Trading portfolio ground rules

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Let’s discuss the options portfolio we are to put together and paper trade over the next few weeks and months.

Amount ‘traded’

We will ‘trade’ $100,000. Why $100,000? Well this gives us lots of room to do several trades within our portfolio. Higher priced stocks such as AAPL and GOOG have high priced options (some over $10k per contract) which we still want to trade, if appropriate. A lower account balance would require too much risk being placed on these trades.

Do I therefore need $100k? No. Definitely not. Most, if not all, of our subscribers will be trading smaller amounts. Just divide number of contracts in each alert by the ratio of your account balance to our ‘balance’. Thus, if you have $25,000 and receive an alert for the purchase of 4 puts, buy 25000/100000 x 4 = 1 put.

Trading plan

The trading plan will contain:
- Rationale for trade: why are we doing this? Thesis we are to trade.
- What is the trade?: exact contracts, number traded, debit/credit etc
- Rules for adjustments (if any)
- Exit criteria: stop loss and/or when to take profit

Portfolio construction

We will trade a mixture of ‘long term’ and short term’ trades with a similar percentage being allocated to each.

By long term we don’t necessarily mean that the position will be held long term, although it might. We also take this to mean repeatable trades, even if each trade lasts 1 month or even a week. Thus the weekly sale of an at the money (ATM) SPY put  would be classed as long term if we do this every week indefinitely.

An example of a short term trade would be the purchase of an AAPL straddle before earnings.

We will also keep at least 10-20% of our trading capital in cash for adjustments etc.

We will assume, despite the $100k balance, that we are subject to Reg-T margin requirements.

Risk management/Position sizing

We will not risk more than 2% on any one trade. This will drive the above exit plan.
We will not sell any unprotected puts/calls. Spreads/hedged trades only.

With our ground rules set, we will now put on our first trade (see next post)…

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