Cutting losses on Stock Options

When you hear the words stock options you probably think something like risky or huge losses.  But if done correctly trading options can be profitable and help you to experience limited losses.

Most people who trade options will probably end up going bankrupt, and why is that?  It is because they do not limit their losses.   It is very important to look at protecting your capital when trading.

So how do you limit your losses?  Well the first thing you need to do is manage how much of your capital you are putting into 1 trade.  If you are putting 10-20% of your account into 1 option trade, beware.  That is too much.  Putting such a large percentage of your account into 1 option trade is very foolish. If you lose that trade then your entire account will be drastically affected. 

Now you can decided to be a little wiser with how much you risk and decide that you are only going to risk 2-5% of your account on 1 trade.  Sure your possible gain is smaller if the trade works in your favor.  But if the trade does not work in your favor and actually works against you it will not affect your account that much.

It is hard to come back from a 20% loss in your account, but it is much easier to come back from a 2% or 5% loss.

Another thing you can do to help limit your losses as an option trader is to use stop orders.  When you place a stop order on an option you are limiting the amount you can lose on that trade.  Suddenly your max loss is not 100% or your invested capital.

Instead your loss is only 50 or 40% of your capital. That could make a big difference.

For more on options visit http://www.stocks-simplified.com/stock_options.html