Option Trading and the Global Macro Trader

By Brevan Glg

During tumultuous markets, the global macro trader often finds himself in lonely company. Instead of losing a lot or even most of his money the macro trader often finds that he has generated strong returns while most other trading styles have failed. Because of the macro traders penchant for risk it is important for them to practice sound risk management principles.

One of the first and most important risk management tools available to the macro trader is the practice of positions sizing. Position sizing is when you determine an optimal amount to risk on a trade. Obviously several factors can go into your position sizing algorithm. You can look at the probability of the trade working out. You can look at the over all risk versus reward ratio. And you can look at how much of your portfolio you want to risk. Obviously there are hundreds of potential variables that you can input into your position sizing model.

Now that you have the right position size you can start to figure out how to best maximize your trade results. Some securities can give you a greater bang for the buck while lowering your over all risk profile. Others of course make your position far riskier then you first thought it was.

One of the easiest ways to cut off tail risk is by building your position using options. When you are a net buyer of volatility, which is to say that you are long options whether they be calls or puts, you are only risking the amount that you have put into the trade. For instance if the option position costs you one thousand dollars then you can not lose more then that.

Options are very useful to cut off tail risk because they totally limit your risk while allowing for plenty of upside. In fact sometimes they provide a lot more bang for the buck then an outright stock position as they can have a lot of inherent leverage.

Of course as with anything there is a potential downside to using option to cut off tail risk. The risk is two fold. One is that you may be overpaying for the options. Depending upon the situation that may or may not matter but it is important to be aware of.

The second major risk is that options expire and therefore you need to fully understand your time horizon before getting into a trade. If your plan is to hold the position for years and years then options may not be the best way to go. If on the other hand you are looking at holding the position anywhere from a few days to a year or so then options are definitely worth looking at.

Ensure that when you are trading that you look at al the available ways to express your market view. By doing this you will often use options and in so doing improve your global macro trading results. - 23199

About the Author:

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