I laugh when I think back about those times because my dad — he really loved Options Hotline, and he would say to me, “Sonny, they’re the only one’s that have super leverage and it’s the only sensible way to speculate.” And I would say things to him like, “Dad, how could you do this?”

Options Hotline was the least favorite to me of all the work he did. I said, “How can you possibly recommend that people buy a wasting asset?” And he would say to me, and I say this to my own children now — I have a 17-year-old son and a 13-year-old daughter — and I find myself saying this to them. He looked at me and he’d say, “Parents are the bones upon which children sharpen their teeth.”

Now I’ve been editor of the Options Hotline. I’m in my ninth year, and I’ve come to feel so passionately that using super leverage is the only sensible way to speculate that I find myself here speaking to you about it. So it’s funny the way that life works that way.

First let’s get something clear. What I’m talking about is speculation. Investment has to do with time. You invest over time. Speculators profit from changing prices in a short period of time, and what I’m concerned with is pure speculation. Even though I’m a mild mannered vegetarian living in Southern California, and there’s not much New Yorker left in me, out of all of Agora’s services mine is the highest risk and highest return. It’s the most aggressive of all their services and that’s because it uses super leverage.

Now leverage is an important tool for speculators. It involves using other people’s money to try to make more money than you can with your own funds. Using OPM, or “other people’s money,” may augment the rewards when you’re right, but it also greatly accelerates your risk of loss when you’re wrong as they find out in the futures markets and the mortgage markets. But, if leverage can be applied with an always known and strictly limited risk, it begins to take on a more sensible aspect. It becomes super leverage. I define super leverage as the art of profiting from changing prices with a limited risk at all times without ever getting a margin call, without ever being asked to put up additional funds, without ever being forced to liquidate a position.

The instruments of super leverage are exchange traded put and call options. They’ve been trading in Chicago for over 30 years now. The buyers of puts and calls are the only ones who possess the full profit power of super leverage — only the buyers. The advantages are you don’t have to be a financial wizard or have large sums of money to buy an option.

Now people ask me, “Why don’t you recommend more complicated options strategies?” And my answer is that sometimes the simplest strategies are the best.  When you start doing spreads and mixing buying and selling options at the same time, you can still have a limited risk but you’re also limiting your reward.

Only the call buyer or the put buyer has a strictly limited risk at all times with an unlimited reward. And the risk is always known to you, and it’s always limited to the cost of taking your position or making your bet. Now some people try to say it’s a low risk. That’s incorrect. When you’re an option buyer it’s very high risk. You’re risking 100 percent, but you’re not risking any more than that and you have the opportunity to multiply your money.

I’ve been editor of Options Hotline for 105 months, and I make one recommendation a week for about 40 weeks out of the year, and in that time I’ve had 120 of my recommendations that people have been able to purchase multiply — go over 100 percent.  So that’s the power that you consistently have the opportunity to multiply your money with a limited risk, and that’s why we call it super leverage.

Now you want to be a successful trader and a successful speculator. I look at four characteristics of successful traders. Number one is knowledge. So many people participate in the markets without knowledge, and they’re at a disadvantage to the ones who do have knowledge. So learn as much as you can about whatever it is you’re going to use and however you’re going to trade or speculate. If you have knowledge you have an advantage.

Another is courage. It takes courage to take risk, and it takes courage to go against the crowd. To say the financials, I think, are going up when they’re falling sharply and everyone is betting against them it takes courage to follow your plan and say, “No, they’re reaching an area of support. Now’s a good time to buy and actually take the positions.”

It also takes discipline, discipline to stay with your plan. Have your plan thought out ahead of time and stick with it to push in motion to the side, not let greed or fear influence your trading and just go with what the numbers say. And lastly, the final characteristic of a successful trader is hard work. There’s no easy money in markets. No one rings a bell and says now’s the time to get out. So you have to work hard and you have to monitor your positions and be ready and have a plan ahead of time. If you have all of that, you can be a successful trader.

I also look at what goes into that plan, and to me there are three cornerstones of a complete game plan for trading success. One is psychology and that involves asking yourself questions. Is this right for you? Can I handle speculating? Will it disrupt my life? Is it worth it? Can I do this? Is this something I can really do? You have to ask yourself these questions.

Second is method. You have to know what to speculate on. You have to have a method to buy or sell, to know what to buy or sell and where, and that’s where a service like my Options Hotline comes in or some of the others. They’re the method. So if you have the psychology and you have a method of finding trades then you come to money management.

Now successful speculation is as much about honing your survival skills as it is about finding winning trades. Money management is very important. I’ve had subscribers tell me, “Steve, your recommendation that multiplied, I decided not to do that one. The one that expired worthless, I kept adding to that position.” So you don’t want to be like that.

Now let’s talk about psychology. I’ve broken it down into what I call the twin tolerances for risk, the financial tolerance and the psychological tolerance. The financial tolerance for risk is easy to figure out. You should only speculate with money that you can afford to lose, money that if you lost every penny of it, it wouldn’t change your life.

If you can do that then you have to look inward and see if you have the psychological tolerance for risk. Will trading the market keep you up at night? Will you worry? Will it disrupt your family life? All these kinds of questions are important. Now personally, I have absolutely zero psychological tolerance for risk. If I did, I wouldn’t write a newsletter. I would just trade. I figure if you’re so good at it why would you not just do it and have to sell your information? But since I don’t do it I’m happy to have other people use my information…”

Sincerely,
Steve Sarnoff
Editor, Options Hotline
September 8, 2008

Investing in Options Speculation was originally featured in the Penny Sleuth.