A common philosophy among stock market players is that investing should be boring. If it's not, then you're probably gambling. The question is, what exactly does boring indicate?
You need a system of some sort to identify opportunities in the stock market and execute a well-laid-out plan. The best system for shorter time horizons is a mechanical system that takes your head out of the mix, thus giving you the ability to execute your trading plan without emotions when good technical signals emerge.
The theory goes that if you continue to find the same opportunities repeatedly and you execute your trades systematically, you will increase your probability of success and create wealth over time.
Even Warren Buffett has a system that involves finding opportunities in good companies with solid balance sheets that he deems "undervalued" in the marketplace. His system for determining what constitutes an undervalued stock is what makes his system work so successfully for him. When he plugs the numbers in one end of his equation and they come out the other end as a "bargain," he executes his plan without fail or fear.
Now each of us may not have the same long-term time horizon as Warren Buffett, but we can adopt a systematic approach to investing that will have a higher probability of success than just blindly chasing stocks and jumping around between too many strategies we may not fully understand.
So What's the Plan?
Options traders need to keep a close eye on time decay when trading directionally. Since options are simply contracts that expire, they're essentially a wasting asset. This means we need to be concerned about shorter time frames.
Therefore, fundamental analysis really doesn't make much sense unless your time horizon is more than a couple of years. In which case, go ahead and buy that paper company or shoe titan and hang on. However, if you plan on trading options, a mechanical system needs to implement strict rules of execution based on technical and sentiment analysis, combined with a strict money management philosophy.
The following is a suggested three-part trading setup up for directional option strategies:
Use scanning software that utilizes technical analysis to search the 2,500 optionable stocks for the best candidates. Not only should you be able to identify the directional bias, but you should be able to identify the candidates' price targets and the likely time that it will take to get there with the highest degree of probability. There are many good programs out there. Just make sure you use one with forward indicators that allow you to make those crucial price target projections.
Use options analysis software to look at the implied volatility of the options and investigate the optimal strategy to use for your trade. With a plethora of strategies available, we need to be able to quickly ascertain which one would further increase our chances of a successful trade. Once you've identified the best strategy, look at a picture of the risk curve and assess the best risk-to-reward profile for the trade, as well as its likelihood of success.
Place your order with a broker who will provide you with the best fills on your orders and assist you promptly with service issues that could cost you precious time and money. And consider using an online broker.
Like everything else in life, trading requires planning. The best traders will use whatever tool is necessary to implement their methodology.
Many people mistakenly assume they can just hit the ground running and make a lot of money in the options markets simply because they read a book on the subject or learned a couple of new strategies. But like a good carpenter, a successful options trader will use tools to save time, money and aggravation.
Kevin Lund is a staff writer and trading strategist at