The overall goal of our trading strategies is to maintain a 3 to 1 or higher Profit to Loss Ratio. The Profit to Loss Ratio is calculated by dividing your profits by your losses and is a good overall measure of risk.
To achieve at least a 3 to 1 profit to loss ratio you must practice sound money management by closing out your losing trades before they develop into large losses and by not limiting your profits by selling winning trades with a small profit.
Most traders do just the opposite and take a quick profit as soon as possible and hang on to losing trades. This results in a portfolio with limited upside profit potential and unlimited downside profit potential.
Listed below are the six ETF option money management rules we utilize after establishing an ETF option trade:
Exit losing trades quickly
Don't exit winning trades with a small gain
Use options to protect profits with winning trades
Roll over expiring options to reduce cost basis and risk of new option and compound returns
Limit the size of your trades to 10% or less of your total portfolio if possible thereby mitigating losses if you incur a big loss with one of your trade
Trade using several different types of strategies for diversification
Learn how to manage portfolio risk, protect profits and compound your returns with these money management principles we use daily.
Trading Married Puts
As stock traders we are always excited when our trading system or program produces a winning trade. But this poses a dilemma. Do you hold a winning stock trade for further upside profit potential or do you take profits in case the stock declines in price with the possibility of a profitable trade turning into a loss?
It’s human nature to want to take profits quickly when we have a profit in a trade. We have closed out winning trades only to see the underlying stock continue to rally knowing that we left profits on the table. Many times, the stock you own will have a sustained rally producing substantial profits for your stock trade way beyond your expectations.
We normally will exit a stock trade when we incur a 7 to 10% loss before it develops into a large loss. And when we have a 15 to 20% profit in a stock we normally purchase a put option to protect those profits. This allows us to follow our second trade management rule of not exiting winning trades with a small gain. Purchasing a put option does not limit the upside profit potential of our stock trade if the stock continues to rally.
In this video we will look at actual trade examples with guaranteed profits for our stock trades using our third trade management rule.