How does Managing Trades Early benefits you

Manage trades early

Why would we like to manage trades early? Stock option prices are moving a lot. One day they are going up and the next day they can go down. As soon as you can make a decent profit in a trade take it from the table. You won’t like it when you wait too long and see the trade turn into a looser. That is why we manage trades early. Would you really benefit from it?

The term “managing winners” refers to closing a trade prior to expiration and prior to max profit. We tend to close our winners when we reach 50% or maximum profit.

Certain strategies like calendar spreads, diagonal spreads and iron flies, we look to manage between 10-50%. So why do we manage our winners? There are a few reasons:

Improved Win Percentage

We have found that managing winning trades prior to expiration can improve our probability of success. If we consistently enter trades with a probability of profit of 70%, , we can increase our overall percentage of winning trades when we manage early. This is because we’re taking risk off the table and we’re also decreasing the time that we’re in the trade.


Risk Vs. Reward

Another reason we prefer to manage our winning trades is because of the risk/reward shift that occurs when we start to see profits. Let’s take an example of selling a call for $1.00. The maximum profit is $1.00, and the losses are undefined. Ten days go by and implied volatility contracts, which results in the option being worth $0.50. Since our maximum profit is the credit received for this trade, we have to reevaluate the risk/reward. In the current position, we can only make $0.50 more, while still holding all the risk of the position. Not to mention the fact that we can also lose the unrealized gains we’re seeing in the open position! 
As we get closer and closer to maximum profit, our risk starts to outweigh the potential reward of holding the position. We’ve found that the target of managing our winning trades at 50% can be the sweet spot over the long run for most trades.


Lower Time In Trade

The main benefit of having a lower time in the trade is the fact that we can redeploy capital elsewhere in a new trade, and likely collect more. In the same example above, instead of waiting until expiration to hopefully make that extra $0.50, we could probably take the trade off and look for a different underlying to trade to collect even more than that. This aspect of managing winners can help improve P/L per day over the long run.

There are not many downsides to managing winners early. One thing to keep in mind, however, is commission costs. We always want to ensure we’re covering commissions and not managing too early. We wouldn’t close a trade for a $0.10 winner, as that would likely inhibit our ability to profit after commissions.


Take Aways

Selling Options is an excellent way to receive option premium. We enter positions wit a certain probability of profit and around 45 days to expiration. Not with the idea to let them expire but to take profits as soon as we can make 25% of the maximum profit. By doing so we increase the number of winners. Because you manage your trade early you can redeploy your capital in another trade.


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