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Options Trading
Strategy
The 10 Commandments of an
Options Trader
Successful traders create their own set of rules /
commandments (options
trading strategy) that they always follow. Some possible examples of the
kinds of rules a trader may choose to follow are presented below:
-
Be patient. This is likely the most important
commandment. Do not jump into a trade, wait for the right moment, wait
for the right price, and wait for a clear signal from your indicators.
There is nothing wrong with �staying in cash�. It is far better to wait
and stay out of the market than to jump into the wrong trade, enter a
trade too early, or overstay in a losing position.
-
Protect your portfolio. Never put all your money
into one trade. Decide how much you are willing to risk per trade.
Formulate a money allocation strategy, for instance investing no more
only 20% of your options portfolio per trade.
-
Minimize your risk. Always be ready to cut your
losses. Generally, you should sell a losing option position if it drops
by 50%. Take your loss and move on.
-
Plan before you play. It will be more difficult to
profit, if you do not have an unambiguous game plan. Before entering a
trade, you should know where you will buy an option, take profits, or
exit a position if the trade goes against you.
-
Do not be greedy. Greed is the downfall of 90% of
all options traders. Make sure you follow your game plan so that you can
avoid this natural tendency. By using limit orders to buy options, you
force yourself to wait for the right price.
-
Do not stay in a position for a long time. Options
prices are negatively affected by the time factor. The longer a trader
stays in a position, the greater the potential for time decay.
-
Buy options on high volatility stocks. The best
plays are to be found on volatile stocks that move within wide ranges of
their base values; however, high volatility is factored into an option's
price, making it more expensive than an option on a less volatile
underlying.
-
In general, buy in-the-money options. These tend
to have higher prices, however, the react more directly to the movement
of the underlying stock (given their higher delta values); they also
give you more flexibility in entering and exiting position.
-
Buy options with 2 - 3 months left before expiration.
The closer to expiration, the more an option's price is affected by
the eroding time value; this makes a bet on short-term options more
risky. You can compensate for this if you have a strong directional
trend working in your favor.
-
Be patient. This is the most important
commandment, and it bears repeating. Contrary to popular belief, buying
speculative options is not a game that requires action everyday.
These 10 rules / commandments (options trading
strategy) only serve as an
example. Every options trader should have his or her own set of rules.
Use them to delineate your own unique
options trading strategy - one
that fits your personal trading style and risk tolerance.
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"Options Trading Systems" |
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