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Comfort Zone
Aug 18, 2010

Comfort Zone

Here’s part of my investment philosophy:

When initiating a new position most investors recognize the importance of placing a trade they believe will produce a profit. When you are satisfied with both the reward potential and possible loss for a given position, then you are within your comfort zone.

It's important to remain within your comfort one as the trade progresses.  This is a point many traders miss. They believe: if the position is acceptable when opened, it's okay to wait for the options to expire. When the position becomes riskier and losses begin to accumulate, the position may have moved beyond your comfort zone boundaries.  If that happens, reduce size, exit, or otherwise adjust the position.

This can happen when:

  • The spread becomes very profitable and there is little potential profit remaining.  When holding the position until expiration can only earn a small additional profit, the reward potential is too small to take the risk of holding.
  • The underlying stock makes an unfavorable move and the position is in danger of incurring a substantial loss. When that potential loss is more than you can afford (or are willing) to lose, then holding and hoping is not a wise way to play.  Cut risk to get back within the zone.

Comfort zone boundaries should be flexible as you gain experience. Flexible does not mean 'anything goes.' For example, bullish strategies such as writing covered calls may make you uncomfortable (for good reason) when the market is bearish and you may prefer to trade a strategy that is more market neutral. Thus, it’s a good idea to be aware of alternative strategies, even with no immediate intention of using any of them. They become part of your arsenal of useful trading tools.

Mark D Wolfinger

Expiring Monthly: The Option Traders Journal
http://www.expiringmonthly.com/