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How to use cash when options trading during market panic or complacency

This post is about money management I apply in my trading account to be aggressive and safe when trading and be a true contrarian when using cash for trading options.

When I modified my strategy I was so confident that it was an invincible strategy that I decided to go all in when trading. Yet Mr. Market taught me a lesson. Even with a great strategy it is a bad idea to use all cash available. What if something unexpected happens?

I preach to use only up to 70% cash in my posts or newsletters but I have never followed that advice. And I pay dearly for breaching that rule whenever the market turns against me.

I realized during this market slump that this has to change.

I was thinking and searching for a way how to manage my money in the trading account.

 · How retail investors think

Unfortunately, regular investors tend to act irrationally. When markets are rising they are buying with all their money, and when markets are panicking they are selling everything they have bought at the top.

SPX Overhead resistance

As the chart above indicates, investors, who bought their stock at the top, when the market was at 2100 – 2130 level are now scared and hoping for recovery. When the market recovers, they will sell eagerly to get out break even.

Unfortunately, they have it all backwards. And I understand that. If I tell you that you should be actually buying and not selling, many will say, “but the market may crash even more and we can lose even more!”

Yes, the market may crash more, but to me it would be even better opportunity to trade more. And how long would a market stay crashed?

Of course, your actions should depend on your strategy, time horizon and type of trading or investing you apply.

If you are a long term investor, buying great dividend stocks, and having next 25 years to wait, then definitely, this is a time you should be buying. As a trader, I have a slightly different approach, yet similar.

Should I stay aside and wait for the market to calm down? The answer is a resounding NO! As a premium seller, this mess and high volatility is a great time to be selling more options for more premium. Staying aside for the market to calm down is wrong again.

You should act as Karen the Supertrader, who actually loves high volatility, who lives trading more during the time like this. When Tom Sosnoff asked her about VIX and what value she loves to see, she mentioned to have VIX ideally at or above 20. When, now we have VIX at 30 it would be the best for her to trade.

Watch the video below what she says about volatility:

 

 

It is difficult to be trading and stay in the market when everybody is running away, panicking, screaming, and predicting the end of the world. It is the hardest part ever. I myself had a stomachache when trying to convince myself to stay in the market and actually open new trades. My whole mind and body was telling me to get out and stay out until the market calms down.

Yet it is a wrong approach.

So, how do you trade in the market like this?

 · My money management during panic or complacency

The hardest question for me to solve was how do you stay solvent when markets go belly up so you can stay in the market and actually be buying more stocks or selling more options for premium? If you ask long term investors, many of them are all in when investing and when the market tanks they do not have enough cash to actually buy more.

This was exactly my problem too. I love the current market environment when VIX is at 30 and in my posts I encouraged readers to invest or trade more. But I couldn’t do it myself because I didn’t have enough cash.

The second issue I was facing with was that some of my open trades were in bad shape and I wanted to roll it rather than closing it. But I couldn’t do it, because I didn’t have enough cash.

Then I found on Facebook an information about money management from an experienced trader. I was thinking about it and realized that it was exactly what I was looking for.

In plain English, the strategy is simple:

If the market is high, invest only 30% or 40% of your available cash. If the market is low, invest up to 90% of your cash.

The best way how to determine when the market is high and when it is low is to measure a distance from the all-time high price. Then the calculation is easy:

 

Market off all-time high Money invested Delta Strategy
<5% 40% 0.08 Iron Condor, Call Spreads
5% – 10% 50% 0.10 Iron Condor, Call Spreads
11% – 20% 60% 0.15 Put Spread
21% – 30% 70% 0.30 Put Spread
31% – 40% 80% 0.45 Put Spread
41% – 50% 90% 0.55 Put Spread

 

Today, as of this writing, the market is 10% off (1921.22) of the all-time highs (2134.72). If I use the table above, I can use 40% of all my available cash for trading, I can use Iron Condors or Call Spreads only and the trades can have short Delta 0.08.

Below is a picture of the current setting:

Money Management

As the markets go lower during panicking I can trade more money and be aggressive (higher delta). Why? Because the risk is in the upside rather than downside. If the market falls 40% or 50%, it is more likely that it will go higher than lower, don’t you think?

Same goes with the market at all-time high. You should involve less cash, be cautious (more to the downside).

Of course, now I need to bring my account up to that cash levels and stay trading within those rules.





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