"The Four Biggest Mistakes In Option Trading"
...by Jay Kaeppel, Director of Research, Essex Trading co.
>>>The traits most often associated with trading are limited risk, unlimited potential, leverage and the ability to tailor a position to fit a particular objective. The good news is that all these traits accurately portray the opportunities available when trading options. The bad news is that options by their very nature are a complex subject, which leaves a great deal of room for error.
In order to succeed a trader must do the homework required to fully understand what his or her true objectives are and to devise and follow a plan that has realistic expectation of achieving those objectives.
Unfortunately, because of the complex nature of options many traders find it easier to simply follow the most common approaches to trading, without really considering the likelihood of a profitable outcome in the long run.
"If everybody else is doing it, it must be right" is a common thought. However, when you are talking about an endeavor where 90% of the participants wind up losing in the long run, the opposite is actually true.
The most difficult step in becoming a profitable options trader is realizing and accepting that the "usual" approaches to option trading followed by the majority of traders lead to losses, and that a trader must ardently avoid the common pitfalls if he hopes to profit in the long run.
The table below presents a brief summary of the mistakes we have detailed, why they lead to losses and what a trader needs to do in order to avoid these problems.
Summary Table:
MISTAKE: Relying Solely On Market Timing
Why this causes failure:
...Ignores implied volatility; can lead to paying far too much to purchase options.
How to avoid it:
...Carefully analyze which option (or options) are best suited to achieve your objective.
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MISTAKE: Buying Only Out-Of-the-Money Options
Why this causes failure:
...Ignores probability; leads to buying options with little likelihood of profiting.
How to avoid it:
...Consider the likelihood of making money on a given trade before getting in.
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MISTAKE: Using Strategies That Are Too Complex
Why this causes failure:
...Leads to unfavorable risk/reward situations.
How to avoid it:
...Determine your objective and make certain the trade you are going to make can achieve those objectives without more risk than you can handle.
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MISTAKE: Casting Too Wide a Net
Why this causes failure:
...Too much time wasted looking for opportunities among illiquid options.
How to avoid it:
...Focus on securities that have actively traded options.
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Options trading can generate substantial profits if you avoid the common mistakes and adopt an intelligent approach to trading. Avoiding the mistakes detailed in this guide is a good first step.<<< |
