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.


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, 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.




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.


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

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8 Responses to The Psychological Effects of Protecting a Portfolio

  1. chris 05/07/2010 at 7:33 AM #

    good post on good topic. psychological aspects to the market are so underrated. I find it kind of odd that it isn’t discussed HEAVILY in trading. in poker, even the very best players in the world recognize that their heads can be their worst enemies. yesterdays market was like sitting at a poker table with many players tilting big-time.

  2. Mark Wolfinger 05/07/2010 at 8:15 AM #

    I think there’s a mindset problem.
    Poker players see their opponents, respect them (or not) and know they are capable of paying well or getting lucky.
    Traders cannot see opponents, and probably don’t recognize that they are competing with every other trader out there. Sure some of those traders are dumb, but others are quants.
    But traders don’t think in terms of competing at all. They trade charts, fundamentals, gut feelings etc. Most are unaware of the psychological aspects of trading. We can each take steps to minimize psychological damage or seek psychological boosts by the trades we make. But I doubt make people pay any attention to that.

  3. Jcvictory 05/07/2010 at 8:42 AM #

    It was easy a few weeks ago with volatility so low to buy MAY $IWM strangles to protect my JUN & JUL $RUT Iron Condors.
    (I use $IWM because I only open 3 $RUT condors at a time at this stage of my trading career.)
    But now what?
    I would like to open AUG Iron Condors in a few weeks, but my style of trading dictates in periods of higher volatility, I still collect a credit around $3.00 but buy wider condors.
    Prices on JUN $IWM strangles are probably a bit(!) elevated right now – and probably will be for awhile.
    Would you suggest front month kites or the other kind of insurance that uses front and back month options rather than buying strangles outright?
    PS — Although I couldn’t capitalize on the market move yesterday (my orders were being rejected), it was nice to know that I was covered no matter what happened. Thank you! Thank you!

  4. Mark Wolfinger 05/07/2010 at 9:15 AM #

    Hello Tweet buddy,
    You are very welcome.
    By ‘wider’ condors, I assume you mean that the puts and calls are farther away from each other and not that the call spread (and put spread) is wider.
    I would NOT buy kites that expire earlier than your iron condor positions. The kites work well, but they become extra risky in their final few days. You don’t want to go through that.
    Kites are costly now. Difficult decision on
    whether to buy them. Bottom line: Insurance plays involve positive gamma, and when IV is high, they are just expensive.
    What I like to do with higher IV is to go farther OTM and collect a bit less premium for my condors. IF (big if) the market calms down a little, these will seem far less risky than your usual condors.
    Suggestion: If it looks feasible risk-wise, sell the May protection, substitute Jun protection – for about equal cost (it’s ok to pay some debit). That means a lower strike price for your protective put. But, you can compensate for that by choosing still lower strike prices for the put portion of the Aug IC. the risk is not knowing where the market will be when AUG options are available. In this environment, that’s a considerable risk. But it’s also theta risky to hold those May longs.
    It is forever going to be a problem to know when to sell that lovely front-month gamma to get out of all that bad theta.
    Caution: Don’t leave yourself with a Jun condor that scares you – due to less protection (worse strike price for Jun longs).

  5. Jcvictory 05/08/2010 at 9:23 AM #

    I was going to do some rolling on Friday (based on your post), but decided to stay put with full front month protection going into the weekend.
    With May expiration still two weeks away, I still have a few days to analyze my options for insurance. I decided that it was better to have the higher gamma right now with those front month IWM insurance options and sacrifice the larger theta for it. I will take your suggestions into consideration as I formulate my plan for the next two weeks and the AUG cycle. Thank you, again, for your quick response.
    I learned a big rookie lesson in my first ever market meltdown experience on Thursday. Even though I have a standing rule to do a Stage 1 adjustment at RUT 640, when the market blew past that price the bid/ask spreads were so wide, it would have probably been next to impossible for me to get out at “reasonable” prices (or even at all).
    Insurance allowed me to hang in there and even try to enter a few orders to try and capitalize on the situation. My option portfolio ended this week essentially flat. I’ll take that!
    Insurance does seem like a waste when the RVX is at 20, but at 40, it is worth it’s weight in gold.
    It was also nice to tweet with you on Thursday & Friday. Thanks for placing some of your trades and thoughts out there.
    I would recommend others who happen to be reading this thread to follow Mark on Twitter.
    For the first time, I am enjoying having a Saturday off with the markets closed.
    May your weekend be relaxing.

  6. Mark Wolfinger 05/08/2010 at 10:00 AM #

    Here’s another option for holding onto May protection:
    Remove some cash by rolling the May puts to a lower strike. This is especially true if the puts are already ITM.
    That makes theta worse, but it does take out cash. Your major worry on the May puts is that they expire worthless, so taking out some cash helps. I like to collect at least $6 for a 10-point spread. You’ll have to decide what’s good for you.
    It makes the downside a little worse, to me, it’s worth it.
    I agree that right now gamma is king. That’s why it’s so expensive.
    Agree that it’s difficult to trade in a meltdown, but it cannot hurt to place a reasonable order to close a position. No fill – doesn’t cost anything.
    When an iron condor trader can come out of this week’s market without a debacle that illustrates the value of insurance. Congrats. This week could have hurt.
    Of course, we must remember all the times when insurance doesn’t do any good. But preventing a disaster is #1, so I’m glad you had protection.
    Your last line makes me chuckle. When I first became a market maker, I hated weekends. I wanted 24/7 trading. No longer. I now need lots of time off.

  7. Tim 05/09/2010 at 12:10 AM #

    I have 20 may 640/630 and 20 may 620/610 rut ps that were placed prior to Thursdays doomsday. Felt fine at the time. Now showing big potential loss and fear of gap or heavy drawdown prior to expiration.
    I’m past the point of shutting down and walking away due to heavy debit.
    Trying to find if there is a way for insurance now in this late stage.
    To close to money for kite correct?
    If so looking at either rolling down which still makes me nervous or selling call spread to bring in some xtra prem, or simply buying a lower number of puts to at least help negate some of the potential.
    Is it too late to protect? Is combination of rolling, selling call spread, and purchasing puts a good “option”. What would you recommend? Any advice is appreciated.

  8. Mark Wolfinger 05/09/2010 at 9:17 AM #

    So sorry for your troubles.
    This is an important question.
    Am writing a special Sunday post and will publish asap.