Why Do Most People Lose Money Trading Options?
You can achieve outstanding results by option trading if you are using a disciplined approach. There can be lots of good reasons why do most people lose money trading options.
According to the statistics, only 10% of the option traders are successful. Trading is a skill that everyone can learn. Take your time to learn the trading options, and you will surely be in the top 10% successful people.
You can become a successful options trader with dedication and patience. So, in this article, you will find out the mistakes that option traders make and end up losing money.
7 Reasons Why Do Most People Lose Money Trading Options?
There are seven common reasons why do most people lose money trading options?
The #1 reason is that people traded a large position compared to their portfolio.
You never want to put yourself in such a position where you can lose all your money in one trade. When traders see that they can make $50 in one contract, it means they can make $1000 trading 20 contracts. It’s the right approach, but imagine if the particular trade loses, you are out of the business.
It is not as simple as most people think to make more money by increasing their position size. it is untrue because
- Your order is harder to fill and usually more expensive to fill; and
- When you want to gain massive profits, you will have to make emotional decisions. Such decisions can lead you to failure.
Options trading is all about keeping your doors open for the next day. Trading too big directly means you are shutting the door.
This reason has some association with trading too big. When you are not trading frequently, it increases the chance of your failure.
Options trading is more about probabilities. You can only achieve the desired outcome by appearing in many occurrences. It is similar to flip a coin. You may flip coin four times, and all the time, results can be four heads. If you flip it 100 times then the probability of heads is 50%. The same principle is applied to options trading. When you trade big, it means you are flipping a coin only four times. So, the key to success in options trading is, keep your position size small so that you can place hundreds or thousands of trades over time. Trading frequently means you are spreading the risk across multiple trades.
When the traders are new to the stock market, they feel that they can pick the stock direction by using fundamental and technical analysis. But, it is the truth no one ever knows where stock prices will go in the future. You will see the random directions of the stock price.
Those traders who gamble on the direction of the stock price end up losing money. You should understand that options are decaying assets. If you can understand the stock direction correctly, further buying options can reduce your chances of success. Due to the decaying nature of the option’s contract, you can still lose money. So, try to make strategies instead of decisions.
If you are an options trader, implied volatility should be part of your decision-making process. Implied volatility can provide you a big edge in options trading. In a low implied volatility environment, you can sell options at a low price. However, in a high volatility environment, you want to be selling expensive options. In the options trading process, it is crucial to understand the implied volatility environments to protect your money from losing.
It is a common practice that most of the option traders go with the herd. They tend to buy breakouts and sell breakdowns. If the price of the stock is increasing, they will place option strategies, and it can benefit if the prices keep on increasing. If the stock prices start to decrease, they will put option strategies, and they can get benefit if the prices continue to follow the same trend. Almost 90% of the option traders lose money because of going with the herd. You can save money by going in the opposite direction.
This strategy sounds good on paper. However, it rarely happens in reality. To follow this strategy, many emotion-based and subjective decisions are needed.
Options traders are likely to lose money when fear and greed are involved in the trade. So the best way to deal with this strategy is to stay patient with losses and be decisive on when to book your profit.
When you start to trade with high probability options, losing trades can become your winning trades. When you cut your losses short, it means you are cutting your chances of success. These changes can help you to become a winner in the future. So, don’t practice this strategy.
Again, this strategy sounds good until it is on paper. However, when you are looking for unlimited profit, it reduces your probability of success.
If you see profit in all your trades, you can be successful. If you want to be successful in options trading, learn high probability strategies. It simply means you will have to give up unlimited profit potential for the exchange of a high probability of profit. If you can see a profit of 70% of your trades, it means you are successful. However, profit per trade will be lower, but still, you can earn a lot.
So the question was, “Why Do Most People Lose Money Trading Options?” A simple answer to this question is all the reasons mentioned above.
If you follow these common mistakes, you will stop losing money. These tips can put you on the path of success. If you can understand the basics of options trading, you can make lots of money in a short time. In options trading, you can trade at less risk. If you know the basic strategies of options trading, you can be among the top 10% of successful options traders.
Sky Hoon. Read Full Bio
Website Owner, Twitter-er
He has been trading since 2008. He started this blog to share the journey about option trading. He dabbled in stocks, bitcoin, ethereum (in Celsius Network), ETF (lazy Dollar Cost Averaging) and also built websites for fun. He used this as a platform to share my experiences and mistakes in trading, especially options which I just picked up.