It’s something that rarely gets covered in the mainstream trading sites, but exiting a trade is just as important, if not more important, than entering a trade. It’s really easy to say “hey, I think Apple’s going up!” and get into a long position, but it’s much harder to figure out when to take gains, or worse, when to take losses.
In general, you should have an exit mapped out in your head when you enter the trade. This should be a target on the winning side, and a mental stop, or even an actual stop order, on the losing side. These can be somewhat flexible numbers, but the exit strategy should never be “I’ll exit when I’ve made enough money”… ‘cause head’s up, that doesn’t work. If you’re up a ton you’ll feel like you can just keep riding it, and often this turns a big winner into a breakeven trade, or worse.
On the flip side, we have a tendency to hold losing trades for too long, letting the losses grow as we wait for some divine intervention to save our shirts. It’s OK to take a loss! The best traders take losses just as often as beginning traders… they just tend to take much smaller ones, because they pick their exit points ahead of time.
So go ahead, think about this as you’re entering your trades this week. Know how you want to get out before you get in, and the odds are you’ll be a lot happier when the trade is over. Good luck!
If you’re trading at earnings, you’re principally concerned with the magnitude of directional movement post-announcement. Now, in english: you’re worried about how much the stock your trading will move once earnings results come out. There are a few good ways to predict this, most notably by using the super-powered trading platform you’ve got on the screen in front of you (we prefer thinkorswim).
If you’re not using a super-powered platform, or if you just like doing a little math in your head, we’re going to teach you how to get a “best guess” for expected move without doing anything other than a little addition and dividing by 2.
Start with the at-the-money strike price for the options in question (these are the options that expire just after earnings). Now, take the price of the at-the-money call and the at-the-money put and add them together (this is called the at-the-money straddle). Next, take the price of the call with the next highest strike price (out-of-the-money) and the price of the put with the next lowest strike price (out-of-the-money). Add them together, and you have an out-of-the-money strangle.
Last, add the prices of the at-the-money straddle (call + put, same strike price) and the out-of-the-money strangle (call + put, one strike out-of-the-money) and divide by two (you’ve taken an average). This is the amount that the market expects the stock to move up OR down by options expiration, and is a reasonable guess at the expected earnings move (the earnings move is likely expected to be a little less than this if there is time between the earnings release and expiration).
So add the average to the current stock price, then subtract it, and consider that range your “one standard deviation” range - this just means that, about 68% of the time, the stock will finish earnings within this range. You can trade accordingly - by trying to set your breakeven points outside that range (if you’re selling options) or inside that range (if you’re buying options).