This tiered system is designed to protect traders from taking on risks they can’t afford, don’t understand, or both. Each broker and prop-trading firm has their own system of defining these levels and approving traders to use them, but there are similarities between them.
Level 1 requires the least amount of experience and the highest level (level 4) is typically reserved for experienced options traders.
TradeFundrr lets you choose the level that best fits your trading strategy.
Level 1 + Level 2
Strategies allowed in this level: Covered Calls, Cash-Secured Puts, Buy-writes, Long Calls, Long Puts, Long Straddles, Long Strangles, Covered Puts, Protective Puts, Protective Calls and Collar.
Level 1: Traders are allowed to make a covered positions such as covered calls and cash-secured puts. In a covered call, the trader holds the stock and sells a call option against that position. Since he already holds the stock, and thus can deliver the shares should the call option be exercised, the investor is only really taking on the risk of the stock falling, which traders should be familiar with. A cash-secured put has the same basic risks and rewards as a covered call, but the trader holds cash instead of the stock while the trade is open. Both of these positions offer very little risk to the prop-firm and the traders risk is very similar to buying a stock.
Level 2: Allows Traders to actually buy options contracts and go long either calls or puts. There is little risk to the trader in these trades, as options only can be purchased with the buying power the account is set for, but traders can experience a total loss of their Tradefundrr account if the contract expires worthless. Therefore, traders need to know a little more about how options work than in level 1. Alternatively, if the option expires in the money, the shares can be bought on margin using the account buying power, giving the trader a chance to sell them. Traders may not need much or any previous experience with options to reach level 2 but traders at least need to show they know how an option contract works and that they understand the higher degree of risk compared to stocks.
Strategies allowed in this level: ALL listed above in Level 1+2 PLUS: Credit Spreads, Debit Spreads, Calendar Spreads, Long Butterfly, Short Butterfly, Long Condor, Short Condor, Long Iron Butterfly (Reverse Iron Butterfly), Short Iron Butterfly, Long Iron Condor (Reverse Iron Condor and Short Iron Condor.
Level 3 is for experienced options traders and will allow traders to trade options spreads. There are many different kinds of options spreads that traders can make. At this level, credit and debit spreads are allowed. Traders can have up to four legs of a spread such as an iron condor or iron butterfly. The total maximum loss for spreads is fixed and are often lower than a simple long position depending on the trade. However, traders need to have a much stronger understanding of options for these positions as they are far more complicated and involve multiple contracts. Additionally, the trader decides when they want to exercise in a level 2 long position but half of the positions in spreads are reliant on what another party might do. Traders can also hold positions with different time horizons and/or different strike prices.
Strategies allowed in this level: ALL listed above in Level 1+2+3 PLUS: naked Equity Puts and Naked Equity Calls.
Level 4 is the highest levels of options trading allows investors to sell uncovered calls and puts as well as short straddles. These options are sold on margin and have a massive amount of risk. Uncovered calls have an unlimited maximum loss as the stock price can keep rising and the seller will have to buy the shares at market price and sell to the buyer at the predetermined strike price once the contract is exercised. Uncovered puts are slightly less risky because there is a set maximum loss that is reached if the underlying stock reaches a share price of $0. Short straddles are the riskiest because any volatile movement either up or down can lead to huge losses for the investor.
Brokers leave access to this trading for investors with extensive knowledge and experience of options trading and a strong account balance that can handle significant losses since brokers are exposed to tremendous risk if the trader can’t cover their losses.