I didn’t do any chart reading practice today, at least not ‘officially’. I did do a few playbacks on Amibroker, trying to absorb price action subconsciously, see if I can spot any pattern. Not much luck.
Spent some time reading “100 baggers” by Christopher Mayer. Also watched some Al Brook’s free training videos. https://www.brookstradingcourse.com/free-sample-price-action-trading-videos/
In one of his videos, he mentioned a good risk reward ratio is 1:2, target to earn $2 profit for every one dollar risk. So far, I’ve been doing a 1:1 R:R ratio. Given my slightly better than 50% win rate, my performance has been kind of mediocre. But I’m working towards improving my win ratio, collecting my performance statistics to determine what type of trades I do better in and so on.
Why do I use a 1:1 R:R ratio? The main reason is because I intend to trade using OTM options that are less than two months from expiry. If I choose a higher R:R ratio, I need to wait longer to take profit, resulting in time decay eroding the value of the option even if I am right. My ideal trade is one that takes less than 10 days to reach the profit target. I did a simulation. If the stock can reach TP in a short time, buying OTM options gives me the highest percentage gain. If I loss, the percentage loss is less than 100%. If I win, the percentage gain can be up to 300%.
Using options offers me the best leverage. As my position size is based on the amount at risk, I will not be able to initiate multiple positions simultaneously if I buy stocks.
For instance, suppose my account balance is $100k and I intend to risk 5% per trade (i.e., $5000 per trade). Say I plan to buy a $200 stock with a stop loss that is $5 away from my entry price. With $5000 at risk, I can buy 1000 shares. However, 1000 shares is going to cost me $200k, which is double my account size (without considering any form of leverage).
Options offer me the leverage that I need. I can use the $5000 to buy OTM options. If my stock moves $5 in my favour, the option gets closer to being ITM and delta increases. Conversely, if the stock moves $5 against me, the option gets further OTM and delta decreases. Hence, even with a 1:1 risk:reward ratio, I believe the increase in option price when I am right will be greater than the decrease in option price when I am wrong. However, the assumption is that time decay does not erode the option price significantly.
I know this strategy requires me to not only be right, but to be right fast. Setting myself up for failure? No. If this does not work, I will explore other options. The key is to get better at reading price action. How to play the market is secondary at the moment.
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