Dear Reader,
The average retail investor’s portfolio has lost 44% of its value as of mid-October.
While I have long-term investments, I am devoted to actively trading in my accounts to avoid these types of portfolio losses.
When the market steals 44% of a portfolio’s value, then just know that the market needs an even greater rise in order to recover those losses.
That’s why it’s important to me to fight back with a variety of trading strategies.
I’m talking about utilizing call and put options in a trading account, which can build portfolio values and recover losses faster.
Portfolio losses can take years to recover.
There are times when market corrections are short-lived, like the one we experienced in December, 2015. The market fell nearly 12%, but it had fully recovered by April.
Our bigger concerns are times like we’re experiencing now. We’ve witnessed a downward trajectory in the market since January, and with all the turmoil in our economy, it’s not over yet.
This is where diversifying a portfolio with strategic option trades comes into play – by simply applying basic call and put option contracts.
We can look back over 90 years with periods of market declines to see how much the market improves over the course of one-, three- and five-year periods after the decline – see the chart below.
As the returns over the one-, three- and five-year periods are annualized, we see only a 9.61% average recovery amount over the total period.
Well, as you know, whatever the inflicted loss any portfolio might incur, the market must work even harder to recuperate those losses. If the market fell 44% and stole the same from a $100,000 portfolio, the market must then rise nearly 80% in order for the account to get back to its original $100K value.
This impact reminds me of The Great Recession of 2008 where it took 17 months for the market to find a bottom – followed by four solid years for the S&P 500 get back to its highs.
Listen, we’ve been in a long-term downtrend. And it’s not going to let up anytime soon. War, supply chain crunches, energy crises, geopolitical strife, and more are crushing us. It’ll be a while before we find a bottom.
And if you’re one of the millions of concerned Americans right now, I don’t blame you.
Let me share some strategies with you that can not only help recover portfolio losses quicker, but can also just simply be used in small trading accounts as a way to capture profits in a turbulent market.
Call and put options are designed to help capture profits in shorter time periods.
Options are contracts that allow investors to buy and sell shares of a security at a fixed price, by a fixed date. Traders, however, will buy call or put options and wait for the option contract to change in value in the short term, and then simply sell it back – reaping the reward when they can.
These call and put options are considered leveraged trading products – meaning the stock may increase or decrease by, say, 1%, but the option may increase in its value by 10% over the same time period.
Since cofounding the option’s training company, Optionetics, I have taught tens of thousands of traders looking for an edge in trading.
Because there are countless ways to strategically utilize option strategies, I’ll just focus on the basics of calls and puts for now.
The call option:
The call option is a simple contract that gives the buyer a right to acquire shares of stock at a guaranteed price. Typically, a short-term option trader will buy the contract, and then once it has increased in value, sell it back to reap the reward, using the leverage associated with options.
Now keep in mind, as I’ve told thousands of option students in the past, that the leverage associated with option trading is a double-edged sword – what works well in your favor can work against you the same.
So, to give you a little perspective on how a call option can help bolster portfolio profits, let’s take an at-the-money call option on the SPY for example.
It’s not unreasonable for a 30-day call option to increase by 20% as the SPY increases by only 2% over seven days. To keep it simple, if the call cost you $100 for the trade, in a seven-day period it would be worth $120 – a 20% return in a week with a meager 2% change in the underlying security.
Just this month, the SPY had an 8% gain in just nine days…
This means for every $100 in your trade, you would have profited $164 – a 164% return.
So, when you’re bullish, a call option can be a viable trading strategy.
The put option:
Like call options, puts are leveraged, but they can be utilized when you think the security will fall in value. The steeper the decline in value of the underlying security, the more profit potential puts can offer you.
You’ll find institutions utilizing put options to protect their investments from declining market conditions. Additionally, the put option gives the buyer a right to sell shares of the stock at a fixed price.
So, not only can put traders buy and sell put contracts to reap profits, but stock investors can use the put option as a means of selling shares at a fixed price.
This means if I bought company ACDC for $40.00 per share, I can buy a $35 put option, which allows me to sell my shares at $35, regardless of how drastic ACDC falls in value.
Well, not only do I trade call and put options, but I also combine the two to create an option “Straddle” trade.
Combining calls and puts
I mentioned above that it can takes months, and even years, for the market to decline, find its floor and then recover – and I’m not interested in watching it all unfold without doing something about it.
I have found opportunities to trade options throughout the year, every year and in every market environment.
The opportunity I’m speaking of is trading options during corporate earnings season.
During earnings season, traders will use options to speculate on potential huge moves as companies report, and the volatility in stocks can skyrocket during this time.
So, I’ve been using my proprietary software which uses brute-force algorithms specifically designed to identify companies where implied volatility surges make it possible to achieve double and even triple digit returns in a matter of days – not months and not years.
The reason I use a combination of calls and puts – the Straddle – is because I don’t have to worry if the stock’s price goes up or down. As long as it moves in either direction and option implied volatility increases, I can capture profits from earnings trading.
You see, there are plenty of opportunities to capture profits throughout the year by using options.
Whether the market is rising or falling, we can use options for short-term profiting – a great way to build up small accounts and to recover portfolio losses quicker.
It’s how I proactively manage my portfolio through the good times and the bad.
Until next time,
Tom Gentile
America’s #1 Pattern Trader
Join Tom each Monday through Wednesday at 12:00 p.m. ET as he discusses a range of strategies to make money in a strained market environment.
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