Today we’re going to talk about the art of adjustments.
A lot of people love to adjust and often ask questions like this:
- When do I tweak my position?
- When do I make an adjustment?
- Why do I make an adjustment?
People want to constantly tweak and fix things – especially us guys. We love to fix things, and sometimes that’s a good thing. If your door is broken in the house, it’s good to fix that door.
However, when it comes to relationships and stock trading – sometimes fixing it is not the right approach.
The Adjustment Concept and No-touch Method for Options
Here’s the difference between these two.
In no-touch, you look at your goal and target what you’re trying to make. And you either win, or you lose. It’s a win-lose situation, and you set your goal, and that goal could be $120, and your loss could be $180. You either win $120 or you lose, maybe $180.
This loss could be a little less as well. You could say that your loss might be only $80, depending on the trade. If it’s looking like it’s moving against.
That’s the no-touch method. You’re not doing any adjustments.
The other approach to this is looking at an adjustment. If you look at an adjustment, you still should have a goal. This goal could be $120. Your loss area still could be around – $180. But now you have an adjustment.
You might ask: How do you play that into your plan?
And that’s what most people don’t have. They don’t have a plan.
How does this work.
Well, you have an adjustment point of before you get to a loss of $180. You adjust it. Your loss pf $180 is still the same. The only difference here is at – $70 if the trades are not working in your favor, now you make that adjustment.
If that – $70 turns into – $180 or – $200 all of a sudden, you’re still out.
The main difference is you’re adding, and you’re willing to be a little more flexible, but your initial trade plan still stays the same. That’s the big difference between the adjustment or the no-touch concept. And if you’re brand new if you’re starting with options, use the no-touch method, so you put a trade on, and you’re either winning on it, or you’re losing on it.
You’re not touching it, and you’re not doing adjustments. But as you get better, you make an adjustment, but you have to have that plan in mind.
Calendar Spread Example
Calendars are easier to chat about when we talk about trades. That is because there are only two contracts, and it’s not like an iron condor that has four contracts.
Take a look at it right now the stock is around 214 in price. I put a calendar on at about 220 and let the theta continue to decay. Let’s say that trade is moving around. Well, for me, the danger zone in this trade is probably somewhere over here because getting outside or close to the end of my breakeven.
And probably somewhere over here as well.
These areas are a problem area. And sometimes what happens is volatility also plays a role. If this trade all of a sudden starts to move here against me and volatility drops quite a bit now, I’m starting to lose on that trade.
The most I’m willing to lose is about $180. Let’s say if I’m looking to make an adjustment, and I probably adjust that – $70. I could do it a little before; it could be – $50. That way, I don’t lose $180 — the stock’s getting close to outside my range here.
And in this case, what I would do is if we’re going outside the range and getting close to the edge, I could put on another calendar spread.
This won’t be perfect because now it looks like I have a profit just because the prices are not even or perfect at this exact moment. But really what I would do is create that overlapping trade creates another calendar spread over at this 250 mark.
I create another calendar right here, and as they overlap, that helps save my position. Could you overlap one a little closer if you think the stock is going to pull back? Yeah, you can.
Could you do it even further? Yeah, you can. Sometimes it’s easier to take the initial position off and reset it. If you’re bumping up contracts, let’s say we’re doing three or four positions, now you’re down $90.
Instead of being out $180 at around this $70-$90 mark, why don’t I do an adjustment? I’ll put a couple of contracts on. Now keep in mind that the pricing is not perfect here.
Get to The Safe Zone
I’ll put on this trade and spread, and now it cushions my new position. It adjusts to my new position. I’d still be down maybe $90 or $100, but now it allows me to get a higher theta premium. Now my Vega will creep up.
And my position is in a safer zone. I might be able to make more money because of that theta. That’s because on a per-day basis now it decays for me. But I’m also in a safer position. If we’re down $93 initially, we still are down $93, but my position is in a safer zone. Now after a few days, you might be up to $50 again if the stock continues moving around in this area.
And now it allows you to catch up. My initial trade plan is that I’m willing to lose $180. If that’s my initial trade plan, and if I get to $180 after that initial adjustment over here, I’m out completely. That was my plan.
The only thing that adjustment allows me to do is it allows me to save my position so that I could potentially save this trade. Because now I’ve widened that room. Keep in mind, if this continues to go against me, those losses could creep up pretty quickly.
That’s why that second calendar, well, I could save it because if it pulls back a bit and I decay a little bit more, I could make $230. That’s because I have two calendars working for me or two sets of calendars working for me. And I can win that trade.
That’s the big picture behind these adjustments. When you think about the adjustment, you have to have an initial plan in mind. And most people don’t have an initial plan in the back of their minds.
They go into this and thinking that they need to adjust here and there. But the first question is this: Should you be adjusting?
If you look at your initial plan and if that wasn’t part of the plan, then you don’t need to be adjusting. Then you have no plan. You need to take the trade-off and start from scratch.
But if that was part of your plan, then that’s the whole point behind the adjustment. Being able to save your plan, to stick to your plan, to be able not to lose as much or to save that position is crucial. However, a lot of people go into thinking about doing adjustment over and over again. And they forget the most critical point.
- How many adjustments are you going to do?
Well, that brings you back to the initial thought, which is your plan. If you have a plan, if you got an idea, your loss is not as big.
And if that loss from your initial plan after your adjustment hits it, then you’re just out.
Otherwise, you’re sticking to a no-touch method. If it hits $120, I’m out. If I hit $180, I’m out. Either way, that’s the scenario, and that’s what you’re doing.
I hope this was helpful and insightful for you to understand the concept behind adjustments. It’s not just that you adjust at this point and adjust at that point. You do it with a plan in mind and with a thought in mind.
If you’re doing it without a plan and a thought, then what’s the point of the adjustment.
You have to have an idea and a concept for a strategy in mind.