Stock Options and Risk Management

Stock options allow you to make huge returns in the market. When they are winning it is easy to get carried away with them and risk too much, but if you are going to survive as a trader you must make risk management your number 1 concern.

So how do you manage your risk with options, especially considering when you buy options you can already lose 100% of your investment?  Here two different things you can do to help manage your risk when dealing with options.

1.       Use small positions

The first thing you can do is to use smaller positions.  If you have $10,000 and put $10,000 into an option trade that is foolish.  Sure if you are right on that 1 trade you could double or triple your account, but if you are wrong you risk the whole account.

Over positioning yourself with options is a great way to go broke in the long term.  Unless you want to lose all of your money trading smaller positions is the way to go.  If you had an account and only put $500-$200 into any 1 trade well those trades would not exactly bankrupt you if you where wrong a few times.

2.       Putting Stop Orders on Options

Another thing you can do is to put stop orders on your options.  Instead of buying an option and risking 100% of that investment, you could always buy an option and place a stop if you lose 50% or so of the option.

This way you would at least walk away with some money if you are wrong, even if it is less then what you started with.

 Remember buy and hold does not work with options.  Options will eventually expire after a relatively short period of time.  If you want to make money with them it has to be in the short term.

For more on options visit http://www.stocks-simplified.com/stock_options.html