When you chose to become a trader and put your hard earned money at stake in search of a return, you made an agreement with yourself that you would assume some form of stress in return for money.
While the majority of retail investors “go long” on a number of stocks that they hope will go up in value over time, the fact of the matter is that when you buy stock and go long, you are immediately biased in your desired direction…you need the stock to go up in order to make any money.
Unless you have been living under a rock for the past few years, you will notice that the stock market doesn’t only go up all the time; it can also go down as well as sideways.
After I retired from my first career in 2014, I founded my investment and trading company, Bassett’s Assets.
My strategy at the time was a simple arbitrage – I would buy dividend paying stocks, borrow money from my broker on margin at rates lower than the dividend payout, and keep the spread captured in between the dividend rate and interest rate for myself.
The strategy worked incredibly well, however, I needed to have rather large amounts of money invested in order to be able to create enough income from the arbitrage.
At the time I was living overseas in Asia, my trading side hustle had just become my new career, and I had the pressure to sustain our lifestyle for the foreseeable future from this newly formed business venture.
The pressure was on, but I was ready for it.
With that being said, when 100% of your income is derived from trading or investing, the fear of a market crash might become more prevalent than if you are building a retirement account and do not need immediate access to the funds.
While my young trading business was incredibly profitable, after the market would close I would find myself searching for the next potential black swan event, researching any potential for dividend cuts in the companies I was invested in, or simply just contemplating the future of my business (and life) if a major market event came along unexpectedly.
Keep in mind at this point in my life I had been through a decent number of market crashes, and after being burned I decided to approach the market much more cautiously.
I found myself in a position where I needed the income that I was generating, but I would be up at night worrying about the “what if” that clouded over my daily activities.
After doing endless internet searches about market crashes (there are a ton), I stumbled across an article where an old timer discussed the possibilities of the next market crash and how to use options for protection against a future market crash.
I ended up hiring this man to teach me about options, and for the past seven years I have had the best hands on experience on how markets work and how to protect your trades or investments, no matter what direction the market may go.
It doesn’t matter what the size of your portfolio is, protecting your hard earned capital should be the first item you are concerned with.
Nowadays I still practice that arbitrage method, but the difference is that I will have out of the money covered calls to help hedge my account in preparation for when there is a downturn or very flat market trading.
Not only am I hedged for an unexpected downturn in the near future, but I am also able to enjoy the time decay from the covered calls losing value over time, and I also get to enjoy the reduction of margin interest due to the net credits that I am adding to my account with the short covered calls.
Instead of having trouble sleeping at night and wondering what will happen tomorrow, I now sleep like a baby knowing that if the market crashes I will have a new income opportunity waiting for me in the morning.
Additionally, when you take both sides of the market you are able to slow your strategy down, listen to the market, and react accordingly rather than trying to predict the market’s every next move.
Check out this article that Gavin wrote that provides examples of how to hedge a position.
While my portfolio is always hedged, I spent a considerable amount of money on hedges during the period surrounding the Presidential Election of 2020.
While it was apparent that things were generally tense from the pandemic and civil unrest happening at the time, there were so many unknowns around the election that my broker started slowly incorporating higher margin requirements.
While I had sizable positions on, over a period of approximately four months I spent tens of thousands of dollars on hedges for my portfolio.
Reflecting on my decision to spend this money on hedges, I was able to keep a cool head during the intense market volatility, I was able to sleep incredibly well at night which kept me refreshed for the next day of trading, and I was able to post some of my largest trading profit days, weeks, and months on record.
Buying on margin is definitely not for the faint of heart or everyone’s cup of tea, but you don’t need to have leverage in order to hedge your portfolio – nearly all portfolios may be able to benefit from some sort of hedge.
If you are experiencing stress from your trading business or investment portfolio, you may want to consider taking the steps on learning how to hedge.
Check in with yourself to see how well you sleep at night.
About the Author: Charlie Bassett is the founder of Bassett’s Assets, an investment company that specializes in the selling of equity option premium. He is also an instructor for OptionsTradingIQ.com. To book in a coaching session with Charlie, email [email protected].
Disclaimer: The information above is for educational purposes only and should not be treated as investment advice. The strategy presented would not be suitable for investors who are not familiar with exchange traded options. Any readers interested in this strategy should do their own research and seek advice from a licensed financial adviser.
