Updated: Sep 14, 2019
Ever think about your probability of winning (or losing) on a trade before you enter it?
I believe most people don't.
Or in some cases, investors just feel "pretty good about" their chances.
But does feeling "pretty good about" it translate into actual odds?
But did you even know you could figure out your odds before making a trade?
For most investors, they typically know the odds of a stock trade are 50/50. There's only two outcomes - up or down, from the moment you enter.
So right off the bat, you don't have more than a 50% chance of winning. And that's even after you've done your due diligence of research, chart reading, watching CNBC, etc.
But why settle for 50/50 odds when I can show you how to get as high as 95%-100% chance of profitability?
Below is a study done by the Chicago Mercantile Exchange (CME) between 1997-1999 in which the buyers of S&P 500 and Nasdaq 100 put options lost their investment upwards of 95% of the time.
As shown in the graphic above, buyers of put options on the S&P 500 and Nasdaq 100 had their options expire worthless on them 93.9% & 95.2% of the time, respectively.
What does that mean?
It means that option buyers lost 100% of their invested funds up to 95.2% of the time. That's horrible!
So why do they keep doing it, even today? Because I believe these option buyers just have no clue how likely it is for them to lose.
Said in another way - they don't know their probabilities.
As sad as that seems, and as bad as I feel for them, in all honesty, it's these not-so-smart option players that have lined my pockets and kept me in business for the last 27 years.
Sorry! But not really.
I mean, if you're going to enter a cutthroat arena such as the options market, you better know what you're doing.
I'm not a proponent of option-buying, especially when it's out-of-the-money options (OTM).
The only option-buying strategy I recommend is the DITM strategy I wrote about here.
Buying OTM options has such a low probability of winning, but it's so enticing at the same time because it can quite literally cost you only a few dollars to enter the trade. The lure of the "lottery play".
But let's take a closer look at why buying OTM put options is such a losing proposition.
In order to win at option buying, you have to not only get the stock's direction correct, the magnitude of that direction, and also need to predict the exact time frame (expiration date) of when the stock will move.
That's just too hard.
I harp on put-option buying more than call-option buying for one lone reason - the stock market historically moves higher over the long-run.
When you buy a put option, you need the stock to go down in order to be profitable. If the market historically moves higher, then you're already fighting a losing battle.
But inexperienced option investors don't seem to heed that historical fact.
Sorry! But not really.
Let's take a look at our trusty probability calculator to really bring it all home.
Below are the odds of Amazon stock (AMZN) falling from its current price of $1,502 per share down to $480 per share by the June 21, 2019 option expiration date.
As you can see from the two circled areas, AMZN has a full 0% chance of falling below (and staying below) $480 by June 2019.
Said in another way, it has a 100% chance of staying above $480.
Why does this matter? Because even though there's practically no chance of AMZN falling that far, someone still believes it can, and is willing to pay $.40 per contract for that June 2019 $480 put option. That's $40 actual dollars in your pocket ($.40 per contract x $100 option multiplier).
You can easily collect $40 (or more) for each put option you sell to them. Or, collect an easy $400 if you sell 10 contracts.
Of course you'll be obligating yourself to buy 100 shares of Amazon stock at $480 per share for every option contract you sell. But would buying Amazon at $480 be bad? Could be the buy of the century.
But what you should really take away from the calculator is that someone actually thinks Amazon will fall from $1,502 all the way down to $480 in the next 7 months. That's why they're paying $.40 per contract for the put option.
Are you kidding me? Guess they don't realize their odds of losing is 100%.
Sorry! But not really.
These are the types of situations we take advantage of in our Smart Option Seller service.
We sell OTM put options at levels in which the stock has a very low chance of falling to. If the stock doesn't fall that far, we keep the buyer's bet.
If the stock does fall to the level, we not only still keep the buyer's bet, but we also gain the opportunity to buy the stock on the cheap. Great deal all around.
Want to join us? We have a few slots open and you can see more details here.
What do you think?
Give me your comments.