How should a beginner options trader manage their risks?

Thinking realistically about results, implementing technical strategies like spreads, butterflies, risk reversals can help to manage risks better. In this article, we’ll dive into risk management, focusing on how to deal with risks as a beginner options trader.  

To explore this topic, Chris Douthit from Options Strategies Insider and Kim Klaiman from Steady Options will provide us with some of their experiences.

How should a beginner options trader manage their risks?

How to approach risk management as a beginner

Markets do not always make perfect sense: this means risk-reducing techniques are almost a must for all traders. A good idea might not work just days after investing, like the story about Chipotle below. 

“To be a successful options trader, you must be able to manage risk. It starts with making good decisions about your investments. For example, don’t jump on board every good idea you hear. It’s essential to research every trade and understand what you’re doing and why you’re doing it. Just being able to eliminate bad trades from your portfolio will have a huge effect on your performance.

However, even if everything about the trade makes perfect sense, applying the appropriate strategies is essential for managing risk and long-term success. This means implementing spreads, iron condors, butterflies, risk reversals, or other options trading strategies geared towards profit, but will also reduce risk by capping your max loss and lowering your upfront costs.

As an investor, you should always think about your money, invest intelligently, and be realistic about your results. Don’t make the mistake of being too aggressive or putting too much money into any single idea. Remember, no matter how good an idea is at the time, things can always turn on a dime.

Think about the investors who had big bullish bets on Apple when Steve Jobs retired. Or about the investors who thought Chipotle, which had a fantastic bullish setup right before several customers came down with food poisoning.

Rookie options traders are naturally drawn to trades that have massive returns. But what they often overlook is that significant returns are accompanied by considerable risk. It starts with making sound investment decisions for your portfolio, then applying the appropriate hedged options strategy, so you can still make large returns while keeping your portfolio safe.”

– Chris Douthit, Options Strategies Insider

Let’s see Kim Klaiman’s take on risk management:

“We manage risk mostly by position sizing. The position sizing depends on the strategy and based on the maximum amount we are willing to risk per trade.

For example, if we are willing to risk 2% of the account per trade, and a certain strategy typically loses no more than 20%, we will allocate 10% to trades using that strategy. For more risky strategies that can lose 40% we will allocate only 5% of our account.

In addition to position sizing, we hedge our trades. We trade spreads only, never naked options (long or short). Specifically, the Anchor strategy is always hedged with put options.”

– Kim Klaiman, Steady Options

How should a beginner options trader manage their risks?

Where to look for more?

Hope you liked this quick rundown on what options are. If you’d like to go deeper, navigate to one of the articles below:

  • What is options trading?
  • Options trading examples
  • The pricing of options
  • Options trading for beginners
  • What are the benefits of writing an option?
  • What is a binary option?
Compare brokers

Compare broker tool

Compare selected brokers by their fees, minimum deposit, withdrawal, account opening and other areas. Filter according to broker or product type, including stocks, futures, CFDs or crypto.

Best Brokers
Broker Reviews

Compare broker tool

Compare selected brokers by their fees, minimum deposit, withdrawal, account opening and other areas. Filter according to broker or product type, including stocks, futures, CFDs or crypto.

Education