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Preface

There are two kinds of successful investors: those who admit to occasionally losing money and those who don’t. Despite claims to the contrary, every investor loses money because risk always scales in proportion to reward. Long-term winners don’t succeed by never losing; they succeed because their trades are well thought out and carefully structured. That said, very few investors recognize the impact of their own trading mistakes.

These mistakes can be subtle. The classic example goes something like this:

1. “I bought calls.”

2. “The stock went up, but I still lost money!”

This frustrating scenario in which an investor correctly predicts a stock’s direction but loses money is incredibly common in the option trading world. Leverage is almost always the culprit. More precisely, it is the misuse of leverage that stems from a fundamental misunderstanding of risk that so often turns investing into gambling with the simple click of a mouse. Option traders are famous for this mistake. They know, for example, that a sharp rise in the price of a stock can generate tremendous profit from nearly worthless far out-of-the-money calls. But lead is not so easily transmuted into gold. The problem is entangled with complex issues like collapsing volatility, accelerating time decay, and regression toward the mean. Institution....


  

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