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Update on My Bitcoin Options Trade

Last month, I made the decision to short bitcoin. Turns out, this bitcoin options trade was one of my best investment decisions of the past year.

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In my January 4 Wall Street’s Best Daily titled “How to Short Bitcoin,” (to read it, click here) I showed how you could get bearish bitcoin exposure by buying puts on Riot Blockchain (RIOT). This bitcoin options trade was one of my best calls in the past year.

Unfortunately, Dennis Gartman, a well-known commodities trader and frequent guest on CNBC, didn’t take my advice and instead bought RIOT and suffered big losses.

Here were Gartman’s comments:

“Friday was one of the worst days we have suffered through in a very long while. We were long of a sizeable position in a blockchain-focused company that was the victim of a CNBC expose, which sent the shares down more than 20 percent and which sent us ‘down’ for the year to date, having been up about 6 percent previously.”

I am not writing today to celebrate my call and Gartman’s pain. Instead, I want to show how I manage a winning options position at Cabot Options Trader and highlight one frequent mistake that traders make.

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My Original Short Bitcoin Options Trade

First let’s revisit my trade idea to short RIOT. Here’s what I wrote on January 4:

“By using put options, there’s a way to short bitcoin with limited risk.

“To show you how to short bitcoin, let’s understand what it means to buy a put.

“A put option is an option contract that gives the owner the right, but not the obligation, to sell a stock/index at a specified price within a specified time. The buy of a put is a BEARISH position. When a trader buys a put, the most he can lose on the trade is the premium paid. That’s what makes shorting the bitcoin mania with puts so attractive—the losses on the trade are limited.

“Now before we get into the details on how to buy a put on one of these new cryptocurrency-related stocks, I want to point out that buying puts on these stocks is not truly shorting bitcoin. However, if the price of bitcoin crumbles, these stocks will likely fall with it.

“With that understanding, if I want to short bitcoin via a stock related to it, I might buy a put on RIOT.

“For example, I could buy RIOT March 25 Puts for $8.

“As I noted previously, the most you can lose on this trade is the premium paid, or $800 per put you purchased. This would be the case if RIOT closed at 25 or above on March 16, 2018.

“The breakeven on this positon is at 17.

“Below 17, each put would increase in value by $100 for every put you purchased.

“Here is the profit and loss graph of this RIOT put purchase:

A profit and loss graph of my Bitcoin options trade.

What to Do with the Option Trade Now
As I write this update on February 26, my bearish thesis has proven correct, and RIOT is trading at 10. The March 25 puts that I recommended at 8 are now worth 15, a profit of 88%.

If you bought these puts and want to lock in these big profits, I recommend that you execute the following option order:

Sell to Close RIOT March 25 Puts.

Upon executing that bitcoin options trade, you’ll lock in a profit of $700 per put you purchased and be left without a position in RIOT. This is how Cabot Options Trader/Cabot Options Trader Pro subscribers typically get in and out of positions. Rarely do we take delivery of the stock—instead, we buy and sell the option.

Warning: Losers Average Losers

The next item I want to address today is Gartman’s second paragraph:

“Worse, we broke our own rule and bought more shares on the materially weaker opening and that proved wholly ill-advised causing us to say then and all weekend that “If you break the rules you pay the price!” We broke our own primary rule; we paid a very real and a very high price. Lessons have to be learned again and again and again it seems; or at least we apparently have to learn them over and over and over again.”

I have found, as have many successful traders, that buying more on the way down is a terrible investing decision. As I written to my subscribers, I will be wrong on trades. However, I only want to be wrong on a trade once, and will never buy more if I have a loss on the position.

This line of thinking was shared by famed trader Paul Tudor Jones (photo above), who has a note in his office that reads Losers Average Losers. The goal is to avoid big losses while scoring some big wins over time. Buying more of your losing positions puts you in the opposite position. Don’t do it!

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Jacob Mintz is a professional options trader and editor of Cabot Options Trader. Using his proprietary options scans, Jacob creates and manages positions in equities based on unusual option activity and risk/reward.