Winning Options Strategies

Note: this article on Winning Option Trades was adapted from a 2012 issue of the Weekly Compounder, my free weekly letter that includes the best tips, resources, and ideas I come across each week.

If you've subscribed to The Weekly Compounder for any length of time, then you know that I include at the end of the letter a quick summary of my own personal trades that were closed from the previous week.

And I also list the accumulated total option income I book for each month.

Now what you don't ever seem to see are either losing months or losing trades. All you ever see are winning option trades.

And that can only mean one of two things - either there aren't any losing trades, or I just don't share them with you.

Dissecting My Personal Option Trades

It's true that I don't share the nitty-gritty details, comprehensive analysis, or all the factors involved in my decision making process of each trade with you (although I do, in fact, do this every week for the official Leveraged Investing community), but I'm definitely not cherry picking examples here at all.

The fact is I have had just one booked loss this year (2012) - which occurred back in March in the amount of $47.30 on a WM trade I strategically chose to close early in order to free up capital for a series of AAPL trades on which I ended up booking $1955.31 in income for that month.

And the only booked trading loss in 2011 was in October when I truly had my ass handed to me - and deservedly so since I failed to follow my own advice and entered into a series of speculative trades on SHLD with no structural advantages and that didn't align with my own personality (lol - the 100% opposite of what I advocate in my Leveraged Investing approach).

So What's the Catch?

So what's going on here? How can I consistently be profitable like this? How can I have some many winning option trades? Have I discovered some way to tell the future?

On the contrary, my trades go against me all the time (believe me, I wish they wouldn't).

But they have very real structural advantages written into them, I only employ them on companies that I am 100% confident aren't going away, and when the trades do move against me, I don't panic.

For example, I wrote 5 $40 puts against JPM back on May 4th (meaning I was insuring or theoretically offering to buy 500 shares of JPM @ $40/share).

Literally one week later, the bank announced a multi-billion dollar trading loss (on a single trade) and the shares tanked around 25% in the following days and weeks (both from the hit to earnings as well as fear of a more aggressive regulatory environment).

The Key to Winning Option Strategies - Don't Panic!

Instead of panicking and booking a loss, I kept rolling the trade out, and even expanded it, so I was able to both maintain net premium credits with each roll (buying back the front month puts for one amount and selling future month puts for a higher amount) as well as eventually lower the strike price down to the $38 level.

I also later entered into some call calendar spread trades on JPM.

All told, it was a 133 day roller coaster. The stock began in the low $40s, bottomed out in the low $30s and then eventually climbed back to where they first began. I should be lucky just to break even, right?

In actuality, over those 133 days, I booked more than $1750 in accumulated option income on a trade that totally went against me.

If I had to be right all the time in order to make money trading options . . . lol - I'd still be slaving away in a cubicle somewhere cursing my corporate masters and begging the sky at night for a way out.

Being Underwater on an Options Trade Doesn't Necessarily Mean You're Drowning . . . or Losing

OK - a couple of important points.

The first point is that, yes, a trade can go against me and it will produce a "booked loss" if I choose to simply close it out.

For example, let's say I receive $100 for writing an option, then the trade goes against me, and it would now cost me $200 to buy back the option. Obviously not good.

But wait a minute - what happens if I buy it back for $200 and then find out that I can re-write or re-sell it at a future expiration date and receive $250 for it?

Because I roll the cost of closing out the old option into the proceeds of selling or writing the new option, as long as I can generate a net credit on the roll, I'm still making money and adding to my accumulated net option income (in this example I received an initial payment of $100 and then I received an additional $50 based on the net credit produced by the roll).

It's obviously more involved than that, and there are other factors involved (I'm probably also going to want to try to adjust the strike price on the future trades to my advantage), but the point is that just because a trade is "underwater" doesn't mean I can't continue booking and accumulating additional option income on it.

You Still Need to be Careful

Now I don't want to come across as frivolous or glib here. Because here's the second point - this only works when I'm confident that the underlying shares will either "come back" to that original option strike price, or that it will eventually reach a strike price that I've been able to "adjust" to or towards.

Be careful - if you stick with a trade on a company with a broken business model, or you try this with a wildly overvalued stock, then you're probably going to end up losing big time.

Finally, this may all seem kind of abstract. But that's why I document my own personal trades in great detail each week - so you can see not only that Leveraged Investing works, but even more importantly, WHY it works.

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