As long-time readers know, I’m a rule-based trader. I don’t put money at risk unless I have rules for constructing, rules for when to enter a position, and rules for when to exit. Back when I was new to trading, I kept losing money. I finally figured out that it was because I trading emotionally, based on hopes and fears.

Hope and fear, I concluded, are obstacles to be overcome if I hope to be a successful trader. My rule-based system is the best tool I’ve found to erase emotion from my trading decisions.

My present rule sets are in the Trading Rules pulldown on the menu bar at the top of each post. Today, for the first time in a few years, i’ve made a change, updating my rules for trading long options.

An options trader must make a fundamental choice before considering a trade: Long or short. Buy the options and sell them upon exit, or sell them and buy them back upon exit.

Each type has its pluses and minuses.

Short options: On the plus side, short options avoid time decay, wherein a position loses value with the passage of time. However, they require a high implied volatility rate, which can make it hard to find good trades. On the downside, short options, like any short trade, require that the trade have sufficient funds in the account — margin — to buy back the position in case it is unprofitable. And they tend to have a greater risk than the reward, a major downside for me. These positions are managed 20 days after entry.

Long options. On the plus side, there’s no margin requirement and no volatility rate restrictions. On the downside, time decay is a problem. In my revised rules, I’ve managed that by buy options that are far out of the money and that a far from expiration. And best of all, the reward is greater than the risk. These positions are managed 10 days after entry, and I may change that.

As always, I’ve found, trading goes best when I use a variety of strategies. I anticipate bringing this revised strategy into the mix as the market’s long-running upward correction ends and a downtrend begins.

Here are the revised rules:

Long Options

• Upon receipt of a buy signal, a long call or long put position should be entered no fewer than 70 days prior to the position’s last day of trading.
  • The closer to the last day of trading an option is, the cheaper the option’s price will be.
• The option traded should be out of the money with a strike price as close possible to 70% of the current market price.
• The option must be sold upon receipt of an exit signal or upon reaching the goal set upon entry into the position.
• A position must be managed no fewer than 40 days prior to the contract’s last day of trading.
  • Management consists of exiting the trade, whether it produces a profit or a loss.
  • If the stock is expected to continue to moving in a profitable direction for the option, then the position can be reestablished with a later expiration date.

By Tim Bovee, Portland, Oregon, July 16, 2023

Disclaimer

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.

No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decisions for his or her own account, and take responsibility for the consequences.

License

All content on Tim Bovee, Private Trader by Timothy K. Bovee is licensed under a Creative Commons Attribution-ShareAlike 4.0 International License.

Based on a work at www.timbovee.com.