How to Handle a Lost Trading Opportunity

A week ago I wrote a column entitled “Sell Today and Go Away“. In it I described my reasoning for taking off my trading positions ahead of a vacation I took at the end of last week. For those keeping score at home, the S&P500 is now roughly 5% higher than it was before I made my unforced trading error. Selling off my trading longs (I didn’t and don’t have any shorts), became what’s called a lost opportunity. My desire to chug a bottle of Hemlock is what’s called trader’s remorse.

Which brings us today’s Purple Crayon Segment: How to Handle a Lost Trading Opportunity. There are three very basic steps:

Step 1: Kick yourself. Seriously. Here’s an example straight from my internal monologue: “You are an idiot. You had money in your hand and you cast it into the wind so you could tan your bald head on some beach. Well done, meathead.”

Step 2: Get over it. Or drink the Hemlock. Living in regret is for chumps.

Step 3: Get back to work with a clear mind.

That’s pretty much it. I’m over the missed trade; it’s time to go back to work.

Wednesday, August 31st, 2011 Education, Evergreen No Comments

Pair Stock With ETF to Capture Yield, Growth

ByRoger Nusbaum, Contributor to TheStreet , On Tuesday August 30, 2011, 9:12 am EDT

NEW YORK (TheStreet) — Dividend investing is becoming increasingly popular as the U.S. equity market continues to log more years without meaningful advancement. Too many people make the mistake of seeking out yield at the expense of price appreciation which is a big mistake. Investors can use both ETFs and individual stocks to construct a narrow-based portfolio that captures both yield and growth potential.

The materials sector is a good place for this exercise as it takes in a lot of themes, brings in a lot of different foreign countries with favorable attributes and has good, long-term prospects behind it — in my opinion that makes it a good sector to add volatility to the portfolio.

The materials sector has a very small weighting in the S&P 500 so it is unlikely that someone would need to pick six different holdings, two could easily do it. There are not a lot of big dividend payers in this sector but there are some.

There is not much yield to be had from any of the broad-sector ETFs. The iShares S&P Global Materials Sector ETF yields about 2.2% but that is only a little more than the S&P 500. As a note, the Materials Sector SPDR shows a trailing yield of 3.7%, however this appears to be skewed by an usually large dividend last September. For a comparison, the very similar iShares DJ US Materials Sector Index Fund yields about 1.5%.

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So the idea is to pair one ETF and one common stock with some yield, such that the combo yields an average that is greater than the market — I think adding 100-150 basis points in yield above that of the SPX can still allow a portfolio to be reasonably diversified and capture some good yield which is very important over the long term.

As alluded to above, in choosing a materials sector ETF, I would want something I felt would capture the global theme, or some relatively important slice of the global theme, and some volatility. One example in a broad-based fund is the EG Shares Emerging Markets Metals and Mining ETF . It is heavy in China, Brazil, South Africa and Russia. The countries are far from one-way trades, but there is a lot happening in the sector with all of these countries. Longer term it would be reasonable to think that if things work out for the materials sector, they would work out for EMT as those four countries continue to be important.

A narrower example could be the Global X Silver Miners ETF . Again just an example, there are many other specialized materials sector ETFs to go with instead of SIL.

The two funds provide valid access to the sector, one way or another, have each done differently over the last 12 months (SIL up a lot and EMT up a little) but neither has paid much of a dividend, 1% give or take. That there is not much yield is not a bad thing if they deliver some magnitude of the growth they have delivered over the past few years. Demand for resources globally and the ongoing infrastructure build out in many countries creates visibility for the sector will continue to provide meaningful price appreciation.

One example of a stock with a yield that could work here is Southern Copper ). The stock has been around for a while and even though there were a couple of small dividends in 2009 the company has proven it is committed to paying a large dividend with the yield currently at 7.7%. The dividend has been lumpy and should continue to be lumpy as the company is obviously beholden to copper prices. Over the last five years the stock is up 107% compared to about 25% for MXI and a decline of 7.5% for the SPX — none of those figures include dividends. The 107% is nice of course but it should be noted that SCCO fell far more than MXI or SPX from the 2007 peak.

The company has generally tracked the price of copper (both are quite volatile) so barring some major management goof it is likely to continue to track the price of copper for better or for worse and while the dividend is not a certainty the company’s track record for this is good.

The idea would not be to blindly buy a couple of things mentioned in an article but to do your own research to seek out what segments, funds and stocks resonate with you. Be careful not to make dividends the top priority as this leads to yield chasing, which often ends very badly. But if handled well, this type of combination can produce a yield far above the broad market.




Wednesday, August 31st, 2011 ETF, Evergreen, Stock Trading No Comments

Turning to Derivatives for Safety?

by Reshma Kapadia
Tuesday, August 30, 2011

Among the many lessons the market has reinforced over the past few years is that a badly shaken nest egg is often a broken nest egg. So it’s no wonder that since 2008, investors have rolled hundreds of billions of dollars into commodities, bonds, smaller stocks, foreign stocks and a slew of other assets in the hopes of minimizing the up-and-down swings of their portfolios.

But guess what — most of these efforts haven’t worked. For about a year, nearly every asset class has been moving in the same direction at the same time; when one thing has moved up, almost everything else has gone up too. And in the spring, when debt worries and data suggesting a slow, sluggish economic recovery sent stocks down, they took nearly everything else with them. Now, with a push from the financial industry, individuals are finding a new way to roll the dice: derivatives. Some of these financial products have gotten some bad press, certainly; a few Byzantine versions of derivatives helped exacerbate the financial crisis. Indeed, Warren Buffett calls some of them “time bombs.” But simple derivatives, known as options, can be a good tool for many investors, experts say. “Used the right way, they can help either protect a portfolio, add extra income or both,” says Nicholas LaVerghetta, a financial planner at NCM Capital Management, in Ramsey, N.J., who has lately boosted his use of options for clients.

In use for decades, options are pieces of paper giving someone the right to buy or sell a stock at a certain price on a certain date. Many professional investors use them either as insurance or, conversely, as a high-risk, potentially high-return way to invest in a particular stock. For all these reasons, options are gaining in popularity. At TD Ameritrade, 26 percent of the trades involve options, up from 19 percent two years ago. Charles Schwab says its options training sessions are regularly filled to capacity, and the firm recently agreed to buy optionsXpress, an online brokerage loved by derivatives traders, for $1 billion. Meanwhile, investors who don’t want to buy options themselves are jumping into mutual funds that use them; funds that use an options-based strategy now have $12 billion in assets, up 40 percent over the past year, according to fund researcher Lipper. More than a third of such funds, in fact, have launched in the past 18 months.

Investors, however, are finding there’s a difference between using options and using them effectively. In fact, a March study coauthored by Gjergji Cici, assistant professor of finance at The College of William & Mary business school, found that options users had an annual average return of two to three percentage points less than nonusers. That’s a big reason many financial advisers stick with simple options strategies aimed at mitigating risk through hedging rather than going for a home-run return. One popular strategy, especially when the market is flat or falling slightly, involves writing covered calls — essentially, selling an option on a stock an investor already owns. Here, the investor sells an option, giving someone else the right to own the stock if it reaches a set higher price by a certain date (usually one or two months in the future). In return, the investor collects a premium. If the stock doesn’t reach the agreed-on price (the “strike price”) by the set date, the investor keeps the stock — as well as the premium. If the stock falls in the interim, the option expires and becomes worthless, but the investor still gets to keep the premium, which offsets some of the stock’s lost value. If the stock soars beyond the strike price, the investor keeps the premium but coughs up the shares, leaving the investor with that modest preset upside and likely some seller’s remorse.

Some mutual funds, such as the Neiman Large Cap Value fund, aim to juice their generated income by selling covered calls on dividend-paying stocks — for example, the fund’s investors collect the dividend and then the extra income from selling the right to own the stock. “It’s mostly for people who don’t want to be all in the stock market but want a bit more return on the stocks they own,” says Samuel Scott, president of Leawood, Kan. based financial-advisory firm Sunrise Advisors, who has started to use the strategy again for clients in the past few months.


For investors who want even more protection, some advisers opt for a “collar.” This more complicated strategy involves selling a covered call and using the proceeds to buy a put — or the right to sell the stock at a set price, usually lower than the amount at which the stock is currently trading. The put is insurance against a market tumble and, advisers say, is best used in a market that occasionally stumbles, not one that soars and collapses. This strategy will cost investors up front since the puts are typically more expensive than calls, says Steve Quirk, senior vice president of TD Ameritrade’s Trader Group. Several funds often use puts or calls on the S&P 500 index to try to minimize losses, but only when the puts are relatively cheap. To be sure, advisers say it could be better just to sell stocks and avoid options entirely if the market gets exceptionally volatile and everyone is scrambling to buy insurance. Nevertheless, some pros say the peace of mind and ability to keep investors in the market is worth the insurance price. “People are more hesitant to buy protection on a $30,000 stock position than a $30,000 car, even though the likelihood of a decline in the market is probably greater than running into a tree,” says Randy Frederick, director of trading and derivatives at Schwab.

Tuesday, August 30th, 2011 Education, Evergreen, Options, Stock Trading No Comments

John Murphy’s Key to Success: Simplicity

by JimWyckoff

“My work has gotten better due to simplifying my approach,” John J. Murphy, the veteran technical analyst, author and CNBC resident technical analyst, told a group of equities and futures traders attending the Technical Analysis Group (TAG) XVIII trading conference sponsored by Dow Jones Telerate in New Orleans.

Murphy said he relies heavily on five or six “useful” technical indicators, including relative strength indicators, trendlines, moving averages, Bollinger bands, classic chart patterns such as triangles and double tops, and Fibonacci retracement levels.”You must trade a combination of technical signals, not just one” indicator, said Murphy. He said that many times he’ll set up a “good” column and a “bad” column regarding technical studies. If the “good” column has the overwhelming evidence supporting a selected trade, Murphy will enter the trade. But if the evidence supporting a trade is not strong enough, he’ll bypass the trade.

Murphy correctly called the topping of the U.S. semiconductor stock index (SOX) during midsummer (of the year this story was written). His reasoning was plain and simple: the SOX uptrend line was broken, followed by a double-top formation. “The first sign of a top is breaking of an uptrend line,” he said.

On moving averages for individual stocks, Murphy likes to use the 50-, 100-, and 200-day moving averages. If the 200-day moving average on an individual stock is broken on the downside, “big trouble” is in store for that stock. Also for stock sectors, he said if a 50-day moving average breaks down, “that sector is in trouble.”

Charting a stock market sector divided by the S&P 500 is a favorite method the veteran technician uses to determine if a given sector is underperforming the broad market. (Examples: SOX index divided by S&P 500 index, or NASDAQ index divided by the S&P 500 index.)

Another good technical indicator is the Moving Average Convergence Divergence (MACD), said Murphy. The MACD uses exponential moving averages, as opposed to the simple moving averages used with an oscillator. Gerald Appel is credited with developing the study.

Longer-term technical signals are more powerful than shorter-term signals, said Murphy. “Longer-term charts give you the value of perspective,” he said.

Many traders consider Murphy’s book, “Technical Analysis of the Futures Markets” to be the bible of technical analysis.Murphy heads his own consulting firm, based in Oradell, N.J.



The Single MOST IMPORTANT Aspect of Futures Trading

by Jim Wyckoff

Okay, traders: Do you know what is the most important aspect of successful futures trading? Is it identifying the trading opportunity? Is it proper entry into the market? Is it the trading “tools” you are using? Is it an exit strategy that is the most important aspect of trading? The answer is: None of the above (although an exit strategy is close).

The most important factor in successful futures trading is money management. One still has to be savvy at chart forecasting and-or fundamental analysis, but it’s the money-management factor that will make or break a futures trader. The huge leverage involved with trading futures absolutely requires pinpoint money managing.

Over the years, I have listened to the best traders in the business talk about what makes them succeed in this challenging arena, and nearly every one emphasizes the importance of sound money management. A few years ago I attended a TAG (Technical Analysis Group) trader’s conference in Las Vegas. One of the featured speakers stressed that becoming a successful futures trader should be more an act of survival in the early going than scoring winning trades.

Surviving in the futures market absolutely requires practicing sound money management. Even a rookie trader who starts out with a hot hand will eventually find that at least some trades are not going to go his way. And if he has not employed good money- management principles on those losing trades, he will likely have squandered his trading profits and his entire trading account.

Conversely, the novice trader who uses good, conservative money management techniques will be able to withstand some losses and be able to trade another day. The ability to take a loss and trade another day is the key to survival–and ultimate success– in the futures trading arena.

Here’s an important point to consider, regarding money management and successful futures trading: Most successful futures traders will tell you that during the span of a year they have more losing trades than winning trades. Then why are they successful? It is because of good money management. Successful traders set tight stops to get out of losing positions quickly; and they let the winners ride out the trend. On the balance sheet, a few bigger winning trades will more than offset the more numerous smaller losers. Good money management allows for that to happen.

“Good money management” is a relative principle. A good money- management practice for one trader might not be a good money- management practice for another. Here’s a real-life example: I had a fellow email me a while back, saying he was up $3,000 in a sugar trade, and that his total trading account was $4,000. Although I don’t provide specific trading advice to individuals, I told the trader that if I had only a $4,000 trading account and had racked up 3 grand in profits on one trade, I would seriously think about ringing the cash register on that trade and building up my account so that I could withstand those drawdowns and losers that will eventually occur.

On the other hand, if a trader with a $30,000 account had a $3,000 winning sugar trade, he may want to let the winner ride a little longer, as pocketing the profit would not nearly double his trading account, as it would the smaller-capitalized trader.

In other words, don’t be a greedy trader. There’s an old trading adage that says there is room for bulls and bears in the marketplace, but pigs get slaughtered.

Let me emphasize here there is nothing wrong with starting out with, or keeping, a smaller-capitalized futures trading account. But I strongly suggest that those smaller accounts use the very strictest of money management.

There are dozens of good futures and stock trading books available, and most spend at least an entire chapter on money management.

Here are just a few very general money-management guidelines:

. For smaller-capitalized traders, don’t commit more than one-third of your trading capital to one trade. For medium- and larger-capitalized traders, you should not commit more than 10% of your capital to one trade. The guideline here is, the larger your trading account, the smaller your commitment should be to one trade. In fact, some trading veterans suggest larger trading accounts should not commit more than 3-5% of their capital to one trade. Smaller-capitalized traders, by necessity, have to commit a larger percentage of their capital to one trade. However, these small-cap traders may want to trade options (buying them, not selling them), as risk is limited to the price paid for the option. Or, smaller-capitalized traders may want to trade on the Mid-American Exchange, a division of the Chicago Board of Trade that has smaller futures contract sizes.

. Use tight protective stops in all your trades. Cut your losses short and let the winners ride the trend.

. Never, never, never add to a losing position.

. Your risk-reward ratio in a futures trade should be at least three to one. In other words, if your risk of loss is $1,000, your profit potential should be at least $3,000.


I can’t stress enough that survival in the futures trading arena (especially for beginners) should be your top priority.




Monday, August 29th, 2011 Education, Evergreen No Comments

Could Being Healthy Actually Make Your Retirement Worse?

by Steve Vernon
Friday, August 26, 2011


In the past, I’ve advocated taking care of your health through better nutrition, exercise, and stress management as an important way to reduce your exposure to high bills for medical and long-term care expenses. But could this strategy backfire and actually cause you to spend more money during your retirement? One financial services firm suggests this might be the case.

 HealthView Services employed a group of expert physicians, experienced actuaries, and healthcare industry programmers to develop its HVS RetireMark Planning System. With this tool, you can project your health care expenses in retirement based on your lifestyle and health status. Individuals and financial planners can use this system to refine someone’s retirement planning by taking future medical expenditures into account.

I decided to take the RetireMark system for a spin by estimating the life expectancy and present value of out-of-pocket medical expenses for a 65-year-old male retiree, considering the medical costs that would be paid by Medicare. Presumably, this works out to be the amount of money you’d need in the bank today to cover expected medical expenses over your lifetime.

Here’s how this present value varies for different lifestyle choices and medical diagnoses:



The system defines being healthy as having no diagnoses for common chronic diseases, not smoking, getting a physical exam every 12 months, eating a balanced diet, and exercising at least two hours per week.

As you can see, according to the RetireMark system, you’ll end up paying more money over your lifetime if you’re healthy than if you aren’t. What’s going on here? Isn’t it better to take care of your health?

The answer is revealed by the resulting life expectancies.



In other words, if you take care of your health, you can expect to live longer. And this means you’ll have more years during which you’ll have to pay for medical expenses, and eventually you’ll die of something, incurring medical expenses in the process. A recent study by the Center for Retirement Research at Boston College came to similar conclusions.

So should you start smoking, drinking excessively, eating lots of fatty hamburgers, and become a couch potato? No way! The truth is, it’s not necessarily the case that you’ll be worse off financially if you live longer. If you’ve maximized your guaranteed lifetime income from sources such as Social Security, pensions, and immediate annuities, you’ll get more money over your lifetime that you can use to pay your medical bills.

And even if these projections and conclusions come to pass, it’s still worth taking care of your health. I want to enjoy an active retirement, and I want to postpone the pain, suffering, and costs caused by chronic diseases as long as possible. And I’ll look and feel better if I’m healthy — my wife will like that!

If you do live longer, you may need more money to last for a longer retirement. So here’s the retirement planning strategy I suggest:

• Take care of your health, and plan to live longer.

• Maximize your lifetime retirement incomes.

• Develop strategies to pay for expected medical and long-term care expenses, including the appropriate insurance.

While it may take some time and effort to plan for a longer lifespan, the results are worth it in the long run.

Monday, August 29th, 2011 Education, Evergreen, Stock Trading No Comments

The Covered Call Ratio Write — the Portfolio Cash Cow

By Michael Thomsett | TradingMarkets.com | April 08, 2011 12:57 PM 



The covered call strategy has two parts: 100 shares of long stock, offset by one short call. If the short call is exercised, the 100 shares are called away. The ownership of shares eliminates the risks associated with the short position, which if uncovered presents a high-risk strategy.

Beyond the covered call, it is possible to vary risk and to increase the cash income from selling calls, with the ratio write. This allows the writer to manage risks and to alter the strategy if and when the positions go in the money — by closing the ratio excess or by rolling them forward. This strategy improves control and helps call writers to creatively expand the basic covered call strategy.


The ratio write is a combination of blocks of 100 shares and an offset of short calls at a greater n umber than one-to-one coverage provides. For example, a two-to-one ratio write is a combination of two short calls and 100 shares of stock. Another type, the variable ratio write, is a split between short calls, with strike prices both above and below the current value of stock. For example, stock is current worth $62.50 per share. An investor who owns 100 shares may sell two calls, one with a strike of 60 and another with a strike of 65. This creates a variable ratio write.


The overall risk of the ratio write has to be the determining factor. The question of whether or not the strategy is a good match relies completely on how well the trader manages the relative exercise risks inherent in the strategy. Remember: the ratio write is a partially uncovered short position no matter what name it is given. The overall position is either covered to a degree (for example, a 4:3 ratio write is 75% covered because there are 300 shares and four short calls). The position is also the combination of three covered calls and one uncovered call.

Proximity between current price and strike defines risk and its evolving nature as expiration approaches. As long as short calls are out of the money, there is no chance of exercise. As the market value approaches strike, exercise risk increases and if the market value exceeds the strike and remains there, exercise will surely occur by expiration. This means a secondary rule applies: A ratio write exposes you to exercise risk assuming that short calls end up in the money. This risk is mitigated or eliminated in one of three ways: Closing the position, rolling forward, or offsetting the short with an offsetting long call position that expires on the same date or later.

How the Ratio Write Works

The process for opening a ratio write is the same as that for opening a covered call. Traders own a specific number of shares and sell calls that are covered by those shares. In a covered call, a trader who owns 200 shares sells two calls and achieves 100% coverage. If the same trader sells three calls, the result is a 3:2 ratio write — three calls written against 200 shares of stock.

The larger the number of shares, the less risk involved in the ratio write. For example, a 2:1 ratio write involves cover for only one-half of the shares. It consists of two short calls and 100 shares. In comparison, a 3:2 is 67% covered (2/3) and a 4:3 ratio is 75% covered (3/4). So an investor with 200 or 300 shares is more suited to the ratio write than an investor holding only 100 shares. The relative levels of risk should be kept in mind when analyzing the value of ratio writes as an expansion of the basic covered call.

The ratio write also further discounts the basis in stock, reducing market risk. For example, if you buy 100 shares of stock at $50 per share and sell a call for 3 ($300), that reduces the true basis to $47 per share. If the short call is exercised, stock is called away at the strike; if it expires or is later closed, the net call premium is profit. With a ratio write, this discounting benefit is increased. For example, if you own 300 shares bought at $40 per share and you sell four calls at 3 each, you are credited $1,200, which reduces your basis in the stock by four points ($1,200/300 shares). The net basis in stock is reduced to $46 per share.

So even while the ratio write exposes you to additional exercise risk, it also reduces your basis in stock. This offsetting risk element demonstrates why the ratio write makes sense, even to a conservative trader inclined to limit options activity to covered call writing.

Yet another way to reduce risk is to sell the ratio write and then buy one call at a higher strike. For example, on expiration date in February, Caterpillar (CAT) was trading in the range between $57 and $58 per share. When it was at $57.43 at mid-morning, the following options were available:

CAT March 57.50 calls, 2.23
CAT March 60 calls, 0.60

Assuming the original basis in stock was at or below the $57.50 strike, a ratio write could be opening based on ownership of 300 shares, and selling four calls:

Four 57.50 calls @ 2.23 = $892

Because current market value was close to the strike, there is always the risk that the price would move above that level, resulting in the threat of exercise. If that occurred, three of the contracts were covered but one was short. To limit this risk, you could offset the short position with one long call:

Four 57.50 calls @ 2.23 = $892
Less: one long 60 call @ 0.43 = $43

Now the net credit for this position was $849. In the worst-case outcome, with all four short calls exercised, three are covered by stock and the fourth is offset by the 60 long. The loss on this is the difference between the current price of stock when the position was opened, and the strike of the long position: 60 – 57.43 = $257

Upon exercise, the net premium on call positions of $849 would be reduced by the loss of $257, resulting in a net profit of $592. In comparison, simply entering a covered call position with three calls against 300 shares of stock would have resulted in net premium income of $669 (2.23 x 3), which is higher by $77 than the worst-case outcome for the ratio write. But is the worst-case worth the $77? That is the question. In actual application, there is always the chance that the short positions could be closed at a profit, or rolled forward.

If rolled forward, an interesting secondary strategy occurs. Assuming the stock is continuing to rise, the four rolled contracts avoid exercise by rolling, but the remaining long call could become profitable due to the rising stock price. There are many possible outcomes to this strategy beyond exercise. The ratio write is less risky than it might appear at first glance, especially when employing 300 or more shares of stock.

The Variable Ratio Write

Another variation is the variable ratio write. In this application, you sell calls at different strikes. For example, if you own 300 shares of stock currently worth $32.50, a variable ratio write may consist of two calls sold at a strike of 30 and another two sold at a strike of 35. This approach is most advantageous when the price of stock resides about halfway between two strikes.

The variable strategy combines an in-the-money and an out-of-the-money position against stock. This means that the in-the-money calls (in the example the 30 strikes) are more likely to be exercised, whereas the out-of-the-money have absolutely no intrinsic value and risk is much more remote. Both short positions are going to suffer time decay, especially if expiration will occur within the next two to three months. Analyzing likely outcomes demonstrates that the breakeven is going to reply on a discounted basis level of stock given the variable write positions. Rolling to avoid exercise is a good possibility if the stock’s price rises. If the stock price falls, either of the call positions can be closed at a profit. The in-the-money calls will lose value rapidly because intrinsic value will suffer in mirroring the stock decline. Out-of-the-money strikes will also decline as long as current value of stock remains below the strike.

The point to remember about ratio writes is that they open up a broad range of strategic possibilities. The higher the number of shares you own, the less risk in the position. So for those holding multiple lots of 100 shares, the ratio write can serve as a manageable risk-level strategy that generates attractive profits.

For example, if you own 100 shares of stock current worth $30 per share, you could just sell 10 calls and gain profits whether exercised, expired or closed. But if you enter a ladder strategy and create a variable ratio with all positions higher than current value of stock, you can vastly improve your income. For example, you could sell the following contracts:

four 27.50 calls
four 30 calls
four 32.50 calls

This creates premium income from 12 short calls, but how much risk is really being taken on? Even if the 27.50 and 30 strike calls are exercised, the 32.50 can be rolled forward, closed or offset with long call positions. Risk does not disappear, but the variable write does make it more remote.

Ratio writing is interesting because it provides endless variation in how covered call writing is structured. It is enhanced even more with spread strategies involving both short and long calls, or put and call contracts. The potential is limited only by your ability to manage risk, and by your imagination.

Michael C. Thomsett is author of over 70 books in the areas of real estate, stock market investment, and business management. His latest book is The Options Trading Body of Knowledge: The Definitive Source for Information About the Options Industry. Thomsett’s other best-selling books have sold over one million copies in total. These are Getting Started in Options, The Mathematics of Investing, and Getting Started in Real Estate Investing (John Wiley & Sons), Builders Guide to Accounting (Craftsman), How to Buy a House, Condo or Co-Op (Consumer Reports Books), and Little Black Book of Business Meetings (Amacom). Thomsett’s website is www.MichaelThomsett.com. He lives in Nashville, Tennessee and writes full-time.


Thursday, August 18th, 2011 Education, Evergreen, Options, Stock Trading No Comments

Why I Add to Winning Positions

By Walter Peters | TradingMarkets.com | April 05, 2011 01:40 PM


Many traders find a great trade setup; take the trade, and then watch. If the trade goes in the opposite direction – if the trade does not do well many traders will consider adding to the position.

Averaging down, adding to a losing position, it does not matter what it is called, it is basically taking more of a losing position. It is no different than making reservations for a restaurant that you don’t like because the food made you ill and the staff was rude. It sounds funny but it is true. By adding to a losing position you are asking for more of what you don’t like.

Now, let’s consider this scenario. Let’s say that you make reservations for a restaurant, you show up to find your table waiting for you, the staff are wonderful and the food is great. Would you only eat an appetizer because you didn’t want to “ruin the experience?” Would you leave early because you don’t want to have “too much of a good thing?”

You probably wouldn’t if you are like most people.

But this is exactly what many traders do – they add to losing positions (often maximizing the loss) and they rarely add to positions that immediately go in the expected direction.

Think about what that means for your trading account. That means that when you are right you are not maximizing profits and when you are wrong you are increasing your losses.

One great way to increase your profits is to add more positions as the trade goes in the expected direction. This is a lot like making reservations for that great restaurant – you know the food is good and you want some more!

Many traders can exponentially improve their profits by simply adding to winning trades and resisting temptation to add to losing positions.


Here is an example from this week. With this trade I sold the EUR/JPY at 137.00 and targeted the red line down at 136.00. I could have simply sold the EUR/JPY and waited for the market to hit 136.00 – and then I could congratulate myself and be very happy since the trade made 100 pips. But instead, because the trade went in my direction I added to the trade and made 280 pips instead. This is how it unfolded. I took one position at 137.00 and then I put additional sell orders in at 136.50 (one position), 136.40 (one position), 136.30 (one position), 136.20 (two positions) and 136.10 (two positions).

Additional sell orders Chart

Instead of 100 pips on the winning trade I had several positions 100+50+40+30+(20×2)+(10×2) = 280 pips. Notice how I did not immediately add to the trade, but instead decided that if the trade went 50 pips in the expected direction I would allow the additional sell orders to kick in.

Target Hit Chart

What would have happened had this trade immediately gone against me? Well, I would have only lost on the first position, thereby limiting my losses. I think it is important to wait for the market to give you feedback before you start adding to a winning position, so I always place additional orders at least 50% closer to the profit target than the initial position.

Think how much more money you would make if your losing trades were more than 87% smaller than your winning positions … it is a lot like making reservations for that excellent restaurant, over and over again.

Walter Peters, PhD is a professional forex trader and money manager for the DTS private fund. In addition, Walter is the co-founder of Fxjake.com, and often coaches other traders. If you would like to learn more about Walter’s trading strategies, take a look at Walter’s upcoming webinar.

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Original publication: October 29, 2009
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Thursday, August 18th, 2011 Education, ETF, Evergreen, Forex Trading, Stock Trading No Comments