- The first question to ask in any option trade is how much of my capital could I lose in the worst case scenario not how much can I make.
- Long options are tools that can be used to create asymmetric trades with a built in downside and unlimited upside.
- Short options should only be sold when the probabilities are deeply in your favor that they will expire worthless, also a small hedge can pay for itself in the long run.
- Understand that in long options you have to overcome the time priced into the premium to be profitable even if you are right on the direction of the move.
- Long weekly deep-in-the-money options can be used like stock with much less out lay of capital.
- The reason that deeper in the money options have so little time and volatility priced in is becasue you are ensuring someones profits in that stock. That is where the risk is:intrinsic value, and that risk is on the buyer.
- When you buy out-of-the-money options understand that you must be right about direction, time period of move, and amount of move to make money. Also understand this is already priced in.
- When trading a high volatility event that price move will be priced into the option, after the event the option price will remove that volatility value and the option value will collapse. You can only make money through those events with options if the increase in intrinsic value increases enough to replace the vega value that comes out.
- Only trade in options with high volume so you do not lose a large amount of money on the bid/ask spread when entering and exiting trades.
- When used correctly options can be tools for managing risk, used incorrectly they can blow up your account. I suggest never risking more than 1% of your trading capital on any one option trade.
Archives of “probabilities” tag
rssTrading in the Footsteps of Sherlock Holmes- Book Review
Some books are too clever by half. Anthony Trongone’s Trading in the Footsteps of Sherlock Holmes: Balancing Probabilities for Successful Investing (W & A Publishing/Traders Press, 2010) is one of them. The idea—to encourage traders to adopt an analytical mindset and achieve emotional discipline by relying heavily on quotations from Sherlock Holmes novels and stories—sounded promising, even fun. And fun is a rare commodity in trading books. Although the book started off well, as it progressed Holmes became a less and less useful coach and analogies from detecting to trading became increasingly strained. It’s hard, for instance, to invoke Holmes in a discussion of order types.
But why waste a post emphasizing the negative when there are so many passages that will undoubtedly delight traders who are fans of Sherlock Holmes? Herewith a very limited sampling. (more…)
Trade with Discipline
“Without discipline, you will be unable to master your ego, create empowering beliefs, have faith, and develop confidence in your abilities. The lack of discipline will prevent your skill as a trader from progressing.”
Making an occasional winning trade, that ignores your trading plan, may provide short-term pleasure, but entering trades unsystematically can adversely influence your ability to maintain discipline over the long term. Why? When you stop following your plan, you are being rewarded for a lack of discipline. You may start believing that abandoning your plan is therefore not a big deal. Then, whether consciously or unconsciously, you’ll begin to think: “I was rewarded once; maybe I will be rewarded again. I’ll take a chance.” Positive outcomes from undisciplined trading are most often short-lived, and the lack of discipline will ultimately produce trading losses.
Who cares if the win is from my plan or not? It’s still a win, right! A win that results from following a trading plan reinforces discipline. A win that occurs by chance (deviating from your plan) will increase your bottom line temporarily, but may cause harm to your psyche and be responsible for future unexplained losses. It reinforces undisciplined trading. (more…)
The Probabilities Win Every Time
Columnist David Brooks wrote an interesting article in the New York Times on how to effectively use probabilities:
In 2006, Philip E. Tetlock published a landmark book called “Expert Political Judgment.” While his findings obviously don’t apply to me, Tetlock demonstrated that pundits and experts are terrible at making predictions.
But Tetlock is also interested in how people can get better at making forecasts. His subsequent work helped prompt people at one of the government’s most creative agencies, the Intelligence Advanced Research Projects Agency, to hold a forecasting tournament to see if competition could spur better predictions.
In the fall of 2011, the agency asked a series of short-term questions about foreign affairs, such as whether certain countries will leave the euro, whether North Korea will re-enter arms talks, or whether Vladimir Putin and Dmitri Medvedev would switch jobs. They hired a consulting firm to run an experimental control group against which the competitors could be benchmarked. (more…)
Negative Trading Behaviors
*Over Trading in Size *Jumping the Gun *Hesitating *Skipping Trades *Being in A Hurry * Trading without Proper Preparation *Getting Stuck in A Losing Trade *Whipsawing *Breaking Your Trading Rules *Shooting From the Hip * Over Interpreting *Discounting *Trading A Scenario without Reference to Price *Trading Heedlessly *Trading Wildly *Abandoning Your Trading Plan *Not having A Trading Plan *Switching Strategies Frequently *Not having A Proven Strategy *Not Pulling the Trigger *Not Believing the Evidence the Market Provides *Blindly Believing A story you tell yourself *Blindly Believing A story somebody else tells you *Becoming Impulsive.*Not Verifying A System Or Method Before you trade it.*Over Researching *Using Trading as a Spectator Sport *Jumping in before you think *Trading too Big *Grabbing Profits too soon.*Getting Careless *Being too Careful *Not adding to A Winning Trade.*Trading Heavier when losing *Forcing trades *Getting Trigger Happy *Gulping Profits too soon *Adding to A losing Trade.*Overtrading in terms of Frequency *Sticking with A Losing system *Sticking with A Broker that gives you bad Fills.*Not Making Trading A Priority*Worrying what others will think.*Trading with borrowed Money.*Trading with Money you need to live on*Holding Unrealistic Expectations.*Engaging in Negative and Destructive Self talk*Becoming Despondent about your trading results.*Wanting certainty before you trade.*Disregarding Probabilities*Fooling Yourself about your Trading.*Not keeping Proper Records*Not Acknowledging Mistakes.*Not Learning from Mistakes.*Repeating Mistakes*Engaging in Self Pity* Blaming Others *Getting Envious of other traders *Giving Up periodically *Resisting loss* Feeling shame for loss *Lying and Covering up results *Becoming pessimistic about the future of your trading * Being Unrealistic about your present trading &Tying self worth to trading * Bragging about Trading * Being Unduly Secretive about trading * Using trading to inflate your ego *Letting trading interfere with A full and Balanced life *Letting life interfere with A Full and Balanced trading *Using trading to avoid living *Doing anything Unethical regarding your trading *Doing what Doesn’t work *Not continuing to do what does work *Getting Reckless & Getting Overcautious * Letting others put your down Re your trading * Waiting to Respect yourself untill you succeed with trading*Being Unorganized in your efforts * Trading for the sake of trading *Letting Distractions take your attention away from trading * Not Specializing *Not executing with precision *Forgetting to cancel stops after a trade is off*Fighting Yourself *Fighting the Market *Fighting Your Methods *Making careless errors & Personifying the Market *Projecting your own feelings on the market.
-Other
Go over each of the Behaviors you have checked and scale them from 1 to 10 as to severity.Let 10 represent the most harmful to your trading.
Follow these 13 Rules
1. I will create game plans for all my trades. |
Revolutionary Trading Psychology
Everyone thinks the market is a game of numbers. We use complex models, umpteen oscillators or retracement calculations and even a fundamental analysis of supply and demand – all based in numbers and about numbers.
But in reality, the numbers of the market are but an illusion.
Markets are only the vacillating prices that other human beings, using the same mathematically based tools, are willing to pay. For example, what can be expensive one day can be very cheap the next if a trend has ensued.
It is only a matter of perspective. And perspective is a matter of the judgments you make.
Judgments on the other hand will be influenced by both impulsive feelings and by intuitive feelings – or pattern recognition. The trick is to have all the data on the table so you can tell the difference.
In order to do this, us market participants need to do a couple of things – give up the notion of a iron-clad trading plan based purely on historical probabilities and replace it with a trading plan based on historical probabilities (yes you read that right) AND a systematic way to leverage your judgment under uncertainty. This way you can make a decision about factors that may now be in play for the future probabilities. I mean who thought the VIX could stay over 30 for 6 months? … I am just askin.
Now in order to do this successfully, you have got to learn to optimize your judgments – which means spending more time focused on deciphering and understanding them than you spend on deciphering and understanding the charts.
This is revolutionary trading psychology – and it works.
Mark Douglas makes some great statements
In the book Trading In The Zone, Mark Douglas makes some great statements that I truly believe are important. He states:
I AM A CONSISTENT WINNER BECAUSE:
- I objectively identify my edges
- I predefine the risk of every trade
- I completely ACCEPT the risk or I am willing to let go of the trade
- I act on my edges without reservation or hesitation
- I pay myself as the market makes money available to me
- I continually monitor my susceptibility for making errors
- I understand the absolute necessity of these principles of consistent success and, therefor, I always follow them with confidence and joy.
What you’ll notice about his statements is that it is he is assuming that you have already done the first set of bullets up top; that you have already created a plan and you already have a set of RULES. Now you might ask, how do I know if my set of rules now will work next month or next year? GREAT question. The market dates back all the way into the late 1700’s. There is literally a few HUNDRED years of data. That’s why I say that back testing is KEY. Now that doesn’t mean that you need to back-test 200 years of data. Not even close. You want to back-test a reasonable time depending on your time-frame of trading. For example, if I plan on trading based on a daily system, then I might back-test the last 5-6 years. If I’m going to trade based on an intra-day 3 minute chart, I would probably backtest about a year. There is no way to KNOW what is going to happen, but trading really boils down to probabilities. Time and time again the same things tend to repeat themselves. Why do you think the markets tend do to the same things over and over. Why does it seem that certain stocks that are in the same class look the same from a chart perspective? How come a company will report great quarterly results, but still go down? It’s because there is a greater number of traders that BELIEVE that this is where an equity is too much or too little. Why do you think there are people who are talking about a “recession” right now? Again, it’s because the same things seem to be occurring that did prior to a previous recession and people have that BELIEF.
So what does all this mean? What can you gather from all this? Well, a few things actually. One is to make sure you create, find and organize a PLAN for trading. Think about it as if you wanted to open up a company. Do the research and find out how some of these traders got started and what they did. Once you’ve done that, write down your plan and look at your questions from up top. Once you can answer ALL of them, then you are moving toward being a consistently profitable trader. Then take a look at what Mark Douglas wrote. You have to own these statements mentally. You have to truly believe that you are a consistent winner because of all of the statements above.
Remember, you are starting a business, and if you want your business to succeed, you need to have a PLAN!
“Plan your trade, and trade your plan” – Anonymous
Self awareness for Traders
1) the recognition that our thinking and our emotions are intertwined and both influence our perception and judgment that leads to our decisions and actions (this view also happens to be consistent what the leading brain scientists are now saying)
2) much of our motivation – the intertwined thinking/emotion that drives our behavior – is actually subconscious, e.g. we assume we are trading the market but on other levels we are also trading our P&L and our feelings about our P&L (and what our P&L represents to us) is just one example.
3) when we understand (self-awareness) the underlying/subconscious motivation for our behavior we are in a better position to choose an alternative.
Obviously, nothing can guarantee change or improvement (contrary to many claims made by pseudo “experts”), but at least an approach that emphasizes expansion of awareness puts the odds in your favor.
And I have to play the probabilities here. Because more people tend to respond to a change process that includes an emphasis on self-awareness, I choose to use this approach in my own trading and in my coaching….it simply has the highest probability
of actually helping.
Trading Wisdom
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