Wow! Like the title said, this week I've gotten the Rick Flair "Whooo" smack to the face from the market. Last week was the 3G mistake and this week an unlikely probability actually happened with a BIDU trade I made. Months of gains down the drain! But I'm by no means ready to call it quits. I want to learn from my mistakes and try to get better.
So like I mentioned, a week or so ago I placed a 95/100 spread on Baidu (BIDU). BIDU is like Google of China. It had been trading in a tight range since about February of this year and the probability of it breaking 95 by May 18th was fairly low. I followed all the general rules I've previously wrote about and everything looked good so I pulled the trigger. Then out of nowhere this week BIDU announced its acquisition of a company called PPS Net TV. Apparently the market liked the purchase because the stock reacted to the positive. When I saw the quick movement I read the writing on the wall and exited my trade for a loss. BIDU closed on Friday at 95.45. This stock may be at 100 by the end of next week which would be a catastrophic loss for me if I held on the position. I could have rolled the position over to a later month but that just didn't really seem to make sense. Take you lumps and go home!
The real question is how can you avoid having months of gains only to lose a big chunk of it with one bad outcome? I don't think you can EVER take all the risk out of playing the market but in the case of what I'm doing some adjustments can be made. So after pondering about it the last few days I've decided to adjust my rules as such:
1. I will no longer write options on individual stocks. I will only use major index tracking ETF's like SPY, IWM or QQQ. This rule will hopefully avoid the sharp increase in volatility that comes with unanticipated news for an individual stock.
2. I will adjust my monthly income requirements to 1% per month to include commissions. 12% per year still isnt too bad.
3. I will only make trades where the short strike (95 in the case of the BIDU trade) is at least two standard deviations from the current price of the stock. This should make the probability of losing only 1-2%.
We'll see how things go! Have a good weekend everyone. I'm going out to work in the yard!
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