CLOSE: OIH Sept BRCS 180/185 -23%

On Aug. 17th we entered into a BRCS (bear call spread) on OIH with a good downtrending chart, below the 30 and 50 day moving averages and well out of the money at 180/185 for +.75.

Since then, the price of OIH has continued to attack our position for several days.  Right now, OIH is 176.47 and it’s displaying weak technicals to confirm why we should get out.  Here’s the chart:

Out of the past 9 days its moved against us on 6 of those.  That’s a lot of offense to finally push our position out so we feel good about our entry.

When we put the trade on we had a delta of .20 for an 80% probability of success.  Today, we have a maximum delta of .40 giving us only a 60% probability of success so we are going to exit.  Frankly, it could be argued either way (to stay or not) so we’re going to exit this position in all of our conservative accounts and possibly hold a small position to continue to trade it forward.  We’re looking to get really comfortable adjusting and repairing spreads so this should provide a good lesson for us.  Finally, it looks like we have a debit to exit of -1.75.

When we put on the trade, we had a +.75 over a risk of 4.25 for a potential ROI of +17.5% with an 80% probability of success.  Now, with this exit we have a debt of -1.75 for a net loss of -1.00 over a risk of 4.25 for an ROI of -23%.  Not great but a lot better than holding and possibly losing all 4.25.

Remember, our job is first to protect our capital and survive; then its to make money.

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OPEN: NVDA Bullish Diagonal

We saw some small breakout on NVDA, post earnings, good trend, retesting recent support.  With the stock being below the natural resistance of 50, we were hesitant to just buy a call so we decided on a bullish diagonal.  Here’s the chart:

We purchased the Dec 35 calls for a debit of -16.00 and sold the Sept 50 calls for a credit of +2.00. 

If we’re not called out, we will earn +2.00 on a risk of -16.00 for an ROI of +12.5% in a month.

If we are called out, we will earn +15.00 on a cost basis of -14.00 for a +1.00 profit.  +1.00 over a cost basis of -14.00 generates an ROI of +7.1% in a month.  Still good but we would rather milk this train until December! 

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CLOSE: CROX Bullish Diagonal +15%

CROX has continued it strong move upward even on a downward day.  With the growing call volatility and price action we put in a GTC order to close CROX at 15.30 or better.  We just got filled at 3:20pm so we’re out.

Here’s how the trade went down:

Aug 20th: Opened a bullish diagonal by legging in to get some extra credit.  CROX was moving higher and broke the high of the day (HOD) so we BCO (bought call to open) the Dec 40s and SCO (sold call to open) the Sept 155 for a net debit (ie. cost basis) of -13.30.

If we were not called out, we would make +24.8% in a month.

If we were called out, we would make +12.8% in a month, and we expected to be called out.

Result:

With the cost basis of -13.30 and a final credit of +15.30 that gave us +2.00 profit / risk 13.30 = +15% in 7 days!

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OPEN: Broken Wing Butterfly (BWB) on DIA

I’m at an Investools class in Chicago being taught an interesting new technique.  Its called a broken wing butterfly.  I’m not a fan of butterflys because the probability of success is quite low; usually less than 20% and its a debit trade (which means money comes out of my pocket).

The fine folks at ThinkorSwim are also instructors here and they are showing me a modified butterfly that create a high probability of success and is a credit trade.  Here’s an example:

Looking at this chart I am neutral/bearish and expect this ETF to trade between 135 and 127 (with the current price at 132 this shows my bias).  So I could put on a normal butterfly by BCO 1 Sept 135, SCO 2 Sept 131s, and BCO 1 Sept 127.  Here’s how it would look in TOS:

You see there’s a -.75 debit for this trade and its showing a probability of success of 40% with breakeven band between 127.75 and 134.25 (this would allow you to recover the entire cost of the debit based on the closing values of the long calls).  Your best case would be for this ETF to close at exactly the center strike (131).  If it did that then you would make $4 gross - initial debit = +3.25.

Ok, ready for the cool stuff!?!  Check this out….  We are going to increase the probabilities, increase the potential return, and remove our risk to the downside.  Cool???

Here’s how.  Take the normal butterfly that we are entering at a -.75 debit and add an extra BRCS like this:

Now we are going to do a little "option math".  Right now you have the following:

+ 1 DIA Sept 127 Call

- 2 DIA Sept 131 Calls

+1 DIA Sept 135 Call*

-1 DIA Sept 135 Call*

+1 DIA Sept 139 Call

==================

Notice how the long DIA Sept 135 is canceled out by the short DIA Sept 135?  So, your resulting combined spread (which TOS calls a broken wing butterfly is this):

+1 DIA Sept 127 Call

-2 DIA Sept 131 Calls

+1 DIA Sept 139 Call

Here’s the TOS screen shot:

So now I have a +.40 credit and I will make money if the price is below 135.40 with a 63% probability of success.  Here’s the risk profile and probability analysis from TOS:

Because we make money as long we are below 135.40 then you can see our statistical chance of that occuring.  Remember, this probability doesn’t include our 4-6% advantage from technical analysis.

So let’s compare the butterfly characteristics with the broken wing butterfly (BWB):

Butterfly = -.75 debit, 40% prob., profit band of 127.75-134.25, max profit +3.25.

BWB = +.40 credit, 63% prob., profit band of 0-135.40, max profit +4.40

To quote one of the instructors "That’s a bowl of SWEET CHICKEN."

Mojo

PS - I got filled at .45.

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UPDATE: CROX Bullish Diagonal

OK, CROX moved up so our legging in worked out well.  We original bought the Dec 40 calls for a debit of -17.70, they are now worth 18.60 so we are +.90 already.

We got filled on selling the Sept 55 calls for a credit +4.40 at 3:20pm.  We could have waited a little longer but I grew impatient when I didn’t see a major recovery for the overall market and volume falling off on the CROX 15m chart.

So by bringing in this credit of +4.40 here’s how our trade is setup:

We are at a cost basis of -13.30 debit on the entire spread (-17.70 for the Dec 40s + 4.40 for the Sept 55s) = -13.30.

If we are not called out we will make 4.40 on the original risk of 17.70 for an ROI of 4.40 / 17.70 = +24.8% in a month.

If we are called out we will make $1.70 on an adjusted cost basis of 13.30 for an ROI of 1.70 / 13.30 = +12.8% in a month.

Considering the strength of the stock, the fact we sold at ATM call for maximum downside protection, and the relative oversold condition of the overall market, I would expect that we will be called out.  I will be happy to make +12.8%.  It sure beats a savings account! :)

Mojo

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OPEN: CROX Bullish Diagonal

My portfolio is looking overly bearish so I went looking for some strong stocks holding up well in the downturn.  Also, I would like to earn some monthly income so I’m looking for some good premium on the ATM option.

This morning with the DOW off -80 I found CROX (Crocs).  Here’s the chart now at 2:40pm:

We are riding a gap up today, volume is good and growing, moving averages are uptrending and the stock price is above the 30 day.  With all of that we are approaching past resistance at 62ish and the overall market doesn’t look too healthy so I’m neutral to bullish.

I BCO (bought call to open) the Dec 40s for a debit of -17.70.  I will hold these until we are closer to the end of the day and see if we can get some further upside movement.  Right now we stuck below 55 at the high of the day (HOD).

If there is no breakout I will likely SCO (sell call to open) the Sept 55s for a credit of +3.80 or thereabouts.

I’m buying lots of time (long Dec) and selling the front month.  If I’m not called out I will sell the ATM front month each month until Dec expiry and use this to generate a good monthly income.

If I’m called out, I will take my payday early and head home happy!

Mojo

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Lessons from the Option Battlefield

I’m coming up on my 2 year anniversary with Investools and trading options.  As part of that, I’ve been reviewing all of my trades, trading rules, success rates, and operations.  Some very interesting (OK, not ‘that’ interesting but interesting in a ‘Dorky’ kind of way) patterns have emerge from obvious to insightful.  For instance:

1) Paper trading did very little for me.  My patterns of trading completely changed from paper trading to real trading.  What works better for me is to trade a small number of contracts.  The pricing on Think or Swim is a huge help and would have saved me thousands of dollars in commissions. 

2) The search for the perfect system is a fools errand.  It matters very little what system you use, only that you use a system without fail or exception.  This is particularly important for me.

3) If I follow my rules I make money.  Almost without exception, the only time I ever lost money was when I didn’t follow my rules.  Try this yourself…. Sort your trades by largest loss to smallest loss and deconstruct your trade to see in how many of those trades you followed your rules.  I bet its less than 10% (mine was less than 5%).

4) Technical analysis gives you an advantage, but is not perfect.  In the beginning I was so convinced of the advantage of certain technical indicators (think MACD, STOCH, RSI, candles, etc)  that I ignored other less important indicators like price (DOH!).  Put it another way, price trumps everything else.  In order of importance from price, I would say support and resistance, volume, industry / sector, and overall market.  I have my studies divided in two; one set of studies for trending stocks and another set of studies for non-trending stocks.  When in doubt I drop to price and volume only.

5) News does not help.  Almost all of the great traders are not on Wall Street and maintain a respectful disconnect with news.  So I greatly reduced my exposure to news, market reports, and commentary and my trading improved instantly.  Even if I got the news right and early, that didn’t mean that it was a reliable predictor of the market’s response. 

6) Don’t try to master everything at once.  Pick one technique such as conservative credit spreads, iron condors, strangles / straddles, diagonals, etc. and master it.  Work it until you are consistently making money month to month and then and only then start mastering a second technique.  Today I only use 3 techniques; credit spreads, iron condors, and diagonals.  I don’t feel any need to add additional techniques.

7) Be careful of how you treat your winnings.  I noticed that I would use my normal techniques to create winnings and then use those winnings to put on higher risk trades that I would never put on with my normal capital.  Then if those trades moved against me I would rationalize that I “was using winnings anyway” and it was OK if I lost those funds.  Don’t do that.  Treat all winnings as capital and hold to it with everything you’ve got.

8) Trading is not entertainment.  Be careful not to trade because you are board.  When you are board get up, go for a walk, read the message boards etc, but don’t trade for entertainment.  Good trading is a boring activity akin to working in a factory.  (Albeit a high paying factory!!)

9) Its easy to put on a trade, its much harder to exit.  Spend at least 70% of your time defending your trades.  In times of sudden shifts, trade defensively only. 

10) Strive to ride a trade for only 60% of a movement.  A great trader is never the first in and never the last out.  In a 100% move, trade to capture the move from 20% to 80%.

11)Remember, the holy grail in trading is to become a consistent trader.  It’s a lot more important to make 3% a month consistently than to shoot for 10 -15% a month and fail too often.  Make your money hitting singles and doubles and you will eventually see occasional home runs.

12) It doesn’t take a lot of time.  Once the initial learning is complete (about a year for me) I spend about 10-15 hours a week trading.  Any more or less than this and my performance suffers.

I hope this helps others out there!

Good luck and good trading,

Mojo

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