Sizing by maximum loss

The platform sizes every position by its risk; options size by maximum loss specifically, because the leverage of module 3 makes the premium a dangerous anchor and the underlying exposure yet another number. This lesson makes maximum loss the sizing input.

The defined-risk sizing

For a defined-risk position, the maximum loss is knowable: a long option's is the premium times the contract multiplier - a premium of 5 on a 100-share contract is a £500 maximum loss per contract - and the position size is the risk budget divided by that. A £1,000 risk budget over a £500 maximum loss per contract is 2 contracts, exactly the platform's risk-over-loss division, with the maximum loss as the denominator. The maximum loss is the honest risk number because for a long option it is the whole risk - the option can go to zero, and that is the loss, bounded and known.

Why not the premium or the underlying

• Not the premium alone as a fraction: 'it's only a small premium' sizes by cost, not risk - and the leverage means a small premium controls large exposure; the premium IS the max loss for a long option, but it must be sized as risk, not dismissed as small.
• Not the underlying exposure: an option controls far more underlying than its premium, so sizing by the underlying's value overstates a long option's risk (which is capped at the premium) - the option's max loss, not its notional, is the risk.
• The multiplier always: the max loss is per-share premium times the multiplier - the cash figure, not the quote, exactly as every track converted per-unit to cash.

The undefined-risk problem

For undefined-risk positions, this sizing method fails by design: there is no maximum loss to divide by, because the maximum loss is unbounded or catastrophic (lesson 1). This is not a gap in the method - it is the method telling the truth: a position with no sizeable maximum loss cannot be sized by maximum loss, and the honest conclusion is that it cannot be sized safely by the platform's discipline at all. Undefined-risk positions require margin-based limits and active management the track describes but does not recommend, and the sizing method's silence on them is the warning. Size defined risk by its known maximum loss; treat undefined risk as the unsizeable thing it is.