4 Options Trading Myths Busted

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Newcomers to the trading universe arrive with some preconceived notions. To become a successful trader, one has to separate truth from myth, which is not always easy to accomplish.

So let’s use some options trading information and bust a few of those myths right now.

Myth #1: When managing a position, the most important thing is always to earn a profit.

Rationale behind the myth: Without profits there is no chance for success, so you must do whatever possible to ensure profits.

Myth buster: You own the position right now at its current price. But ask yourself, do you want to own this position? Do you believe the prospects for making money (from the current price) are good? Are the risk and reward within your comfort zone?

If the answer to any of these questions is not a resounding “yes,” then there is no reason to own the position. Exit the position immediately — ignore whether it’s a profit or loss. When trading, the most important thing is to own good positions that fit your investment/trading style.

Myth #2: Trading is easy. If you have a stake, you can quit your job and earn a fortune in the markets.

Rationale behind the myth: Hype. Braggers. Lies. It doesn’t take much effort to find the claims on the Internet: “I have 52 consecutive winning trades and I can teach you to do the same.” “My option strategy is risk free and earns 10% per month.” “Become a day trader and buy your own island.” (That one is a remnant of the 1990s.)

Myth buster: Trading is similar to many other professions. Education and training are necessary. Obviously the newcomer doesn’t have to know as much about trading as a new doctor has to know about medicine to get the job done, but some knowledge is essential. It’s necessary to understand the terminology, know how to enter orders, and understand what has to happen for option position to make (or lose) money. 

On the fundamental side, it’s also necessary to know why you want to make a trade. It’s not enough to pick one and hope for the best.

Myth #3: You can’t go broke taking profits.

Rationale behind the myth: Make trades, earn profits, exit trade, keep profits. What’s wrong with that?

Myth buster: Traders who adopt this mindset tend to ignore losing positions, waiting for them to return to profitability. The problem is that losses don’t always turn into profitable trades. Many times, losses continue to grow. A single, large loss can more than exceed a bunch of small profits. When that happens, the trader can go broke. In fact, the obvious path to ruin is unmanaged losses.

Myth #4: Options are very complicated and you’ll never be able to understand how to use them.

Rationale behind the myth: Many believe trading takes sophisticated math that is so complex that the little guy stands no chance.

Myth buster: Options can be used in sophisticated strategies, but simple strategies are also available. More than that, options themselves are very simple investment tools.

A call option works just like a rain check that you receive at a grocery store. When the store is sold out of a sale item, they give you a guarantee that you may buy a specific item (the one you were unable to buy previously) at a special strike price (the sale price) for a limited time (until rain check expires).

That’s how a real world call option works, with the exception that you must buy call options and no one will give them to you.

These are just a few of the myths in the investment universe. The wary trader verifies stories before relying on them.

Follow Mark Wolfinger on Twitter @MarkWolfinger.

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Article printed from InvestorPlace Media, https://investorplace.com/2010/08/options-trading-myths-busted/.

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