Quote from Hoofhearted:
Please correct a noob, but couldn't this the case with any options trader, and not just spread traders?
I think I get the point, though, that it's always better to at least have the option to take ownership of a stock, even if it's shit, and hope for a recovery.
Is the point you are making here, that most spread traders are completely ignorant to the fact that they are using leverage, and just don't realize that their options are nil for recovery if the trade doesn't go their way?
I think I get that, and I'm a dumbass
No, it's pretty much just spread traders. But that includes "spread type trades" as well, such as Iron Condors.
Any other type investor knows when he is using leverage.
Saying "most" spread traders are ignorant of the amount of leverage they are using may be the wrong word. But many certainly don't. But perhaps "most" is the correct word. Particularly those new to the strategy.
DS said he was doing spreads for years, before he finally acknowleged he had no idea he was using margin leverage. Let alone 5 - 10 times his account value.
Perhaps that's because he had been successful at it.
It's generally only when things go bad that you find out.... when your broker informs you that you've lost 60 - 90% of your account value.
<<< I think I get the point, though, that it's always better to at least have the option to take ownership of a stock, even if it's shit, and hope for a recovery. >>>
Exactly.
Obviously if your stock is down 50% you probably don't want to buy it, and you're happy to close the spread, and take a total loss.
But if your spreads are only down a small % below one or both strikes, it's nice to have the "choice" of buying the stocks.
Because if you can't buy, due to your using leverage of 5 - 10 times your account value, then your only "choice' is to close the trade for a loss.
And depending on how deep you let your stock(s) get between your strikes before closing the trade,.... the loss of your account value could be severe. Perhaps even 90 - 100%.
(But that 90 - 100% figure assumes all or most of your stocks are deteriorating, due to some market event).
I'm NOT refering to the trader who does the "occasional" spread. I'm talking about those who use credit spread type strategies as their prefered mode of investment..... either mostly or entirely.
That type investor is using margin leverage of at least 8 - 10 times his account value..... if not more.
(Unless they are only using strikes in the 5 - 15 dollar range).
That 8 - 10 times of excesssive leverage may not be a major issue for most, if they are at least "aware" of the amount of leverage they are using, as he will intelligently "manage his risk", and close those deteriorating trades early.
It's the folks who have no idea they are using margin of 8 - 10 times their account value who get severely punished, or "wiped out", as they tend to let their stocks drift too deep between or below their strikes, before thinking about closing the trade.
