At what point do you pull the plug as a rule of thumb on stock and/or options? [Is it] a point drop or percentage drop? Also, when you give a price target on a position is there a time frame attached to those targets? [For example] XYZ’s target you proposed is 20.00, is that for today, the next trading session, long term?
As a general rule of thumb we pull the trigger on stock purchases when they fall 7% to 8% below our buy price. Now that is assuming we got in on the buy within 5% or so of the buy point. Usually what we are doing is trying to buy as a stock breaks some resistance or bounces up off some support. The resistance should become support, and the support should remain support. That gives us a buffer or firewall between our buy point and a stop point at 7% below that level. That way the stock can test down intraday below that support and not take us out of our position. When we send out stop alerts on the alert system, because investors do not all buy at the same point it is more of an advisory that the stock has fallen 7% below the buy point at X or it has broken through some strong support.
As for options, we have to look at the performance of the underlying stock. Up until very late in the expiration cycle, the price movement is the predominant factor in determining option movement. If the stock breaks key support we will give it a day to recover, but if it cannot we can be assured the option is not going to recovery either. That would be our signal to exit the option trade. If the stock still looks good we will hold the position unless we are in the window where the option starts to lose value more rapidly even if the price starts to move higher a bit. This usually happens in the last 30 days of the expiration. Up to 60 days before expiration time has little impact on the option price. It starts to bleed inside 60 days if there is no upside price movement. Inside 30 days it really starts to fade on you. Thus, if the stock still looks good but is not moving during the 30 day window, we will bail out if the option loses 25% of its value from the time we bought it. As a point of last resort, we will sell an option that gets down to 50% of the value we bought it. It has a long, long way to recover, and the odds are against it. We would rather keep 50% of our money to go look for a good trade than risk losing the whole enchilada on a trade that is not performing. That is part of using your money wisely and getting it to work for you in the right plays.
As for a time frame on targets, as long as the stock is holding the pattern that we are attempting to trade and as long as it is acting ‘properly,’ we will hold it. What do we mean by properly? Again, holding the pattern or the breakout and moving on good price and volume action. That means moving up on rising volume, and when it pulls back, doing so on lower volume. It also means holding support levels whether breakout points, moving averages, trendlines, or other price consolidations. Now if the market is roaring and this one trade goes nowhere, something may be wrong. We may be able to put our money into another trade and get the return as opposed to waiting around. Avoid getting happy feet, however. If everything looks right, if you would still buy into the position today, you should most likely follow your analysis and let the play work.
