money is taxed when you withdraw it. In a Roth IRA, the money is taxed before it goes into the account, and then you get to withdraw the money tax free.

The main factor in deciding between a normal, or traditional, IRA and a Roth is whether you think you’ll pay less in taxes now or later when you start to pull the money out. That is most likely a question best answered by a financial planner and your tax accountant, but it bears thinking about. If you decide to roll your money into a Roth, you’ll choose a company as above for a normal IRA, and then convert the IRA into a Roth by paying a lump sum of taxes. You’ll then have a Roth and will be able to take the money out at retirement tax free.

Withdraw The Money

The last option for deciding what to do with your 401k account is to simply withdraw the money and have your old employer send you a check. We mentioned it briefly up above, but it bears discussing more fully. Your old employer is required by law to withhold a certain percentage from the amount they send you: your regular tax rate (if you’re not sure what yours is, you can estimate it at 15 to 25%) and a penalty of 10% for withdrawing the money early. That means if your balance was $1,000 then you will net, at best, a payment of only $750. The government gets to keep the rest. Unfair, I agree, but that’s how the cookie crumbles.

To reiterate what I said above, this is not a good financial decision. You’ve been saving that money for retirement, so don’t give into temptation now and pull it out. Roll it into one of the above options and you’ll be much happier you did later.

Rollover Process

Now that you’ve decided what you want to do with the funds in your old 401k, let’s talk about the process you’ll have to go through to get things done. It’s not really very complicated, but you’ll probably spend some time filling out paperwork.

1) Contact your old employer. You need to do two things while you’re on the phone with them. First off, you need to make sure that they have you in their books as a terminated employee, and that your 401k is eligible to be transferred or rolled over to a new company. You’d be surprised how many 401k rollovers get hung up because the financial department at the old company didn’t know the employee had left or been let go. The second thing you need to do on the phone is get them to send you a current statement for your account and all of the paperwork they need to send a transfer to a new company.

2) Contact your new employer/broker/mutual fund company. The next thing you need to do is contact whoever you’re rolling your funds over to, and get them to send you a copy of the paperwork that they need to complete the transfer.

3) Fill out the paperwork. Once you’ve gotten everything faxed or sent to you in the mail, sit down and fill it all out. Hopefully it won’t be too much. When you’re filling it all out, you want to select the “Direct Rollover” option. Do not select any options that send you the money. If you are doing a rollover, the two institutions involved will handle the transfer of funds internally, and you’ll never see the money. If the company sends you the check – even if you intend to immediately deposit the funds into an IRA – they have to withhold the taxes and penalties.

4) Send off the paperwork, and relax with a cold beverage. Congrats, you’re done! Check your statement for the next couple of months to make sure that everything got transferred correctly, and then you can start choosing how you want everything to be invested.

This article was selected to appear in the Carnival of Personal Finance. Check out the rest of the entries at SimplyForties.