Anyone looking to succeed as an Option Trader must learn to avoid the most common Options trading mistakes.
We bring you a non exhaustive list of the pitfalls that ultimately lead to blowing up Trading accounts at best or preventing from ever making it as a Successful Stock and Option Trader.
Most Common Options Trading Mistakes Revealed: Trading Capital
In your quest to become the next Buzzy Schwartz, you are inevitably will have to face this fundamental question.
How to Fund your account ?
It may not be at the beginning of your trading career.
Perhaps somewhere along the path you will experience blowing out your account.
Trust me, It happens even to the Best ones. Remember Buzzy ?
However, when researching this article, I failed to see a single mention of this crucial problem.
Hence, I am making it my most important one because most of the subsequent common mistakes in trading options (or any other commodities) derive from which that I am about to reveal.
Sacred Money Is Cursed Money
Say you need capital to fund your account at some point.
But you have exhausted all your reliable sources and the only possibilities left are what I call Sacred Money.
So What Is Sacred Money ?
This is money that is meant for important things in your life or the life of your family.
I can think first and Foremost : your mortgage or your rent followed by your any funds reserved to support your livelihood.
Put whatever you can think of in this category.
From Kids college fund (yes !), funds destined for a specific project for the house, kids vacation, house repairs, hospital bills just to name a few.
Whatever money that had already been assigned to something not related to investing is qualified as Sacred Money.
Why is it Cursed ?
For obvious reasons.
At least to me.
What makes Sacred money Cursed Money is not the money itself.
Rather, It is the emotional impact it will have on you based on the fact that it was meant for something else.
And most of the time, that something else is more meaningful.
The direct result will be your Fear to lose it.
Thus, leading us to the through reason why this money is Cursed.
Sacred Money is Scared Money
The market throws enough challenges to traders by itself.
Let alone when such trader is scared of losing before even taking the first step into trading.
There is no other explanation that this one.
A scared trader will not think rationally enough to exploit even the most obvious opportunities.
Consequently, that money is doomed to lose.
As tempting as it may be, our recommendation is to leave Sacred Money a.k.a Scared Money alone where it belongs.
Only bring into trading the type of money that would not prevent you from having a good night sleep when swinging for those calls or puts options.
Be honest with yourself and those around you.
Tell them exactly what you intend to with the money that may be lending you for instance.
If a family member is willing to lend you money knowing that you can lose it all, then that backing by itself should trigger a great deal of confidence in you.
You are more that likely to turn that confidence into a successful usage of this type of money.
The emotional impact goes from Fear to Confidence.
Most Common Options Trading Mistakes: Lack of Strategy
So now that you are trading, assume that everything can go wrong WILL go wrong.
Beware of becoming infatuated with beginner’s luck.
You know, those first calls you bought that made you big money almost instantaneously.
I am not sure why but most beginners ( including yours truly) typically strike Gold initially before things start going south.
That takes us to the most common mistakes trading options under this category.
Trading All and Everything
The early wins induce certain traders into believing that Trading is easy.
All you have to do is to throw money at the market and it returns you more money.
Hence, there is no actual strategy about this type of trading.
The end result is that sooner or later, this will lead to losing because the market is always ever-changing.
Trading Complex Strategies You Do Not Fully Understand
This one may not be as common as other but it stems from the initial success if any.
The idea behind is that the more sophisticated the trade is, the higher the probability of it winning or something.
Our Advice: Always apply the K.I.S.S. rule.
What on Earth is the K.I.S.S Rule ? Keep It Simple and Stupid.
We would not be thorough if we did not bring this perpetual ill-fated strategy: Trade on Upcoming News.
Yeah, this one is very popular among beginners.
Example: Company”XYZ” will be announcing results of a trial if in bio pharma or monthly numbers on production.
And 99% of the time, this equates buying calls for would be traders.
The only worst strategy than the one above is Trading based on stocktwits Comments by other who do not know much or on the sentiment of the followers of a given stock.
I have actually witnessed a few instances where the sentiment on a given day led to a positive trade but in the long run, that is certainly not an indicator for a suitable methodology.
What Should You Look For In Options Trading ?
An easy to avoid mistake in option trading is not to trade illiquid options.
This means that strike prices where there are not enough participants.
You should avoid these at all time because their spreads (difference between the Bid and The Ask) are too wide.
You will get this indication from the option chain under the Open Interest metric.
The rule of thumb is that the Open Interest should be at least 400 to warrant you opening that position.
Gambling on Earnings
We have stressed about the Safest way of Trading Options on Earnings.
This is mainly because Market Makers will manipulate Implied Volatility around Earnings in their favor.
Not withstanding the fact that there is no telling how the market reacts to an Earnings may it be a beat or a miss !
If I had a dollar for every trader who complains on Stocktwits why a stock is dropping after an Earnings beat, I would be very rich man by now:-)
Yet, they continue to gamble on Earnings hoping to a different outcome.
Isn’t that the very definition of Foolishness ?
Other Myth Blunders About Options Trading
Blink twice if you have done this one at least once in your trading Life 🙂
This is a mental bondage us traders need to get outside of.
When a position is going the opposite direction from our initial assessment, the wise thing is NOT to average down.
We should be cutting our losses and taking the trade in the right direction.
But instead, we tend to stay longer in a losing position than a winning one !
Refusing to Hedge
By experience, this common mistake in Options trading has to do with our ego.
We want to be right.
I convinced myself a few years back that I would rather be wrong every time and making money than being right.
So, my advice to you is to Learn To Hedge.
The professional do it all the time.
The consequence of these above two mistakes is finding yourself over leveraged in a losing position.
They rarely come back in your favor.
Our solution here is to know to and respect your exit criteria when the position does not work out.
At least with the saved capital, you will live to come back and fight again the next day.
How To Avoid Loss in Options Trading
I have had to answer this question a lot.
Especially, since coaching a group of beginners traders through our Successful Trading Services.
To be blunt, there is no avoiding loss in options Trading.
The smart traders are the ones who master the art of minimizing their losses. End of Story.
How do they do it ?
They remove any emotion out of their trades.
It is purely a binary process.
If this happens, I do that. If not, I do something else.
Last but not least, you should never Ignore What the Market is Telling You.
Time after time, I see traders trying to interpret a clear message from the market to rationalize staying in a position.
Guess what ?
The majority of the time, they end up losing.
It is Difficult To Trade Options Without A Sound Discipline
As a beginner option trader, you will quickly learn than half of the battle is getting a good entry.
Because A bad entry can put you in an emotional hole for the rest of the trade.
The common mistake here is to chase the price for fear of missing out on a run.
Solution: Be Patient because even when going up or down, stocks teds to retrace so you will more that often have an opportunity to enter positions at the right price.
Falling Victim to Sideways Action In the Week
This one occurs when a trader buys Expensive Options on Mondays/Tuesdays while markets is going sideways.
Because Options depreciate with Theta as time goes by, it is very important to pick the right time for entry on most swing trades.
Our Remedy: We recommend Scaled Entries using limit buy orders.
We share in our videos how we track the chart of the option itself more than the chart of the underlying stock.
Did You Plan Where To Exit Your Trade ?
Finally, in any option strategy, you must know your Exit Criteria.
You must have one when Losing for obvious reasons.
But more importantly maybe, there is also a need for one when in a winning trade.
There is nothing more frustrating to traders than leaving money on the table.
This occurs when a trader closes a position too early (in retrospect of course) and the said position give 2 or 3 ties more gains.
Our Solution: Use scaled exit Technique.
Let’s say you have three contracts in a winning trade.
The moment the profit per contract reaches 200%, selling one of the contract guarantees that the trade will at finish even.
Of course, you can start selling 1 contract earlier maybe at 100% return and or something in between 100% and 200%.
The goal is to let at least one runner see how far the trade will go.
All of this is assuming there enough time left before the Expiration of the said contracts of course.
We provided a detailed analysis of the most common mistakes in Options Tradings.
Our hope is that you can quickly learn to avoid many of these by applying our recommended solutions and tips.
TBP || Becoming A Successful Stocks and Options Trader