Page 421 - How to Make Money in Stocks Trilogy

Money Management 291

Many amateur option traders constantly place price limits on their
orders. Once they get into the habit of placing limits, they are forever
changing their price restraints as prices edge away from their limits. It is dif-
ficult to maintain sound judgment and perspective when you are worrying
about changing your limits. In the end, you’ll get some executions after
tremendous excess effort and frustration.
When you finally pick the big winner for the year, the one that will triple
in price, you’ll lose out because you placed your order with a ¼-point limit
below the actual market price. You never make big money in the stock mar-
ket by eighths and quarters.
You could also lose your shirt if your security is in trouble and you fail to
sell and get out because you put a price limit on your sell order. Your objec-
tive is to be right on the big moves, not on the minor fluctuations.
Short-Term Options Are More Risky
If you buy options, you’re better off with longer time periods, say, six
months or so. This will minimize the chance your option will run out of time
before your stock has had a chance to perform. Now that I’ve told you this,
what do you think most investors do? Of course, they buy shorter-term
option—30 to 90 days—because these options are cheaper and move faster
in both directions, up and down!
The problem with short-term options is that you could be right on your
stock, but the general market may slip into an intermediate correction, with
the result that all stocks are down at the end of the short time period. You
will then lose on all your options because of the general market. This is also
why you should spread your option buying and option expiration dates over
several different months.

Keep Option Trading Simple
One thing to keep in mind is that you should always keep your investments
as simple as possible. Don’t let someone talk you into speculating in such
seemingly sophisticated packages as strips, straddles, and spreads.
A strip is a form of conventional option that couples one call and two puts
on the same security at the same exercise price with the same expiration
date. The premium is less than it would be if the options were purchased
separately.
A straddle can be either long or short. A long straddle is a long call and a long
put on the same underlying security at the same exercise price and with the
same expiration month. A short straddle is a short call and a short put on the
same security at the same exercise price and with the same expiration month.
A spread is a purchase and sale of options with the same expiration dates.