Do I cut my losses now… or roll the position?
This is a common dilemma for many traders. Still, skilled traders recognize when the time is right to use each approach, especially when it comes to rolling positions to a further-out expiration date or a more favorable strike price.
Do you want to know the difference between rolling losing trades and cutting them completely (and when it’s advantageous to do each)? You’re in the right place because this guide will go over everything you’ll need to know about the subject. Cutting losses has its benefits, but it is not always ideal in options trading purely from the perspective of losing out on profit opportunities. On the other hand, rolling can give you time, flexibility, and better odds of recovery—if done right.
The Psychology of Cutting Losses
Cutting losses can feel like the safe route for traders, especially when their positions are looking like they won’t secure a profit. Getting out of a losing trade early has the benefit of reducing the amount of risk involved with the position and ultimately preserving capital over the course of time. But it can lock in unnecessary losses, especially in options.
Cutting losses can be the appropriate move in some cases, but there are instances where it can be used as part of fear-based decision-making. However, there’s a better way to cut the losses early, but not lock in unnecessary losses when they could simply roll the position out to a later expiration date or different strike price. Rolling the positions takes on more of a strategic repositioning stance, and it lets traders give their positions a new opportunity to possibly profit.
What Does It Mean to Roll an Options Trade?
Rolling a trade is the practice of closing out one option position and opening a new one at the same time. In many cases, you’re either dealing with a different expiration date or strike price. In some cases, you’re dealing with both. The one thing that remains constant between the two positions is that they both involve the same underlying.
Rolling can be done for a wide range of reasons:
- Traders can use rolling to lock in profits or to reduce losses by making little adjustments to the position’s expiration date or strike price.
- Rolling can be an effective strategy for extending the duration of the trade to give it enough time to become profitable.
- Another good reason for rolling is to adjust your strategy to changing market conditions. It’s a good move if the underlying asset price moves unexpectedly—rolling gives the trader room to adjust their position and adapt successfully to unexpected market movements.
Simple Examples
- Rolling a Losing Call to a Later Date for Credit—This gives the underlying asset more time to move in a favorable direction. It’s a strategy used to adjust a losing position by closing an existing short position and selling another at the same strike price but a different expiration date.
- Rolling a Put Spread Out to a Wider Width—This move is done so that traders can achieve a better breakeven. A wider breakeven point can increase the chance of the underlying stock staging above it, which can ultimately lead to a higher likelihood of success. A wider breakeven also leads to a better risk/reward ratio.
Key Tools
Let’s take a look at some of the roll types that traders can use to send their positions out to a later expiration or a more favorable strike price. These can often be more advantageous than simply cutting your losses.
- Calendar Rolls—It’s a strategy that is used to manage and adjust positions as the market goes through changes. Traders close out short-term options positions while also opening new options positions that have a longer expiration date. The timeframe of the trade gets extended, and the trader uses the same strike price on each position.
- Diagonal Rolls—This strategy is a combination of vertical spreads with different strike prices and calendar spreads with different expiration dates. Using these two together helps to extend the time horizon of the trade. The short-dated option is closed, and the new short-dated option is opened with a later expiration date.
- Vertical Roll Outs—Traders can use this strategy where they close an existing vertical spread position and open a new position with either a different expiration date or strike price, or both.
When Rolling Beats Cutting—Core Advantages
You’ll discover that there are many different advantages to rolling losing trades out to a further expiration date or to a different strike price, advantages that you simply can’t enjoy when you’re cutting a losing trader altogether. We’ll run through the core advantages of rolling to give you a clear understanding of the scenarios where rolling positions are preferable.
✔ Time Decay Becomes Your Friend Again
Rolling the trade extends the time for the thesis to play out. This is especially helpful for theta-positive strategies like credit spreads. Rolling out positions to a further expiration date allows the underlying asset time to move, and this can be super beneficial if there’s an event coming up that will push the position into profitable territory. Pushing the expiration date out also carries the benefit of resetting the effects of theta decay that occur naturally when the option nears its expiration date.
✔ Adjusting Your Breakeven Point
The breakeven point of a trade, to be clear, is the price level where the total gains from the trade are the same as the total costs associated with the trader (the premium). Rolling options lets the trader move the strike or structure to improve the probability of profit. They can move the breakeven to a more favorable position where profit can be attained.
✔ Lower Emotional Impact
Rolling trades for more time can help traders maintain discipline in their approach, as it can be easy to panic and sell a losing trade to keep the possible losses to a minimum. The practice of rolling results in a much lower emotional impact, which is the stance and approach that traders need to stick with to maintain objectivity.
✔ Capital Efficiency
Rolling the trader is a better use of capital because it can sometimes require less capital than opening a new trade outright. Add these capital efficiencies up over time, and you might see that you’re saving a lot of money over the course of multiple trading sessions.
Real-World Examples of Successful Rolls
Rolling might look like a good idea on paper, but how does it work and play out in the real world? We have included a few examples in this section to offer you some insights into some situations where rolling would be advantageous and how you could execute a successful roll to make your trading plan a success.
Example 1
A good way to show a successful roll would be a credit spread that looked doomed but turned profitable after rolling out 2 weeks. The trader rolled the position to a further expiration date to take advantage of something like a planned market event (new product rollout or earnings report) that they knew would increase the price of the underlying asset to profitability.
Example 2
Let’s look at another successful roll, this time with a losing naked put, which is where an investor or trader sells a put without owning the underlying stock. The naked put became a losing trade when the stock price fell below the strike price. The trader would then roll down (strike price adjustment) or roll out (extending the expiration date) to attain a net credit, which would be where the premium received from the new put would exceed the cost of closing the old position.
When NOT to Roll a Losing Trade
When is it a bad idea to roll a losing trade? Keep reading to find out about the moments in your trading experience where it might be a good move to end the trade altogether instead of rolling the current position out to a further expiration or a different strike.
- The Thesis is Completely Broken—If you are in a situation where rolling a losing trade simply isn’t going to work, it’s best to not roll it and simply close it out, taking the loss. A good example of this would be when a stock gaps down on earnings. In that case, it’s better to take the loss, which will limit the potential losses.
- Rolling Requires More Capital than You’re Willing to Risk—The strategy of rolling the trade out to a further expiration or a different strike price is going to require more capital, so you have to decide if that additional cost is going to work for your trading plan.
- Volatility Crush Reduces Premium Value Post-Roll—In some market conditions, there’s the chance for a volatility crush to occur following a big event like a new product release. When a volatility crush occurs, it can greatly bring down the premium’s value, so these conditions might present an environment where it is best to avoid rolling your positions.
- You’re Just Delaying the Loss Instead of Managing It—Some traders will roll simply to delay the inevitable, but this can result in losing more money than you would from simply closing out the position early and taking the loss. Traders should only roll positions to a later expiration or a different strike as part of a greater trading plan and not as a stalling tactic.
Tips for Rolling Smartly
Check out these tips and best practices for smarter rolling in your options trading sessions. You will have a higher level of success if you can work these principles and rhythms into your trading plan. Learn how to roll smarter and reap the rewards.
- In Line With Your Outlook: Only roll when the new trade still aligns with your outlook. If you’re dealing with a market where the stock price isn’t expected to go up in value, it might not be the best time to roll the trade to a later expiration date.
- Use Defined-Risk Strategies—When you’re rolling trades, it is best to use strategies like spreads that come with a well-known and mapped-out risk profile. Going with defined-risk strategies can allow traders to have a higher degree of control in terms of potential downside.
- Watch for IV Changes—Keep an eye on implied volatility in the markets because these dynamics can help or hurt your new setup. For instance, a higher level of IV can cause some stock prices to go up in value, which could work to your advantage if your position needs to increase in value to reach the strike price and become profitable.
- Look for Rolls That Collect Additional Credit—To lower your breakeven, you should roll positions where you can collect additional credits. This means that the premium received from selling the new options exceeds the cost of closing the original position. It comes down to the simple concept of increasing your profit margin as much as possible.
How to Use Rolling in Your Options Playbook
Maybe you already have a trading plan and place, and you’re wondering how you can work rolling into your current strategy and approach with options trading. If you’re looking for some ideas about how to work rolling into your playbooks, keep reading, and we will give you some ideas on where to start.
- Use It as a Planned Exit Strategy—You can easily work rolling into your options trading plan by using the strategy as a planned exit that can be used even before entering trades. If it makes more sense to roll the position to a further expiration or a better strike, then go for it, as it could result in a profit as opposed to a straight-up loss when you close the position outright.
- Set Alerts or Criteria—You can set up parameters for when a roll would be appropriate. Traders can create alerts for when their positions reach a certain price proximity or days to expiration, and then be notified about these positions based on that criterion. When these opportunities arise, the trader might consider rolling instead of closing the position outright.
- Combine with a Trade Journal—To increase your accuracy with successful rolls over time, it is best to consider tracking what rolls worked and why. Traders can track the times when rolls worked and didn’t work to get a better gauge for when rolling is preferable to outright closing the position.
Rolling Trades—The Smarter Way to Manage Risk?
Don’t let a loss be the end of your trade.
Traders should not be guided by their emotions, but instead use intentional trading decisions that are rooted in a plan. Automatically closing out losing positions based on fear is a form of panicking that has no place in options trading, especially if you’re looking to rack up more wins than losses over time. To be clear, there are times when closing out a trade is the better option, but it shouldn’t be a conditioned, go-to response when your trade goes south. If it makes sense, it’s best to roll the position to a further expiration or a different strike to keep your trade in the game and possibly profitable.
Key Takeaways
- Rolling can offer more control and better outcomes than panic-cutting.
- Keep in mind that rolling isn’t a cure-all, but it’s a tool every options trader should master.
- Review their last few losing trades—did you cut too soon?
