What Does It Take to Make 10% Per Year? (Part 5)

I concluded the e-mail exchange from previous posts with these thoughts:

> When I am talking about “realistic returns,” the denominator
> is total net worth. I believe this is the only way to ensure
> apples-to-apples comparison. People sometimes say things
> like “I’m trading a $50K portfolio” when $50K is what they’re
> trading but $300K is what they have to invest, for example,
> and $400K is everything they have in all asset classes.
> $400K should be the denominator for this return calculation:
> not $50K.

My compatriot, now a coach for a nationally-recognized options education company, suggested 10% annualized is pretty straightforward. She even claimed “much more” to be realistic.

I think I made a pretty convincing case that is not realistic. A 10% profit on vertical spread trades is fine but what about the losses? She did not account for those. When I start averaging in some negative numbers (losers) then I better have some outsized winners to offset those losses. Going for outsized gains increases risk of even bigger losses. On another hand, I could look to cut losers short to prevent large drawdowns. This will cut out winners too as many winning trades were once in negative territory. That won’t help me reach my goal, either.

My colleague left the door wide open to total amount of capital being traded. I like the “Superman” analogy: if you have $10M to your name then you can trade $100K like it’s peanuts. Even if you lose it all, you’ll still have $9.9M remaining. How large the account is does not matter: the total net worth does. This is something nobody divulges but at its core, this is the determining factor of how brave or risk-tolerant I will be. People often toss around lofty ROI numbers without specifying where the capital in reserve is coming from. It all must be included in the denominator, folks.

Ten percent per year… easy or difficult?

You be the judge.

What Does It Take to Make 10% Per Year? (Part 4)

Today the e-mail exchange continues between myself and another trader a few years ago on total annualized returns.

I wrote:

> If your example assumes the total net worth to be $100K such
> that $1500/month would indeed generate 18% per year then what
> happens in a losing month? You seem to gloss over by saying
> “not every trade will work,” but the losing months are a huge
> detail. If you can make 10% in some months then certainly you
> can lose 10-20% in others. Wouldn’t you also probably lose on
> higher capital requirements than you’d win because adjustments
> tend to increase margin requirements? If you adjust and don’t
> give the trade more leeway then it probably wasn’t worth
> adjusting in the first place (e.g. increased gamma risk).
> Those cards are stacked against you so making $1500/month in
> the winning months probably isn’t going to get your 18%.
> Hopefully the rest of the portfolio can help out.
>
> The other thing is that to risk $15K per month, you’re probably
> talking about 8-16 trades if you risk 1-2%/trade. Collar trades
> aren’t going to make you 10% per month so those would have to
> be included elsewhere in the portfolio. Even working full-time,
> it’s hard to manage eight (or 16!) trades per month (plus the
> rest of the portfolio) especially when the market moves fast
> and furious.

I will conclude this blog series in the next post.

What Does It Take to Make 10% Per Year? (Part 3)

Today I continue with an e-mail correspondence I had a few years ago with another trader about total annualized returns.

She responded:

> First, I think you are absolutely right to point out that when thinking
> about total return, you need to include cash held aside for adjustments.
> Maybe my use of the term “far more” was overly optimistic. It certainly
> was not very precise! I believe that 18% per year is “far more” than 10.
> So lets use 18 for a reference. Someone trading a $100,000 portfolio
> would need to make 1500 per month to reach that goal. Using only bull
> puts and bear calls that make 10% return-on-risk, you need to risk $15K
> per month to net that amount. That leaves plenty of cash for adjustments.
> Of course, not every trade will work, but 10% is the minimum I look for
> in a credit trade. That also leaves plenty of cash for longer term, less
> risky trades like collars where you can safely put more then 2% at risk.
> A careful use of margin could increase the likely returns.

I responded:

> You say “someone trading a $100K portfolio would need to make 1500 per
> month to reach that goal [18%].”
>
> Here’s my first question: what is the total net worth? I think a common
> fallacy is to quote returns on dollars traded. Making $1K on $10K is
> much different for someone who has $10K to her name than it is for
> someone who has $1M to her name. The former individual may face
> tremendous fear, stress, and sleepless nights. If the latter
> individual “lost it all” then she would still retain 99% of her net
> worth.

I will conclude with the next post.