At some point, everyone makes mistakes when trading options—even the pros.
However, as long as you’re aware of them, you’re less likely to repeat the same mistake over and over again, ad nauseum.
Error No. 1: Not Having a plan
One of the worst things any trader can do is trade without a plan. Without a plan, there’s no way to account for the following in your trading strategy:
- How much can you afford to risk per trade?
- Where can you find the best trading opportunities?
- When will you enter a trade?
- Do you have an exit strategy, including a stop loss or a trailing stop?
Knowing each of these is essential for success.
Never, ever, ever risk money you cannot afford to lose. Don’t be the trader who thinks Wall Street is a get rich quick slot machine that does nothing but spit out winnings.
Traders have a tendency to want to risk it all, thinking they can do no wrong for a big payout. Don’t get greedy. If you can’t afford to lose $5,000 in a single trade, then why are you doing it? Trade half. Trade a quarter of it. But don’t risk it all.
The market is not a sure thing.
Always make sure you have a complete 360-degree view of what you’re buying before you buy it. Fundamentally, look at what’s under the hood of the company with regards to earnings ratios. Make sure you understand what’s happening in the short- and long-term with support and resistance.
Failure to plan can—and oftentimes will—lead to unnecessary loss.
Make a plan and you’re ahead of the game.
Error No. 2: Trading on emotion
Remove all emotion from your trading.
That doesn’t mean you need ice flowing through your veins; it simply means you need to re-think your strategy. No matter what your emotions say, never allow them to dictate your trading actions.
According to Zeal Intelligence: “The thundering herd is always wrong, as most people are blinded and enslaved by their own emotions. The prudent [investor] actively suppresses his own emotions so he can capitalize on the emotional mistakes of the majority.”
Error No. 3: Buying options because they seem to be cheap
Cheap isn’t always a good thing when it comes to trading options. In fact, oftentimes, the cheaper options are those referred to as “out of the money.” And while it may appear to be a steal, if it doesn’t change to “in the money,” your chances of making money are, well, “out the door.”
If you bought an out-of-the-money call option, for example, you would need a considerable upward move in the stock to make any money from the call option. Let’s say I wanted to make money using an Apple (AAPL) August 20, 2021 160 call option, as the underlying AAPL stock traded at $145. For me to make any real money on this trade, I need the AAPL stock to push $15 higher prior to expiration to make any money.
That’s not to say out-of-the-money options don’t work…they’re just not a great strategy.