How Much Money You Need to Trade Options

Money Required to Trade Options Based on Goals

How much capital you need to trade options can be determined by what your goals are and what your expected profit is per month or year.

Assume you are learning an options trading method that produces about 5% per month. The next question to ask yourself is:

• How much money do you need or want coming in from your options trading?

If trading is going to be your sole income, and you need at least $5,000 a month in income, you will need at the bare minimum $100,000 in capital. If you make 5% on your $100K, you will have your $5,000 per month.

If you are following a system that makes 30% per year, and you need at least $100,000 in yearly income, you will need at least $333,334 in capital (100K / 0.3). Here’s how to calculate how much capital you need based on a monetary goal or skill level:

Capital Needed = Dollar Goal / Estimated Percent Profit

Make sure to be consistent with the same time frame. If your dollar goal is monthly, use a monthly percent (as a decimal). Here’s another example. If you want to earn roughly $1,000 per month from your options trading, and you feel confident you can make 6% per month on average, your calculation would look like this:

Capital Needed = $1000 / 0.06

=$16,667

If you can earn 6% on $16,667, you can make $1000 per month. Be realistic in terms of how much capital you can make. Being able to average more than 10% per month is elite status, so don’t expect to make that out of the gate.

Less than 5% of traders can earn a living from trading, and far fewer can average over 50% per year, let alone more than 100% per year. It is possible, but few do it consistently.

Money Required for Options Trading Depends on Risk

Looking at your risk per trade can also help you assess what a reasonable amount of starting capital is for options trading.

To determine how much capital you need to trade options, in terms of risk, look at:

• What is your typical risk on each trade?

This can be somewhat calibrated by moving toward lower- or higher-priced options, but if you come across a trade you like and the option is $5 to buy, your cash outlay for that trade is $500 for one contract. Remember that the options price you see is typically a per share cost, and options trade in 100 share contracts.

In this scenario, your cash outlay is $500 on this trade, and that is the most you can lose if buying a call or put. But you don’t necessarily need to lose that much. You could sell the option if the price drops to $4.

You get $400 back and only lose $100. But keep in mind, there may be some trades, especially if holding overnight options positions, where you will take the full loss.

Therefore, a rule of thumb is to divide your typical risk (how much you lose, or are willing to lose) by the percentage of your account you are willing to risk per trade. This will give you your capital requirement for trading that options strategy.

If you are buying options which are typically around $3 ($300 cost per contract) and holding those positions overnight, then you could have $300 at risk. Divide that by 0.01 to get a capital requirement of $30,000.

Capital Required = Typical Risk per Trade / % of Account You’re Willing to Lose Per Trade

=$300 / 0.01

=$30,000

Why divide by 0.01? Because then your maximum loss is only 1% of your account. Remember that 1% or less is what most professional traders risk of their account on any single trade.

If you are willing to risk 2% per trade (maximum), you would divide your typical risk by 0.02. If you typically lose $100 per trade, and you are willing to risk 2% of your account per trade.

Capital Required = Typical Risk per Trade / 0.02

=$100 / 0.02

Capital Required =$5000

Using this method, if you lose on average $100 per trade, and are willing to lose 2% of the account on a loss, you need at least $5,000 for trading options.

Capital Required for Writing Options

Above I discussed how much capital you need to buy options, based on either goals or your risk tolerance. But what about if you want to write options? How much capital do you need for that?

Technically, you don’t need extra capital for writing options, if you only write covered options. When you write covered options, you receive the premium for the option, and if the buyer of the option exercises it then you will need to transfer the underlying asset to them. If you write uncovered options, you face unlimited exposure, and then could need large amounts of capital.

Additional Capital Requirements for Trading Options Full Time

If your goal is to live solely off your trading income, there are some additional things to consider, such as savings and losses.

Trading for your income means you likely don’t have other streams of income. Therefore, you need to plan for things which will eventually arise.

• Many traders have their trading capital, plus at least six months of living expenses saved up. Why? Because if you have a bad month or two, or you are injured and can’t trade, you need to have some capital outside of your capital to pay bills while profits aren’t coming in.
• Having savings outside the trading account also helps because most traders take months or years before they find consistent monthly profits in the market. It can be rough at the start, and you don’t want to be taking losses and pulling money out of your account to live each month. That will drain your capital very quickly.
• Losing months happen. Therefore, trade with more capital than the absolute minimum. If you have a losing month, and you need to withdraw capital to live on, you may not have enough to adequately trade.

One thing that people often forget as well is that if you are living off your trading, you aren’t compounding your returns. You are withdrawing part or all of your profit. That means if you expect to grow your account very quickly and withdraw profits, your account may not end up growing as quickly as you think. Remember this when deciding how much money you need to trade options.

One of the perks of being a trader is that you can generally deduct trading-related costs as a business expense against your trading income. But by doing so you also won’t have “employee” perks like a work covered insurance plan. You are on your own, and all your living costs are on you when you trade for yourself.