How to Create a Winning Option Strategy
Building an option strategy comes down to four steps: choose analysis tools, pick a strategy structure (such as a spread or straddle) that fits your market view, diversify, and set risk limits before you trade. No strategy guarantees profits; the goal is a repeatable process with losses you can survive. This article gives an overview of each step.
Investment Tools
The first step in options trading is choosing tools for analysis and planning. Common choices include technical analysis tools, option chain and Greeks data, and payoff calculators. Technical analysis is used to identify trends, option chain data shows prices, implied volatility, and Greeks for each strike, and a payoff calculator shows the profit or loss of a strategy at expiration.
Strategy Planning
Once the right tools have been selected, strategy planning is the next step. Options traders should have some knowledge of options spreads and straddles, which are two different forms of strategies used to trade options. Matching the strategy to your market view (direction, volatility, and time frame) determines its risk and reward. Investment strategies should also include risk management techniques such as stop-loss orders, profit targets, and other techniques to help control losses.
Portfolio Optimization
Diversification limits how much any single position can hurt an options portfolio. Traders can spread positions across different underlyings, sectors, expirations, and asset classes. Diversification can reduce risk, though it does not guarantee returns.
Risk Management
Risk management sets how much you can lose on each trade and in total. Risk management techniques should involve looking at a trader’s capital base, how much risk one can take per trade, and diversification of investments. Additionally, traders should consider the use of stop-loss orders and other risk management techniques to reduce the potential for large losses in case of market fluctuations.
Using MarketXLS to plan option strategies
MarketXLS is an Excel add-in (also available for Google Sheets) that pulls options data, such as option chains with =QM_GetOptionChain("AAPL"), along with technical indicators like =RSI and =SimpleMovingAverage into your spreadsheet. You can use that data to plan strategies and track the Greeks and profit or loss of open positions. The Standard plan provides end-of-day options data; real-time options data requires the Advanced or Business plan.
For ready-made options models, browse the MarketXLS templates or try the options profit calculator.
This article is educational and is not investment advice.
