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The Psychological Effects of Protecting a Portfolio

I don't often blog about market news, but yesterday's market was truly amazing. One unusual occurrence was getting filled on some Jun call spreads.  I entered very low bids early in the day, not anticipating any fills, but in the panic, some orders were filled.  I even bought a one-lot call spread at a net credit of $0.10.  You just never know what may happen.

This question arrived after the close yesterday.


Mark,

As
you've said many times before, "Hope is not a strategy." I closed out
my IC when the short side hit my predefined delta and it certainly saved
some bloodshed today. It was a small loss (and who doesn't hate even
small ones) but a necessary trade.

How does one handle the
psychological aspect of this if the market were to reverse itself after
you've closed out the trade?

Rich

***


Rich, I'll tell you how one handles it. You pat yourself on
the back for acting in the heat of the battle and imagine how much worse
off you could've been. Mitigating catastrophic losses at the expense of
potential profit is the choice I will always take.

Joe

***

Rich,

I agree with Joe.  I make the best trade that I can make  at the time the decision must be made.  I know that over the longer term, that makes me a more successful trader.  BTW, congratulations on also covering the call spread portion of the iron condor.

But – and this is a big but: Some trades don't have good results.  I'm not talking about making a mistake, such as by making an inappropriate trade.  I'm talking about the results.  If a certain type of trade could lead to a result that is especially harmful to your mental health – avoid that trade.

For me, it's the whipsaw.  Today I covered most of my June calls at incredible prices. I will probably not be selling more Jun call spreads.  Instead I plan to maintain an unbalanced position and hope to buy the puts later, if volatility declines and the market moves a bit higher.   Why do that?  Because of all the losses that I take, the whipsaw hurts the most.  I am not going to let that happen to me (again).  I am unwilling to lose money on Jun calls.

If you are someone who would suffer anguish over a market reversal, what you should have done was to sell a small number of put spreads when the market suddenly dropped so far.  I am NOT saying that because it would have worked (as of now), but because that trade would give you some profit on a rally.  Perhaps enough to compensate for the anguish.

If the market declined further, the small position, would result in a small loss (unless the fill was outstanding – as it probably would have been).  But that small loss would be worthwhile for you.  Why?  You incur that loss to prevent the psychological loss from happening (or at least minimizing its effect).  Call it insurance on your psyche, instead of insurance on your portfolio.

In other words, trading to protect yourself from psychological damage is an important part of risk management.

683


Your book is well written, comprehensible, coherent and detailed.  IRookiesCover was especially pleased with the absence of useless chatter. 



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