Options trading can be a smart way to take advantage of the stock market’s price action, as it offers a cheaper way to go long or short on stocks while limiting your downside risk.
But invest in options without a game plan, and you may end up losing a significant amount of money before you even have time to blink.
We often get asked what separates successful and unsuccessful options traders. And in our humble opinion, it comes down to knowing how to manage your profits.
You see, most people spend a lot of time determining when they should get into their positions. But figuring out when to exit those trades is just as important — regardless of whether or not they’re going in your favor.
This seems obvious when a trade suddenly moves against you, but it becomes more difficult to remember when you’re sitting on a huge gain.
This psychological dilemma is often referred to as FOMO, or the “fear of missing out.”
It’s completely natural to look at a stock and go, “But couldn’t it run just a little bit higher from here?” And theoretically, it could.
But the stock could also fall the next day, wiping out all of the gains you were sitting on just the day before. Sometimes, you’ll end up losing all of your money on a trade that, at one point, was up 100% or more.
And sure, you’ll read stories online of people buying out-of-the-money calls for $1,000, which magically turned into a million dollars. But the odds of that happening are few and far between — and it’s not how you want to play the long game.
Instead, learn how to manage your profits so that you can consistently stack the odds of winning in your favor.
And remember that paper gains aren’t real gains. Even if you’re sitting on a 200% winner in your portfolio, that trade doesn’t mean anything if you don’t cash out of your position and take money off the table.
That’s why it’s better to take your profits when you have them instead of letting them ride out and potentially expire worthless.
You also don’t have time on your side when you invest in short-term options trades. You’re playing for a fast move, so when they happen, you want to get out of them just as quickly.
And if prices go higher, they go higher.
If you’re convinced that a stock still has room to run — or that it still has room to fall — you can always close out of that position and roll those gains into a new trade that takes advantage of that price move.
So, the next time you’re sitting on a big gain, remember: Greed is good, but gambling is foolish. Don’t gamble the returns you’re sitting on today for the possibility of more tomorrow.
Instead, take risk off the table and stop making excuses to stay in the position.
Your portfolio — and your wallet — will thank you for it later.
Until next time,
The Future of Wealth