Wow… Today was a roller coaster of a day for the markets. After a huge buildup and near record closes in the past few weeks, the markets have decided to let off a head of steam. After the Fed meeting last week things started to slide and support levels began to fail, today’s CPI data just added fuel to the fire. I’m not sure what will happen tomorrow and Friday, but suffice to say given the fact that it is expiration week, I’ll keep a very close eye on things.

Right now all of the major support levels I have been watching for the SPX have failed, the RUT is in a tumble and I was stopped out of an IWM trade in my IRA (I don’t post my IRA trades on the site). It’s funny to me that only 12 days ago I was writing about the tops of these positions, discussing position management and exit points at the 795 & 1345 levels for the RUT and SPX respectively, and now its position management at the bottom end of each trade. I mentioned that if the underlying index/stock gets to within 5 points of my inside strikes I’ll exit. The same rules apply tomorrow, and depending on the market momentum tomorrow, I may exit my existing trades early to ensure a profitable month.

Remember the two rules of investing from Warren Buffet, they go something like this: 1. Don’t lose money 2. Never forget number 1. Ensuring that you have capital to trade tomorrow is critical! An example of this can be found in the papermoney trade that I had to kill earlier today. The RUT tanked today, and closed down $11.62 points at $725.85, the low for the day was $723.77. My papermoney trade had an inside strike at $720 and a $10 spread; I was short 25 contracts. That means that if I held on hoping that the market really didn’t want to stay lower and that everything would be rosy tomorrow and Friday, I would be risking $25,000. I don’t know about you, but I don’t like to lose $25K. Instead, remembering Warren Buffets rules, we got out! Closed the trade, took a small loss and saved our money to trade tomorrow. Do I think the market will continue down tomorrow, no not really, but am I willing to put $25K on my hunch… nope.

If you’re new to options, you may be thinking to yourself… Your still safe! There is still time, the market has to come back up! Why close the trade early? Why take the hit when you might make money? The simple answer is: risk management. I’ve been down this road before, I’ve held on… sometimes it works, and sometimes it doesn’t. Just remember Warren’s rule – Don’t lose money.

For example, using the papermoney RUT trade, if the market bounces tomorrow we would have kept the $4,175 credit for the trade and made a smooth 16% return in less than a week. That would have been great! However, if we are wrong… it can get ugly, real ugly. The worst case would be that the RUT opened down a bunch on Friday morning and we lose the entire $25,000 – a 100% loss and 25% of the portfolio. Recovering from a loss like that takes a long time, trust me, I’m still working off a few of them

The point is that you want to cut your losses short and keep your profits. With the market swinging back and forth right now, it is important to keep an eye out and make sure you understand your risks. Define your exit strategy before you enter the trade – and stick to it. Do not let your emotions get in the way, they will cost you more money that you realize.

Anyhow, tomorrow will be an interesting day and I’ll post updates as needed. Personally, I expect a slight bounce tomorrow and Friday. As stated in the papermoney post earlier, I think we are in a knee jerk sort of situation here, but there is still risk that needs to be watched. Trade smart and grab my feed.

Categories: Options Trading, Papermoney