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How Much Can I Earn With Options?


I've encountered a group of questions and comments from traders that tells me that traders have a certain way of viewing the world.  These each represent part of the Trader's Mindset.  Today I'll tackle one of those questions: How much can I expect to earn when using options?

I plan to reply to each question and will group them as part of the Trader Mindset Series.  Taken together, they represent how one  trading professional, but psychology amateur, views the psychology of how trader's think.

 

Are You Asking The Right Questions?

I understand the thought process behind today's question, but it always disturbs me.  It's just the wrong question. It would be better to ask any of these:

  • How much time should I expect to devote to my options education before expecting to earn money?
  • How much cash do I need before opening an options trading account?
  • Do most new option traders find success?  Or do most give up?
  • I've never traded stocks or anything else. Will that make it difficult to learn to trade options?
  • Should I learn to trade options or pay someone else to trade for me?

These questions  demonstrate that the person who wants to become an options trader recognizes that this is not a gimmie, and that some time and effort must be expended before rewards can be expected.  The commonly asked question: 'How much can I earn?' suggests to me that the person asking 'knows' success is easy, and that the only thing holding him/her back from joining the game is wondering whether it's worthwhile. 

 

I seldom, if ever, receive a question along these lines: 'What does it take to succeed?'   It's always similar to: 'I'm going to succeed.  How much can I make?'

 

A recent letter from Jo:

 

Is it possible for an ordinary person to generate income from trading options if they are able to sustain themselves for a few months without a job while they learn the ropes? How much can one hope to earn through trading options on the conservative side, and how long does it take to become an expert on average? Is it necessary to purchase special software for options trading (technical indicators and such)?

 

Yes.  It can be done.  You can generate income.  However, when you 'need' the money for living expenses, it often places too much pressure on the investor/trader to succeed, and succeed right now.  That added pressure can will lead to poor trading decisions.  I know you understand. And that's why you plan to have 'a few months' cash in reserve.

 

The good news is that you recognize that profits do not begin from day one.  The not so good news is that you are asking whether it's reasonable to learn enough to make a living – during those few months.  The first answer is that every student has a different ability to learn and some just have a better aptitude and can understand how options work more quickly than others.  So yes, it is possible to produce earnings within that time slot.  But not everyone can move that quickly.

 

To succeed, you must understand what you are trading, and that means taking time to learn options basics. You should have no trouble understanding that options are different from other trading vehicles.

 

But I must warn you that some traders never get the special characteristics of options and mistakenly believe that they can be traded as if they were stocks. Options are different.  Not difficult to understand, but they are different. 

 

If you are brand new to trading, that means there is even more to learn, including basic things such as how to enter an order, how to use your broker's trading platform, the different order types (market, limit, stop etc.).  Someone with stock trading experience is already familiar with those items.

 

Discipline

In addition to how options work, the trader must possess (or be able to develop) certain personality traits. 

 

Jo, if you are willing to learn how options work, and if you believe you can demonstrate the traits listed below, then you may very well be able to succeed.  No guarantees.

 

I do want to mention one important point.  If you expect to make money (income) by buying options and then selling them for profits, let me tell you that this is an almost impossible path.  When earning an income stream, the method of choice is to adopt specific option selling strategies – all with limited risk.

 

Anyone can trade.  Anyone can enter the arena and place his/her bets.  But to have a chance of making money on a consistent basis, the trader must have:

  • Discipline
  • The ability to recognize risk 
  • How much money is at stake for a given trade
  • The probability of losing money
  • Patience to learn before trading
  • Patience to practice what you have learned, usually in a paper-trading account
  • Ability to control your feelings.
  • Fear leads to panic, which results in terrible decision making
  • Greed has you taking too much risk for too little reward
  • Pride has you refusing to recognize that you made a bad trade and must accept a loss
  • Recognize that a few successful trades does not make you a star trader
  • Understanding that you cannot make money every month
  • Understanding that low probability events do occur – just as statistically predicted
  • Recognize that a 90% chance of winning means there is a  very real 10% chance of losing
  • Accept the fact that you cannot make much money when you only have a small sum to invest
  • Knowledge that luck plays a role, and your job is to manage risk when luck is bad

 

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If you are not a member yet, you can join our forum discussions for answers to all your options questions.

 

Now, to your Question: How much can you make?

If you trade high risk strategies, you have a chance to earn a large sum (10+% per month), but that comes with a very high probability of going broke.  High rewards come with high risk.

 

If you are more conservative (as you are), you may try to earn 'only 2-3%' per month.  That's a very good return. Most professional traders cannot earn that much.  Brett Steenbarger once told me that the best professional traders earn 'in the low (emphasis on low) double digits' per year.  That sounds right to me.

 

Going by that, earning 1% per month is a realistic target.

 

However, to give you a better answer, I must ask: How much cash do you have for trading?  This is a key question that most beginners ignore.  They assume they can earn the same amount of money, no matter how much cash is in the account.  This is a huge fallacy. Why?  When you begin with a small sum, the risk of ruin, or the probability of going broke, is very large.  When you have extra cash, you can withstand a string of small losses and still stay in the game.

 

Also: When you have a small account, if you have outstanding success and double the account in one year, the total dollars earned is small.  It does take money to make money.

 

Thus, I repeat, how much cash do you have?  If you have $10,000 and can do an excellent job and earn 2% every month, that's a grand total of $200/month.  That will not take you very far.  I assume you would want to earn a minimum of 10 to 20x that amount.  To do that you would have to take big gambles.  There's a chance that you could have a nice win streak and quadruple your money in a year or so.  But the most likely outcome of seeking such huge returns is the loss of all your capital.

 

Yes Jo, you can do it.  If you have the patience.  If you take the time to learn and are not rushed into trading.  And if you have sufficient capital to give you a realistic chance.  If you lack the capital, you can still learn and trade part time.  If you grow the account, if you save more cash over the years, if you show the talent and discipline, you may eventually have enough to try trading full time.

 

I wish I could offer better encouragement, but trading is not a business for everyone.  Being a successful investor can be very rewarding over the years.  Trading full time is different.

 

Becoming an Expert

On average, far more traders go broke than become experts.  Very few become experts. This question depicts another trader mindset that I believe demonstrates no conception of reality.  How long does it take to become an expert?  A lifetime. 

 

Experts are few and far between – assuming that by 'expert' you are referring to someone who knows how to make money and then actually makes it and keep it.  With that definition, few are experts.

 

Trading is a game in which you are continually learning.  And that's important because markets change over time and if you still do whatever it is that you are an expert at doing, eventually it will no longer work and you will cease being an expert.

 

It is not necessary to become an expert. You do not have to earn more than the next guy.  In my opinion, you can do well (earn decent income) if:

  • You have the ability to understand how options work.  This is not difficult, but some people just don't have the head for it
  • Trade with discipline and overcome emotions.  Fear and greed are harmful.  It takes a while to overcome those and trade with confidence
  • You take the time to practice.  That means using a paper-trading account with fake money.  But to gain useful experience, you must  believe it is real money and trade accordingly
  • If you don't have to win right now, you need the time/patience to learn.  I don't know if a few months are enough.  That depends on you

 

Technical Indicators

No.  I have NEVER used technical indicators. I know that some traders are very skilled in doing just that.  But they do not learn overnight, and anyone who tells you it's easy to learn is not telling the truth.

 

I use no trading software, other than risk management software supplied by my broker.

 

I suggest getting started by reading or attending some free seminars.  If you like what you read and hear, if you understand what you see, then go for it.  Plan to spend some time in the education mode.  Especially if you set a few months as the time limit.  There's no time to waste.  I wish you good trading.

 

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