3 Myths About Risk
Any trader wants to find ways to lower risk and increase reward. A risk free trade is probably a holy grail that some traders aspire to attain but there are myths about risk that you should be aware of. Don’t get trapped by these ‘myths’ about trading risk…
1. Probability isn’t important
Don’t be fooled by trades that seem like there are just to good to be true… or anyone claiming to have a 100% trade set up.
Traders can find some benefit in understanding the probability in trades, but high probability has to be matched with rewards that are still going to overcome any losses. A high probability chance of success is important but matched with a good balance of price. For example selling a put for $0.05 or buying deep in the money call for $50.00, have high probability of success but do not balance price vs. reward very well. Whether you are buying or selling understanding the probability of success of the trade is important if you want to stack the odds of success in your favor. Ensure there are many pieces of evidence to support the success of the trade before you enter it and most importantly, weigh the probability of success to keep the odds of a winning trade in your favor.
2. Trading long term gives you a better chance of success
Yes monthly options can produce results, and yes shorter term trading also is successful. But when options are thrown in to the mix, buying an option that has more time can sometimes mean that you are giving yourself more time for the trade to work against you. Buying options with a certain amount of time to expiry can help, but too much time is just throwing away money in my opinion. Instead, focus on refining the timing of your entry, be patient and wait for trades to come to you rather than chase the trade. The beauty of the market is that there are always several opportunities to enter a trade, prices will often return to their mean, so make sure you are patient enough to wait for those opportunities to place your trade.
The same is true for options strategies that are focused on selling or collecting premium. Premium decay will accelerate as the option nears its expiry, so, sitting in trades where you expect the option to value to disappear with months to expiry actually works against the seller.
3. A cheaper stock means less risk
Sure when you buy an at the money option in a stock that is trading at $9.00 like JCP, will be far less expensive to by a call versus a an option in a stock like AAPL trading at $141.00. On the surface the JCP call might seem less risky since the call costs much less, but when we look deeper at the historical averages of price and compare both stocks, we can see that AAPL actually has a much faster opportunity for the trade to move in the direction we want it to. A call buyer of JCP might be sitting in a trade that isn’t actually moving, while the AAPL buyer may be in and out of the trade hitting a profit target. Cheaper stocks may not actually move as much as a trader hopes, always look at the historical averages to determine whether one call is really worth the money. A cheaper stock may not actually move the way you want it to, don’t be afraid of stocks that move…after all…if you are buying a call that is exactly what you want it to do.
And the riskiest of all? Trading without a mentor. A good trading mentor can reap many rewards, sign up at www.shecantrade.com/membership today!
Return to Blogs