I have been blessed in that I have worked for and had clients who were Billionaires. But there is one Billionaire I met during my hedge fund days that I will never forget, because he was one of the best options traders I have ever seen.
He had a 5 Step system for trading options that I use for my all my options trading today. This means you only buy an option when there is an event that will dramatically move the price of the stock up or down.
These events or catalysts can be anything from: The key is to buy the option before this event occurs, you never ever want to buy an option after the catalyst or event. So in summary only buy an option when there is catalyst or event that will dramatically alter the price of the stock. An easy example of this is Earnings, you only want to buy an option that expires more than a week after the earnings date. Again this means when you buy an option make sure you leave yourself enough time so that your option does not expire before the catalyst or event occurs.
But if its a high priced stock, I will only buy the option it gives me at least 25 times leverage or more on the stock. Meaning divide the price of the stock by the actual option price. This means you want to buy options on stocks that have moved sideways of flat for months at a time.
Look at a chart if there has not been a significant uptrend or downtrend in the last 3 to 4 months, there is a good chance that the volatility in the stock is low and the options are cheap. Also if you have options software, you can compare the stock and its options implied volatility and underlying volatility to its historical implied and underlying volatility.
This may sound confusing but its the same premise value investors use, they buy stocks when they are cheap in comparison to what they historically sold for, so you want to buy options when the volatility is low or lower than what it historically has sold for.
This is very important, too many people buy options with no exit plan or profit target. You have to set a goal or sell point when you buy an option and to make it worthwhile from a risk reward standpoint. Simply stated only buy an option when you have at least a 2 to 1 reward to risk scenario.
Now I will give you a real life example of an options trade I just made, where I only followed 2 of the 5 steps and it cost me dearly on my trade. The option was very cheap I paid. I thought initially it would drop because the Job Numbers that were released 2 weeks ago would be strong and therefore would cause Silver to sell off.
So I learned first hand how much it can cost you by not following each and every one of the 5 rules above. So my lesson to you is not only are these 5 Rules for Trading Options important, but even more important is that you make sure before you buy an option that you have followed each and every one of the 5 rules I stated above.
Meaning do not buy an option unless it meets each and every one of the 5 rules. To make it easy for yourself print out these rules and then before you trade an option make sure that you can check off each rule before you buy the option.
If you do this I promise that not only will you greatly improve the success of your options trading but you will make a lot of money in the process as well. A Billionaires 5 Rules for Options Trading.More...