Managing Losing Trades
Managing losing trades, what to do when a trade goes against you. Are you worried about losing trades?
Losses are part of our business as traders and every trader needs to learn how to manage losing trades.
Right now, I am in a losing position. I’m actually in a few losing positions, but one of them is really giving me a headache.
So in this article, I will show you how I manage the trade.
During these crazy markets in March and April, I have very successfully sold put options. That’s how I made 43% of my account in just 5 weeks.
When selling put options, it’s not a matter of if you will have a losing trade, it’s about when it is going to happen.
You see, I had 16 winning trades in a row and not a single losing trade. But right now, one of my trades is in trouble.
Now I want to show you what I did, the trade that I entered and how exactly I’m planning to manage this losing trade.
Managing Losing Trades: Hertz Example
The trade in question is a trade on Hertz, and let me show you exactly what it looks like.
Here’s Hertz, and a few days ago, shortly before Hertz crashed down, I sold the 3.50 put for $0.35 and I sold 25 of them.
For each put option, the broker deposited $35 into my account, and since I’m trading 25 options, that’s a total of $875.
As long as Hertz stays above this blue line, which is $3.50 within the next two weeks, I can keep these $875.
However, if Hertz is below 3.50 on May 15th when the option expires, I have to buy 100 shares of Hertz at $3.50.
Since I’m trading 25 options, that would be 2,500 shares.
As you can see, right now, Hertz is trading right at my strike price at $3.50, it’s trading right now here, $3.51.
Of course, that’s not good. However, I will not get assigned yet. Why?
Because the expiration of the option that I traded is May 15th. Today is May 1st so there’s still enough time.
However, you’ll notice that the position is deep in the red. Let me bring up my trading account here.
There you see it. Right now, this position is down $1,875.
I sold this for $0.35 and I traded 25, that’s what you see here, 25 options. And right now, this option is trading at $1.10, $1.10 over $1.15.
So this means that right now I’m looking at a loss of $75 per option. And since I sold 25 options, that’s a loss of $1,875.
Now, to me, that’s not a big deal. After all, as you can see this is a $35,000 account where I am managing the losing trade.
So being down $1,800, $1,875 is a rather small amount for this account size.
But let’s talk about this situation.
What Happened With Hertz?
You see, here’s what happened with Hertz.
Hertz just plummeted shortly after I entered this trade.
This right here is when Hertz went all the way down.
So what happened?
Hertz missed a payment and they have until Monday, May 4th, to negotiate with the creditors and come to an agreement.
If they cannot come to an agreement, they already said that they will probably file for bankruptcy next week.
Now, from my perspective, the creditors would be stupid to force them into bankruptcy because Hertz collateral is cars.
And right now, the used car market is in the trash can. I mean, we have a pandemic going on, right? Nobody is buying new cars.
So there’s no demand for new cars and dealerships are selling their inventory to reduce inventory costs.
So if the creditors take all of Hertz’s cars and do a “fire sale,” they probably only get pennies on the dollar. But hey, it’s their decision, not mine.
Managing Losing Trades: Two Possible Scenarios
Here are the two possible scenarios that can happen on Monday.
Scenario One: Hertz and the creditors come to an agreement, and the stock price poof, jumps up.
Now, in this case, we can try to get out and break even, with a small loss, or maybe even with a profit.
Scenario Two: There is no agreement and Hertz files for bankruptcy next week.
Now, obviously, this could send the stock lower.
I believe the possibility of bankruptcy is already factored into the price right now. This is why it is trading at $3.50.
However, these are the two scenarios for managing this losing trade. And these two scenarios leave us with a few options.
What Are Our Options?
Option number one: We can get out of the trade right now and I would lose $75 per option traded.
For traders who tend to panic and obsess about a trade, this might be a good choice for them when managing the losing trade.
Then they can sleep again at night and don’t have to worry about the trade. But hey, that’s not me, I’m not the panicky kind of trader.
Option number two: I can wait until we get the news on Monday or Tuesday about a possible settlement or what is happening here with the creditor.
Now, I’ll break even on this trade is a stock price of $3.15, and here’s why.
The strike price is $3.50, and when we sold the option, we received a premium of $0.35. We already received this, it’s already in our account.
And if we subtract the $0.35 from the $3.50 we arrive at $3.15. So as long as the price stays above $3.15 we should be good.
We have a buffer of $0.35, therefore, our real loss will be the difference between $3.15 and whatever price Hertz is trading on May 15.
For example, let’s say on May 15, Hertz is trading at $2.50.
In this case of managing the losing trade, we would lose between $3.15 and $2.50, so we would lose $0.65 per option.
Now options come in hundred packs, as you know, and so this means that we are losing $65 per option.
But you see, that is less than selling the option today for a $75 loss. This would be if we sell it today.
So again, as long as it stays above $2.50 until May 15th, we are good.
Main Differences Between Selling Now Or Next Week
When managing this losing trade, here are the main differences between selling today and waiting until next week.
Number one, when selling today, I would realize a loss of $75 per option.
But it could be that I’m getting out at the worst price.
This is why it is so important that I’m willing to buy the stock at the strike price that I sell the option for. In my case, that is $3.50.
Now, number two.
When waiting until next week, there is a possibility that Hertz snaps back and I can get out at a smaller loss and break even, or maybe even with a profit.
So you see only if the stock is lower than $2.50 on May 15th, I would lose more than the $75. This is the loss that would happen if I liquidated today.
And here’s why, I mean, we just talked about it, right? We know that our break-even point is $3.15.
And if you would sell the option today, we lose $75 per option. So we need to subtract this from the $3.15.
This means we would lose the same amount if we sold today, or the stock is trading at $2.45 on May 15th, two weeks from now.
Even though there’s a possibility that the stock might be lower than $2.50 on May 15th, I believe there’s a possibility that the stock jumps up, even if it is only for one day.
This could be based on rumors or based on some takeover news.
If it jumps up just for one day, we can get out of the option at a better price than it is right now.
Most Likely Scenario
The key question is which of these two scenarios is more likely in managing this losing trade?
Scenario number one: Is it more likely that the stock is now dropping to $2.40 or $2.50 and never trade above $2.50 again until May 15th?
Scenario number two: That the stock is jumping up based on some rumors regarding the rescue or takeover.
And it jumps out very quickly, maybe to the $4 or $5 level, we could get out at break-even or maybe even at a profit.
For me personally, option two, that we have this quick jump is more likely.
When selling options, it is absolutely important to have a plan and most importantly, to stay calm.
Because if you panic, you could close the position at the worst possible time and sit on a large loss.
Read Next: Managing A Losing Trade Part 2