The fine line between greed and risk

The hardest part of a stock market trade is probably when you first enter the position. Whether a hot tip, technical breakout, or just some news that recently aired – we all want the company share price to go up in value. Because of this euphoria and emotion, in my experience, the toughest part of any of my trades has always been when I first enter the position.

We all want the good times to continue, but when we enter the trade what usually happens?

The share price doesn’t go up, but rather … stalls or even goes down (gasp!).

Excruciatingly disappointing.

If the stock price starts falling, we are already in trouble. Even worse, if you are an option trader, like I am, even if the stock doesn’t go down but instead stalls/goes sideways –we also lose due to time decay on the option premium.

This tells me one thing, the entry of any trade is the most important. Rather than making castles in the sky of future profits, we really need to be more realistic in terms of how much we are willing to lose should the trade begin to turn sour (which it often does).

I’ve been spending a lot of time learning about risk management, and how to reduce my exposure to the markets until probabilities are in my favor. With options, you can do this by:

• 1. Selling options – and getting some of that premium money which will cushion us against price fluctuations or times of price stalling.
• 2. A better but a more advanced technique is by employing specific technical strategies. Even if we are bullish on a particular stock, but find that the stock is stuck in a trending range, we can convert our bullish position into a temporary bearish one via a call spread – which will allow us to pay down our costs of the initial investment that we made.

There’s a lot to do.

Kunal