Managing Portfolio Risk
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One secret to trading options is to manage risk. Stocks have linear risk. If a stock moves a point then you have made or lost a point. If an option moves in a certain direction then the delta may accelerate and it may go against you more than expected. The key to managing risk in an option portfolio is to control position size. There is no such thing as a perfect trader. Everyone loses sometimes. The key is to not lose too much on any one trade.
My technique is to reserve 20% of your account cash for emergencies. For an option trader an emergency is defined as an early assignment of an option position or a margin call. The remaining 80% of your cash can be used for margin on any positions you may sell. My general preference is to collect premium so selling options is my general bias. My recommendation is to diversify into as many positions as you can reasonably handle. For some this may be 10 or 20 positions. For me it is usually about 40. Obviously if you have 10 positions then your typical trade size is 8% of your account. If you have 40 positions then the 80% actively traded results in only 2% allocated to each trade. Ultimately the key is not having too much at risk in each trade.
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