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How to Trade Options on Robinhood – Step By Step

How to Trade Options on Robinhood

Knowing how to trade options on Robinhood is a great way to get introduced to the options market. Their free commissions makes it cheaper than ever to trade options.

Below we’ll dive in to how you can place your first options trade on Robinhood’s platform.

Trading Options on Robinhood

When Robinhood first entered the investment space in 2013, it began a movement that has disrupted the entire online broker industry. I honestly believe that Robinhood’s entrance into the investing sphere formed a paradigm shift in the whole industry.

There’s even a name for it: ‘The Robinhood Effect.’ Do you know why TD Ameritrade, Charles Schwab, and other major brokers went with 0$ commissions? Because of Robinhood.

Robinhood has no minimums to open an account, no commissions, no fees. Zip, zero, zilch. Robinhood forced the traditional stock market brokers to compete for customers – the days of $9.99 per stock trade are gone.

Then Robinhood did the next crazy thing – disrupt the options market. When it was announced in December 2017, many thought it wasn’t possible to offer free options trading on a mobile platform.

I mean, no commissions on stocks are one thing, but options?

There’s a ton of fees attached to options. $5.99 + $0.50 per contract, up to $20 bucks for exercising and assignment, how the heck were they going to go free? But they did.

For options, Robinhood has no commission, no per-contract fee, no exercise fee, and no assignment free.

Hell, they also support multiple leg orders, spreads, and strangles.

Free trading comes with some concessions, though; we’ll discuss those later.

Options Overview

So, what are options? Of all the derivatives markets and tradable markets, options markets could be the most confusing and intimidating for new traders.

Derivatives are instruments that derive their value from an underlying asset. In other words, options for Microsoft (MSFT) are based on Microsoft’s stock price. When you buy a stock, you have ownership – it’s yours, like property.

When you buy an option contract, you do not have ownership. An option gives you the right to buy or sell something at a particular price – but not the obligation. Options contracts are divided into two primary types: Calls and Puts.

Call Options

Call options give you the right to buy a certain amount of shares (options contracts typically represent 100 shares of stock) at a specific price over a certain period. Think of a Call Option as physically calling it over to you from across the room (nomenclature in many derivatives markets come from the traditional trading pits).

If I want to buy a Microsoft option from someone across the room, I ‘call it over.’ Think of a call option as taking a long position in the stock market: you are biased towards the market moving higher.

Put Options

Put options are the inverse of call options. Call options give you the right to sell a certain amount of shares at a specific price over a particular period of time. Think of a put as physically putting something out for sale.

Think of put options as shorting in the stock market: you are biased towards the market moving lower – you want it to drop. There is a lot more to know about options so make sure to check out this definitive options guide!

Risks with Trading Options

Options markets, like any market, are not without their risks. Something very singular to options markets is how risk is measured. In options trading, this is known as the Greeks. Option Greeks are five primary measurements of risk: delta, theta, gamma, rho, and vega.

Delta represents the ROC (Rate Of Change) between the options price and the underlying instrument’s price. Theta measures decay – decay (time decay) measures the decline in the value of an option as it moves closer to expiration.

Gamma measures the delta (difference) between the option and the instrument’s price. Rho measures the rate of change between the options value and a change in interest rates. And finally, vega, which measures volatility (known as implied volatility. In a nutshell, options can magnify your wins and losses.

There are options trades that you can take that create unlimited liability, like naked calls.

For example, let’s say you sold naked calls on company XYZ, which is trading at $10. You don’t think XYZ has any chance of moving higher, so you sell 100 calls with a strike of $15 for $1 ($10,000).

You go to sleep (how you could, I have no idea), and you wake up to find XYZ had a meteoric rise to $50 – instead of $10,000 in your pocket, you’ve got a $350,000 loss.

How to Trade Options on Robinhood

You may or may not know this, but Robinhood has a web version available. Let’s take a look at how to place trades using Robinhood’s platform.

A small warning for those of you who trade options on more robust platforms: Robinhood’s platform for options is as limited as to their stocks.

Above is the default SPY layout. On the right side of the screen is the button to view the SPY options. When we click on the Trade SPY Options button, the detailed options page comes up, see below.

By default, Robinhood has the Buy-side with the Call option selected. I’ve chosen the February 10th expiration for SPY. Let’s say I am expecting a drop in the SPY between now and February 10th, 2020.

If I were trading a stock, I would have to short the SPY. With an options contract, I would Buy a Put.

Things to Consider When Trading Options on Robinhood

You should know what you are doing. Options are a beast in the trading world, and you should know the risk – and it’s good that Robinhood gates access to the higher risk/reward levels.

I hope this goes without saying, but you should know the market and instrument are you trading – intimately.

Options market can have considerable upside but unlimited downside risk if you are not careful. There are a great many horror stories of individual traders and even experienced brokerage houses who have lost more than the value of their accounts in the options markets.

If you Google optionssellers.com, you’ll get an idea of how quickly and violently you can lose money in the options market – I encourage you to watch the video of what happened.

For any new and current trader in any market, it should haunt you and reinforce the importance of risk management. I would heavily encourage you to learn, read, and make sure you know what you are doing before you dive into the options markets.

Final Thoughts

For some traders, you may find Robinhood’s offerings of instruments to trade limited. Robinhood lacks almost every other al a carte feature that you would have present in a traditional brokerage platform.

They do not offer DRIP (Dividend Reinvestment Program). There is no dedicated broker desk support and in my experience, the support is not great – you get what you pay for. Robinhood’s research tools are limited, and the charting platform is not customizable, very few, if any tools.

Future trading is not available, not are mutual funds or bonds. They make their money on selling your order flow – but they got dinged by FINRA in December 2019 for not practicing ‘reasonable diligence.’ They were assessed a $1.25 million fine.

But if you are looking for a platform that offers low costs and easy access via your smartphone and the web, then Robinhood is second to none. There are plenty of tools out there that can be used to supplement Robinhoods shortcomings from both a fundamental and technical side.

The app is free and easy to setup.

For the investor and trader who only needs a tool to execute their stock trades, Robinhood does that activity just fine. But if you are an advanced trader who knows how to use the options market and is familiar with it, then Robinhood may not be sufficient for your needs.

However, Robinhood does continue to offer new and improved services and continually addresses the needs and wants of its customers (of which there are roughly 6 million).

One of the new features Robinhood is introducing is fractional shares – no updates on what kind of updates they will be given to the options side of their platform.

Bottom Line

Options are a vast and lucrative market, one wrought with as many riches as there is ruin.

Costs to trade options can be significant and many brokers have substantial costs attached to every order. For those making advanced orders like the Iron Butterfly – where there are four separate orders taken, costs can add up.

Robinhood eliminates the vast majority of those costs by offering a $0 commission options trading platform. But there are some caveats to this. Robinhood is not a full-service broker – they’re a barebones, discount broker.

For options, you need to go through a little process to show Robinhood that you are experienced in trading options – something not every broker does. If you want to access uncovered or naked puts/calls (Level 4) or spreads (Level 3), you will need to get these options unlocked.

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