The All Star Options newsletter is completely AI-Free. Not a word you will read here was generated by an LLM. All words are typed by my boney, imperfect fingers, as a translation of thoughts from my wildly imperfect brain. Trading is messy, and so is real writing. You're welcome.
Hello again, Spirit Animals.
Do you hedge?
Are you good at it? Cuz I suck.
Bad.
Here's what I repeatedly do: When my "hedges" are working, I habitually start thinking "I should increase my size on these things." And that is always -- eventually -- the beginning of the downfall.
Case in point:
In my short-term options trading account, I'd been employing broken-wing butterfly (BWB) spreads in SPX as a bearish-to-neutral hedge against my mostly net long portfolio. A typical BWB PnL graph looks like this:
As you can see, this spread profits if SPX doesn't go up too much, goes sideways, or if SPX falls resulting in my options expiring worthless and I keep the credit I collected when I put the trade on. Where it gets hurt is if it rips higher (or more likely, if we have an overnight gap above the "adjustment point" -- which is the level where I would close the spread (take the L) and then reposition in a new spread.
From January through early March when SPX was going sideways, this hedging strategy performed its job as you can see in this chart of SPX:
And then, beginning in early March when SPX began its slide, it performed EXTREMELY well. So well, in fact, that I decided in late March to get bigger and do more of these trades in a separate margin account.
Cue the grim reaper...
You can see what happened next with the red arrow.
I've been out for a few days now, thankfully. These last two days would've been excruciatingly painful had I stuck with my positions. Instead, I'm flat. Escaped with profits overall in this strategy since the beginning of the year, but WELL off the highs.
Where did I get in trouble?
I lost my why.
I lost the fact that I began doing these trades as a hedge. Nothing more. They weren't intended to be a profit center or an alpha driver. They were simply intended to offer some zig when the rest of my portfolio might be zagging.
Instead of gratefully accepting the profits provided when I needed them to balance out a struggling portfolio, I got greedy and paid the price.
Nothing like sticking your hand on a hot stove to remind yourself to PAY ATTENTION!
I'm sure I'm not alone in getting too far out over my skis in something. What mistakes do you keep repeating in spite of being taught the lesson over and over again? Let me know. I'd love to commiserate with you.
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