Trading options offers a lot of flexibility. You have the ability to make money in up down and even sideways markets. Option trading also affords you the ability to not have to sit in front of your computer screen watching the markets tick for tick.
Managing your portfolio is not as straightforward as managing a portfolio of stocks though. With a stock, it’s pretty easy. You buy stock XYZ at $100 and place your exit price and your protective stocks wherever your risk tolerance guides you. Let’s say that you are willing to stop yourself out at a 10% loss and will exit at a 20% gain for an example. So that is easy, you put your exit out there at $120 and stop yourself out at $90.
Now you can get yourself out on the golf course where you belong! But what if you are carrying an options position? Let’s say that you have the same type of trade where you are directionally long an options spread and want to exit at the same price points as we highlighted above with the underlying stock. Your options position will most likely not move one to one with the stock. Realizing that there are a lot of moving parts to an options position (theta, vega, gamma), let’s assume those to be constant as we are not trying to model an exit days away. S
So we are left with dealing with delta. Delta is the change in an option’s (or option spread’s) for a one dollar move in the underlying. If your option has a delta of 0.20, then for each $1.00 move in the underlying, your spread will move $0.20. If you wanted to exit your option position when the underlying stock got to $120.00 you can have a theoretical option price. You take the difference in price (120-100) or $20.00. You then take that and multiply that figure by your delta. $20*0.20 = 4. So, theoretically you spread would be worth $4 more than it is presently. You can then perform the same operation to compute your stop price. It’s not a perfect approach, but one that you can use to unchain yourself from the trading platform.
