Tuesday, June 15, 2010

Psychological vs Financial Capital

I closed out three June trades today, all for a win, but absolutely threw away $27 on one solely for the purpose of psychological capital. I paid .02 to close some naked $560 calls on GOOG when its at $498. I closed a SPY 114/116 call spread for .11 that could have been closed for .05 last week. I also took a small profit in a naked put sale that was a mistake of a trade to begin with. The problem I'm having is I don't have a locked in plan on when or why to close a trade. Intrinsically it makes no sense to pay .02 for something that is worth nothing with 3 days to go, but psychologically it was worth $27 after commissions to close it out so I can concentrate on July trades.

Once I closed that out, and seeing that the other two are profitable as well, I felt the need to just close them all out, call it a month, and start looking for my next trades since the vast majority of the potential profits could be booked. While that's one way to look at it, the other is that if you consistently throw away pennies, they add up over time. It isn't the case that the trades I took off were eating up available buying power, if that were the case it makes more sense. The actual risk posed by leaving these trades on for the remainder of June expiration was very small, yet I found myself wanting no more risk and moving on. Where I'm struggling is that after I've taken trades off the books and thus risk as well, I start to question myself as to why you just threw away money. I think some of this has to do with being an electronic interface. If I had a $100 bill sitting on the table and my choice was to rip it up or come back and pick it up on Friday at 1pm, I wouldn't rip it up, but yet that's essentially what I did today. Another way to look at it is I paid $100 to not have to worry about a damn thing for the next three days. So now the question is, is that really worth it? Does that make sense to continually on an ongoing basis leave money on the table on trades that have lower risk now than when they were put on? If you asked me what to do on a similar trade I would probably say let it expire, why buy something that is worth nothing.

Here is another part of the psychological game, the $100 I left on the table on its own as a dollar amount isn't the issue. I guess its that my total take this month might be something like $1100 so I'm looking at leaving that $100 on the table as roughly 10% of the profits for not being patient. I was trying to squeeze the remaining pennies for record keeping purposes and not looking at risk/reward on each individual trade. Hmm, I have a lot of work to do in this area still. My concern is that I'm making mistakes and not having a solid game plan while playing small. This means that if I had larger positions on the psychological aspect will be an even bigger burden. I had exit strategies for two of these trades and they weren't triggered, yet I deviated from the plan and closed out early. What good is a trade plan if you don't stick to it? especially if there isn't a compelling reason to deviate.


  1. For me I would like the peace of mind to take off the risk, especially if I can buy the contracts back for .10 or less. Like we talked about at the Traders expo, I think it is more beneficial to look at it as how much of the profit you have collected, for example instead of thinking you are leaving 10% on the table, put another way is that you are booking 90% of the profit. And in my opinion the risk of the trade has now changed.

    Here is what I mean. If at the intiation of the position you were risking $500 and the most you could make was $1,000 and you could book profits of $900 today (booking 90% of profit potential)then you have to realize that you are no longer just risking the $500 now you are risking the $500 + the $900 in profit. So you have to ask yourslef is it worth the risk of $1,400 for that last $100?

  2. I actually thought about the situation you're describing already. I kind of like to look at the trades daily and ask if I still like it, would I put it on again today, because in my mind, not taking a play off is essentially the same as implementing it again. So what about this situation: you sell a 114/116 credit spread and receive .50, you're comfortable with the .50/1.50 return on risk. The next day you can take the position off for .25, do you take it off? because if not you're now risking 1.75 to make .25. Initial and subsequent return on risk is something I'm having an issue with. Buying something back for .05 to me depends on how much you initially sold it for. If it was a $1.00, sure, I can leave 5% on the table for the piece of mind and no more risk. But if it was .35, I don't know. All the nickels and commissions add up over time. I guess there isn't a golden rule, it's all on a case by case basis. I guess more experience and I'll eventually find a comfort level with what to do. I don't view the decision as a right vs. wrong, just looking for a risk mgmt decision rule of thumb to help take away some anxiety or indecision.

  3. I think if it is .05 or less it should be an easy decision as TOS does not charge any commission to close out such trades. But I see what you mean about it depending on how much you sold it for. Maybe you set a rule that anything that is >=85% in the money that you close out without thinking twice. Or something like that.

  4. That's kind of how I'm leaning, for some reason the 90% threshold makes sense to me, I can justify leaving that much on the table repeatedly in return for taking off 100% of risk. I also favor taking things off if 50% or more of the return can be taken in when 75% or more of the contract time remains. So if you get lucky and call something exactly right, might as well take it off and book half the gain and look to put the same play back on again if it presents itself. From a position of buying power and capital efficiency I like this. It really doesn't come in to play until you're actually allocating a larger percentage of your capital than I currently use.