Mailbag: Your Options Questions… Answered

We asked… and you delivered.

In yesterday’s issue, we did a bit of myth busting.

We showed the immense value of adding a conservative options strategy to a portfolio… we busted some dangerous misconceptions… and we even showed how we’ve put these ideas to work.

But we aren’t naive.

We know one furlong doesn’t win the race and one essay doesn’t sway the wary.

We also knew you’d have questions.

And, boy, did you.

The mailbag lit up.

But not everything ended with a question mark. Some readers got right to it.

I have no clue how to trade options! Reader M.F.

That’s it – right there in the subject line. No questions… no further commentary… just a bold statement at the top and an empty email.

We scratched our head.

Does M.F. want us to do it for him? Is he mad at us? Or is he begging for our help?

The first two we can do nothing about. But we can help. In fact, we’d love to.

We’ll start with these three simple words… just try it.

Start by watching this video.

And then take a hundred bucks, head over to your broker’s website and make a trade. Just try it.

You may run into obstacles. When you do, find your way around them… and try again.

If you can buy a stock (everybody can), you can buy an option.

When to Sell

Here’s proof that the logic is sound.

The recommendations on WORK were awesome, I sold half to cover my entry and the remainder should be profits. A couple of quick questions: First do we watch for the stock to reach right above the 52-week average and then sell or would you rather we wait for your recommendations?

Secondly have you or do you know anyone in your organization that could help with option training or webinars to cover all kinds of options? I always admire your honesty, integrity and hard work for people like me. Thanks always. – Reader S.S.

Good stuff, S.S.

We get that first question a lot. In fact, it’s not buying an options contract that’s tough… We say the hard part is selling – more specifically, knowing when to sell.

That’s because there’s no set formula.

It’s true that, within Manward services, we tend to lock in a winning trade by selling half of our position when it doubles in value (we did it again yesterday, with another 298% win). But it’s what to do with the rest of the position that causes some head-scratching.

To answer the first question above, no, don’t sell based on any technical indicators. In a momentum-driven market like this one, that can be trouble.

Instead, we must focus our selling decision on three things – time, volatility and, what a lot of folks miss, upcoming catalysts.

If, for example, a company is going to announce its latest earnings right before an option expiration, we’ll likely hold on to the play (especially if we already locked in big gains) to take advantage of a sudden surge in value.

Each play is different. That’s why the second question above is so important. With options, you need to either put your own time and research into a play… or follow somebody you trust.

As for who we recommend for training… well, we hate to toot our own horn, but after the bevy of questions we’ve received over the last few days, we’ve been spurred into action.

We’ll share more on what we plan to do in Monday’s essay.

If you want to learn options… this will be a grand opportunity.

When Everybody Sells

On the subject of selling, here’s another question we get nearly every day.

I see today’s Rooster Crow gives a link to a video on trailing stops. Agreed, it’s a simple procedure, but my question to you is based on my belief that in order to sell a stock, someone has to agree/want to buy that stock. In other words, I can’t sell a stock into thin air with no buyer. Now the problem is, what if a large number of people following your advice have a 25% trailing stop on a stock that experiences a sudden huge price drop (big enough to trigger everyone’s trailing stops at the same time).

What if there isn’t a sufficient number of investors who are willing to buy this stock, which is obviously going down? What happens to all the trailing stop sell orders? How does the market handle this? I would like you to address this question in your daily Manward e-letter. Thank you. Reader C.N.

Easy. When nobody wants to buy something, the price drops until somebody does want to buy. In large, liquid stocks, this is rarely an issue. In small stocks with limited trading volume, it’s still rare, but it can happen.

Here’s the thing with the question above. Sure, lots of folks will have trailing stops on their position. It’s a smart and proven way to minimize risk. But very few folks will have their stops set at the same price. You may have bought at $12, while we may have bought at $10. Our stops are far apart.

The only time we see investors forced to sell at a price well below their 25% trailing stop is when catastrophic news hits a company. But even then, we’ve seen it once or maybe twice in our career.

It’s a concern… but it should never keep an investor out of the market.

And besides, the opposite is true, too. On Monday, we locked in gains on a play where buyers far outweighed sellers, and shares zoomed by more than 20%… by lunch!

But Only If You Like Mediocrity

One more because iron sharpens iron.

I love your column and the wisdom that spills from its pages. That said, I feel compelled to comment on your advice encouraging readers not to pay off their mortgages.

I’m a lawyer (don’t hate). I spent the better part of 20 years representing investors who had been defrauded by unscrupulous stock brokers, investment advisors or brokerage firms. A common theme among them was that their advisor encouraged them not to pay off their mortgages, but rather turn the money over to the advisor to invest.

And then the money’s gone, but the mortgage remains. I’m now retired. But if I had a dollar for every time I listened to a client say “if only I had paid off that mortgage…”, I could have retired much sooner.

It’s hard to put a premium on the peace of mind that comes with knowing you own your home outright. No matter what happens in the market tomorrow, you will still have a place to lay your head tomorrow night. I don’t have a mortgage. I never will. I sleep well at night.

And yes, I know, the opportunity cost… There are some opportunities I simply can’t afford.

Thanks so much for your column. Reader R.K.

Write this down… We’ve never said it before and may not say it again. The lawyer makes a fair point.

There’s one simple reason you should put your excess cash into something other than your mortgage: It can grow faster elsewhere.

But if that’s not the case – if you’re a lousy investor or can’t spot a crook in the dark of night – then surely pay it off.

But like R.K. said, there are trade-offs.

Mediocrity is the chief among them.

We won’t stand for it, but some folks will.

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