I’ve only been to a couple of casino’s in my lifetime but there is no greater feeling than making bets with house money. You have nothing to lose! There are very few times in life where you are risking NONE of your money to make MORE money. While using house money is wildly connected to gambling, it can be used in the stock market as well when you are trading options. In fact, it should be your ultimate goal to use house money on almost every option trade you execute! In today’s article, I’m going to be discussing the importance of letting winners ride and how you enhance your returns by using “house money”
Letting Winners Ride
In the article, The Holy Grail of Trading, I talk about how you want to cut losers short and let winners ride. Winning trades can sometimes be far and few between so we want to maximize our profits when we have one! A great strategy to do this is by selling a portion of your investment and letting the rest play out in the market. A true goal you should have is to sell enough to cover your principal and retain some profit while letting the rest of your investment ride the waves of the market to see if you can soak in any more profit.
For example, let’s say you buy 100 contracts of Tesla calls that are 7 months out and they calls cost you a total of $1,000 dollars. Tesla is currently trading at $100 dollars a share. Tesla share price starts to climb and after a few months it has risen to $140 dollars a share. Now your calls are up over $2k from the price move and you have 5 more months left on the option contracts. You sell a portion of your contracts to cover your principal ($1k) and lock in profits of $500 dollars. Then you let the remaining option contracts ride on house money to see if you can squeeze out any more gains!
This is the greatest position to be in because now you have nothing to lose and you have locked in profits! Now you do not have to be concerned with the market crashing or bad company news coming out that could put your principal at risk.
Best time to Unload
I have found there are great times to unload a portion of your contracts so that you maximize your profits. Let’s go through then now:
- Great Company News
- A company can come out with a news report or an earnings report that can send the stock to new levels. These days the stock will have above average volume and the option contracts will be overpriced because of the new demand coming through. This is a great time to unload a portion of your contracts to cover principal because the contract prices will be higher.
- Technical Indicators
- I rely on technical indicators from stock charts more than anything when it comes to entering or exiting a trade. Here are some of my top indicators
- Volume: if a stock start to have more volume on down days (red) than up days (green) then it may be time to unload some of your contracts because a downward trend is forming
- Bouncing Off Resistance/Moving Averages: if a stock hits a resistance level or EMA/SMA levels and does not cross through them, it may be time to take some profits on some contracts. If a stock break through these indicators and heads higher, I would not sell any contracts at that time.
I consider trading with house money one of the greatest achievements in options trading. You have reached the ultimate sweet spot and can be carefree the rest of your trade. In a previous article, I talked about using the Analyze tool on ThinkorSwim to calculate expected profits for options trades. Use this tool to see what your profits would look like at different time frames if you unloaded some contracts.
Homework: If you are currently in an options trade or considering an options trade, think about when a good time would be to take some profits in the position. Use the analyze tool to see how much more money you could make by letting some contracts ride on house money.