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Options Theory: Trading Around a Core Position

September 17, 2020

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Like all traders, my approach has evolved over time. I discussed the lengthening of time horizons in Monday’s Tales of a Technician blog. Another factor that has shifted for me is portfolio design. As I’ve gotten older and acquired more capital, it’s become necessary to create core positions as the pillars of my portfolio.

What that means is I have positions that I hold regardless of market trends. I own them through bull markets and bear markets; through low volatility lulls and high volatility corrections. They provide an anchor that I can shift my exposure around.

Just so we’re clear, the alternative to owning core positions and holding them through thick and thin would be holding short-term positions but going to 100% cash at times. While that may be okay if you’re focusing on active trading with a smaller portfolio, I find it difficult to go entirely to cash and then have to redeploy a big pile of dough. It’s too tough on the emotions.

Admittedly, the portfolio of which I speak is kind of a hybrid. It’s not all passively invested, nor is it all actively traded. It’s a bit of both. But, it’s been a good fit for my personality and objectives.

Options Theory: Trading Around a Core Position

How do I Pick a Core Position?

Because I want to own these core positions for the long haul, they are stock positions, not options. The easiest path is to use ETFs like SPY, QQQ, IWM, EEM, or the like because you don’t run the risk that you buy the next General Electric or Exxon Mobil. In other words, I want to have the utmost confidence that my core position will recover from every sell-off. That way I won’t lose faith during the depths of a bear market.

And, in case it wasn’t obvious, betting that a basket of the most well-run and well-financed 500 companies on the planet will recover from a downturn is a much more probable wager than that a single company will.

Let’s say half of the portfolio is in SPY, IWM, and EEM stock positions. What do I do with the other half? I deploy them into other systems like Cash Flow condors, Tackle 25, or the S.T.E.P. system. As the markets shift more bullish, I can augment my core long delta exposure by adding other bullish trades. When the market turns bearish, I can reduce my core long delta exposure by adding bear trades.

Thus, the portfolio returns are anchored to the long-term performance of stocks but enhanced by any active trading I do.

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