We're half way there in this 10 part series on how to trade
options, you are doing well keep learning, practicing and
applying these strategies and you will soon find yourself
able to successfully and profitably trade on a regular
basis. Last week we looked at ways in which to time the
entry of a trade so this week we will discuss how to get
out at the right time.
There are several strategies and ways to exit a trade and
you must decide which way (or ways) suits you. It is
infinitely more difficult to decide when to exit a trade
than when to enter it because it is at this time that you
will either be making a profit or taking a loss! You will
be faced with a myriad of different emotions while you are
in a trade, most notably fear and greed. Fear appears in
several different forms, fear of losing a profit already
made, fear of getting out too early, fear of taking a loss
and facing a mistaken trade. Greed also rears its ugly head
by encouraging you to stay too long in a winning trade and
possibly giving back some or all of your gains. There is an
old adage on Wall Street that says "Bulls can make money,
bears can make money but pigs always get slaughtered."
As I mentioned you must determine what suits you when it
comes to deciding how much of a loss you can handle and how
much of a profit you want to take. This is a direct
reflection of your risk to reward ratio. For example, I
often say "I never feel bad when taking a profit". I like
to take profits when I see them and I generally have a
fixed dollar figure or percentage in mind. Unless there is
no good reason to exit the trade I will take my profits and
if the trade keeps going in my direction after I have
exited it doesn't bother me. Conversely I always have a
fixed % loss I will accept. Some people would not be able
to handle leaving money "on the table" so they may prefer
to let their trades run, but then they may need larger stop
losses as well. You generally need large stop losses when
trading options because they are volatile and if you set a
10% loss, for example, there is a very good chance you
would get stopped out with the normal fluctuations of
intraday trading. Bear in mind that there is not as much at
risk when trading options as opposed to trading stocks. The
capital investment is much smaller so a larger stop loss
will not impact your account as much.
Some good rules of thumb are: First if there is profit on
the table and the underlying stock breaks down or crosses
below its 7 day moving average, take the profit. There is
nothing worse than watching a winning trade steadily lose
value while you sit there hoping it will rise again.
However if market conditions have not changed and your
technical analysis supports staying in the trade make sure
you do not exit too early. Often the most outstanding
profits are made by patient traders. Second, always exit
the trade if you are at a 50% loss. Chances are if you are
in a trade that is losing 50% it will keep going that way.
You must preserve your capital in order to trade again.
Third, always exit a trade if there is 30 days or less
before expiration. During the month before expiration time
decay can rob you blind of the value of your option.
I trust this has given you some things to consider when
deciding to exit your trades, stay tuned for next week's
installment where we will discuss how to put together a
complete trading plan.
US Government required disclaimer: Options involve risk and
are not suitable for all investors. Prior to buying or
selling an option, a person must receive a copy of the
Characteristics and Risks of Standardized Options. Copies
of this document may be obtained from your broker, from any
exchange on which options are traded or by contacting The
Options Clearing Corporation, One North Wacker Dr., Suite
500 Chicago, IL 60606 (1-800-678-4667).
----------------------------------------------------
Roger Cox was born in New Zealand and has lived in Los
Angeles for seven years. He was President of a freight
company at LAX before setting up his own consulting firm.
Roger has successfully traded stock options for over 4
years and teaches other people how to successfully trade at
http://www.prosperitywithoptions.com
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