Don’t try to be a hero when trading options!

May 17, 2006 · Print This Article

Money management, capital preservation, stop-losses, and position-sizing are (in my opinion) the keys to options trading success. Trying to be a hero when a position moves uncomfortably away from you can (and often) leads to disaster. All traders at some point have experienced this at some point. Almost every trading text out there decribes, in great detail, the authors great epiphany after a disastrous, account depleting journey in trading. These one or two failing experiences seem to create that “ahhhh” moment where, as a trader, you ”get it”. The reason I mention this is that so many times in a market like we have experienced over the past week traders that are long, continue to be long, in the face of a sharply declining market. Why? Losses are going to happen. It is what you do to avoid taking large losses that keeps you in it for the long-term.

Options trading seems to create a “get rick quick mentality” that attracts the “speculative gamblers” out there. To me this approach seems short-sighted, unless that is your goal and you are willing to take the risk. I prefer to take the “long-term” approach that attempts to beat the market over an extended period of time. Admittingly, I “go for the gold” sometimes and place a highly speculative trade. But those are few and far between and I would never allocate a large portion of my portfolio to a trade like this. It is just too risky for my blood after what I have experienced as a trader. Take the loss and move on. Think in terms of probablities. Use a scientific approach. Losses are a cost of doing business. It is how your account compares to the benchmarks after a long-period of time that defines your success. Any Joe options trader can make a bundle on a trade. It is how Joe performs over the long-term that defines his success.

The major market indices (except DIA) are currently are in “Very oversold” territory. SPY, QQQQ, and IWM haev not seem levels like this in well-over a year. As a contrarian (at heart), my intuition tells me to buy into this market for the short-term and I just might do so. Fortunately, my indicators have not lined up accordingly and have kept me out of this market. I do think a decent attempt at a bounce is coming over the next few days and I hope to be a part of it. I mean, come on, enough is enough, with the QQQQs at 8.0 (RSI) do we really expect this market to move much lower before at least a short-term rally attempt.

And I almost forgot to mention, in the face of the declining market today, the Gap Fade strategy was profitable today! A small profit by options standards, but I will take a profit of 8.3% any day. Until tomorrow. Have a great night.

RSI Wilder (5) for May 17, 2006