I get a lot of letters and emails from Power Profit Trades readers, and I try to answer as many of them as possible.
Recently I fielded one from a reader who, after raking in a 50% gain in Apple Corp., asked about suggestions on how to cut short any potential losses.
Today I’m going to take a few minutes to talk about a subject near and dear to my heart: how we can make even more money while cutting back on our risks.
Before I start, let’s get to the question that came in from “Linda” just a few short weeks ago.
“Tom, I love your reviews and explanations of these options. I’ve learned, however, because of past “bad advice,” to be a little more conservative than most, as I try to rebuild my portfolio. When I reached 50% (profit) in your AAPL trade I was very happy to “take the money and run.” I’m just wondering if you would recommend a percentage point at which you might cut your losses on these trades rather than losing the entire premium spent on the option(s)?”
First of all Linda, I thank you for your letter. I am so happy that you’re learning from me!
One of the strategies I plan on teaching you and others in the coming weeks is to trade like a chess player. The key component of a good chess player is always thinking two to three moves ahead of the game.
Now let’s put this into perspective when it comes to my trading strategies:
When I place a trade, here is the first thing I ask myself: “What if I am Wrong?”
I’ve got some incredible tools at my disposal, but they aren’t 100% right all the time.
So to help protect myself, I will do one of two things: either draw a support or resistance line on the stock I am trading options on and use that as a stopping point, or I may just simply cut my losses if the option I am buying drops by 50%.
There’s no use in letting it all get away from me, right?
The second question I ask myself is just as important: “What if I am Right?”
This is important because taking profits is just as crucial to success as taking losses. Many times in the past, I simply let profits turn to losses because I didn’t have a plan on when to get out.
So kudos to you for taking that profit!
My strategy of thinking ahead like a chess player comes down to an easy three-step process that breaks down as follows:
- TAKE HALF – I love doubles, so therefore my rule of thumb is that if a trade doubles in value before my time is up, I take half of the position off. The rest of it I consider a free trade, as I am using someone else’s money now.
- TAKE ALL – I will take all or the remainder of the profits if my trade hits the stock target I am looking for.
- TIME’S UP – At this point, my time is up on the trade (as it will expire), and if I still have the position on, win or lose, I take it off no matter what, and put that money to use somewhere else.
I hope this advice helps not only Linda, but everyone else reading Power Profit Trades. Remember, my job here is to educate you so you can do this easily yourself, and create your own opinion and trading plan to back it up.
Until next time,
America’s #1 Trader