Conservative Options Strategy

Today’s activity:

SOLD: 5 PAAS JULY 20/25 @ 4.85
Stock at 32.4, net profit 541

SOLD: 2 XLE JUNE 61/66 @ 4.97
Stock at 87.78, net profit 227

SOLD: 5 GDX JUNE 35/39 @ 3.97
Stock at 46.55, net profit 417


SOLD: 5 SUN JAN 30/35 @ 3.45
Stock at 41.5, net LOSS 188

Well I continue to misread SUN. I just opened this position a few days ago ( I sold a losing 45/50 spread position and opened a 30/35 position to replace it), but it is moving strongly against me, so I’ll eat it - again. I briefly considered holding on to the spreads (that are still $6 ITM) and adding deep OTM bear spreads (to hedge), by selling the SUN JAN 50/55 call spread for a credit of $1, but decided not to throw good money after bad, on stock price movement that I obviously don’t understand. Getting rid of losers early is very smart, a practice surpassed only by never getting into losers in the first place. Getting rid of all positions that drop .3 or .4 is generally NOT smart, as this practice kills too many ultimately good positions for the strategy to succeed. No cookbook, just judgment, right or wrong.

Another situation is my position of: 4 RTI JUNE 35/40. It expires soon. So, chose to sell the position now for slight profit, almost breakeven, or tough it out and maybe make full value? My choice, hold on but watch it close and sell in on option Friday if stock drops near 40. Stock price now is 41.15. Spread is now valued at 4.15. If I could sell the spread now for 4.5, it’s gone.

Interesting market, last couple of days.
Good weekend to all.
 
I see other journals posting running totals, I guess I can too. These are total P&L from all transactions since May 12, the beginning of the journal.

So far I have completed 22 transactions, 16 were profitable, and 6 were losers.
Total profits = 6905.64
Total losses = 1342.2
Net profit (since May12) = 5563.44

There are certain realized gains/losses that are what I call “intermediate” that will not be part of the “totals” till the position is closed. An example of that has not occurred so far in this journal, but when I roll a 65/70 spread to a 60/70 spread (for example), there is generally a large realized loss on the 65 calls that were sold, that is more or less compensated for by an unrealized gain in the short 70 calls.

I keep track of a position that has been manipulated like this by keeping notes telling me the actual out-of-pocket cost of the newly modified position, and what I call the “historical value” which is that realized loss or gain. I know that may sound a little weird, but I’ll explain it better when an example comes along (usually when the market turns against me). All this does is provide me with a mental picture of that position’s status, so I can make better decisions when the time comes; but if I included these figures into my running totals, it would unrealistically skew them till the position was closed out. As long as I know the actual cost of a spread, and the historical gain/loss, I have the info to manage the position.
 
Today’s activity:

SOLD: 4 RTI JUNE 35/40 @ 3.85
Stock at 40.20, net LOSS 51.2
(Position going against me in this market, could easily turn into a big loss this week. Safer to close it out.)

BTC 3 PMI SEP 7.5 calls at .4
Net gain 103.8. Nibble away at loss.


************
Spread Distribution from my post 5/20/08:
June 14
July 13
Aug 18
Sept 37
Oct 117
Nov 32
Dec 49
Jan09 131
----
total number of spreads: 411


Today’s spread distribution:

June 3
July 5
Aug 9
Sept 40
Oct 108
Nov 35
Dec 54
Jan09 155
---
total number of spreads: 409
**********

I'm attaching updated portfolio spreadsheet.
 

Attachments

Today’s Activity:

BUY 4 ECA OCT 70/75 @ 4.0
Stock at 89.2, comm. = 5.6, expected gross profit 400.
(add new position to good stock on a down day)

BUY 4 AEM NOV 45/50 @ 3.95
Stock at 65.2, comm.=5.6, expected gross profit 420.


Comment for the novice:

I already had 4 AEM NOV 50/55 @ 3.85. Stock was down $5 today on weak gold. I wanted to take advantage of the price drop. I’m happy with the 4 spreads at 50/55, and I could have simply added more spreads, but the price drop allowed me to put on a deeper spread of 45/50 and I liked the added safety. By buying 4 NOV 45 calls, and selling 4 NOV 50 calls (which I already owned), I simply converted (or rolled) the original 50/55 spread to this:

4 AEM NOV 45/55 with a cost of 7.8 (3.85 + 3.95), history = -2561.6.
Expected gross profit of this position = 840.

Selling the NOV 50 calls resulted in a realized loss of -2561.6, however the NOV 55 calls have a unrealized gain of about 2350, to offset that loss. I talked about this in my post on Sunday, about the historical value. So I won’t count the 2561 a loss till the position is closed out and all profits or losses are realized.

With the stock at 65.2 now, my breakeven point is 52.8. My original 50/55 spread had a breakeven point of 53.85.

My expectancy is that this price drop is temporary, and that AEM will continue to increase as does gold in the time from now till Nov. But I don’t require this increase for the spread to be successful. If I felt more defensive about this stock, I would not have taken today’s action. I would not have put more money into this position.
 
No trades in the past two days.

From some PM's I'm getting and some other feedback, there are a few readers not well versed in options that still are missing the basic ideas. They think this is complicated, and it is not. So I hope to review and clarify some points for a few beginners.

Most of this thread is concerned with the details of my DITM vertical spread account, and a couple of you are losing the view of the forest because of the trees.

So here is the forest: I have found that finding a stock that will certainly go up in price is difficult. Finding a stock that I THINK will go up is easier. If I use all the information that is available through diligent research to find the very best prospects for stocks that I THINK will go up in the near future, I will have completed a VERY DO-ABLE task. This is not the work of a genius. So I take this list of stocks that I have labored over and apply an OPTION strategy that will make money for me if the stock goes up,or if the stock does not go up, or even if the stock goes down by 15 to 20%. It is that simple.

This option strategy was invented (ref: the internet) by a 4th century Greek mathematician named Optionus Ditum Spreditis, and was named in his honor.

Here is a ficticious example: XYZ stock sells for 83.00. I can buy a call option with a strike price of 60 for $28 * 100. I can sell a call option with a strike price of 65 for $24 * 100. So my net cost for buying and selling the calls is $400. At option expiration, I will make a return of $500, that is $100 profit as long as the XYZ stock is priced above 65 per share. No matter what the stock price is, my maximum risk is $400.

So that is the forest, but to understand even this much you have to have some understanding of options. This information is available all over the internet for free. You don't have to pay a nickle for it. The option strategy part is easy, it just requires a little study. The harder part is finding that stock that will NOT UNDER ANY CIRCUMSTANCES DROP 20% OF ITS VALUE IN THE NEXT SIX MONTHS.

*******************
Here are some clips from my other posts here that might have been hidden behind trees.

I selected the most conservative strategy I could find that would provide a yield that exceeds inflation risk, allows me to make withdrawals from time to time, and still grow capital. For me that annual yield target is about 35%, after taxes. So I generally shoot for 50% annualized yield on each trade.

Methodology:

1. Seek spreads that are 4 to 9 months out. Seek a yield for 50% per year.

2. Put on a lot of smaller spreads rather than fewer (but larger) positions

3. Look for sectors that have the best prospects for longer term growth.

4. Work hard to time the entries into these sectors.
5. Generally, I seek spreads costing $4 and yielding $5 in six months, a 50% annual yield.

6. My stock selection process is top down. I pick my sector, and then find the best stocks I can, then find among them the few that offer good option strike selection and decent open interest. I then quickly examine the options and look at strike prices that are about 20% deep and get a quick feel for volatility.

The decision of strike selection is based on my interpretation of the chart, analyst's data, news, etc., to determine how deep I want the spread to be to feel comfortable and, finally, whether or not I can make my goal of 50% annualized yield at that depth.

Reread my post from 5/26 about the kind of skills I think you want to develop. I am happy to answer any questions I can.
Don't get discouraged.
 
the way this market is going ,you might want to start buying put sprds,with all those bull call spreads on there is no way you would survive an 8-10% move over a couple of days like china,if you woke up tommorrow and the mrkt was down 250 and you started unloading all those spreads it would take you forever,do you have a safety hatch or back up plan?
 
ammo - I have been looking for sectors for DITM bear spreads, but I haven't found anything I really like yet. The sectors I would consider putting on bear spreads are mixed and up and down and I can't read them. And volatility does not seem to be rewarding bear spreads now. Am I wrong?

I am also concerned about gold falling below support which would affect my gold-based spreads, and I've started thinking about reducing my positions there. So far, everytime gold hits around 850 or 825, it recovers and Im hearing no analysis that supports a strong dollar so far. But this sector worries me some.

I'm still well positioned in my energy spreads I think, The last couple of days when energy stocks corrected a little, it did not affect have much affect on my spreads, I'm still deep. And fundamentals still look good so far, and the market prices are acting well I think. I liked the fact that for several days energy stocks and commodities fell a bit even with increasing oil. Also the P/E ratios of the energy stocks and commodity stocks are getting a little larger, but I don't see bubbles yet.

If the S&P gets down to 1250, the falling tide will drag down my ships too and I'm not unmindful of that.
I guess I feel that I would rather be in a position to shed the spreads, rather than put on new protective positions now.

Why do you feel more nervous now?
 
when mrkts get this nervous people take their money off the table,liquidation,and the people who got us in the mess, the hedge funds,banks,brokerage houses are all way overleveraged with our money,when they start bailing who do you think will end up with our money, humans unless staring at a gun tend to bury there heads in the sand
 
yucca, thanks for sharing, i haven't read your whole thread, but i am intrigued. regarding the comment on perhaps hedging your portfolio with some put spreads, could you accomplish that through the use of such a spread on an index, like spy or dia? then you wouldn't need to feel compelled to figure out which stocks are likely to continue to be dogs. you would simply be hedging against an adverse move in the overall market. I haven't checked option prices, so not sure if this would be worthwhile or not.
 
Guys - I AM hedged. My whole strategy is a hedge. I got no place to go for more hedging.


If I didn't want to hedge, if I were absolutely confident of a stocks direction, I would have a portfolio full of ATM spreads and make some REAL money. But I don't do that. I hedge my trades by going as DITM as humanly possible and still make a profit. Thats what hedging is, right? Giving up some profits to protect your portfolio? ATM spreads would make you 75% to100% profits in the same time frame that I'm making 25%.

I am hedged by virtue of the depth of the spread. Buying protective puts would eat up most of the thin profits I earn. Putting on bear spreads to hedge my bull spreads would do the same thing, unless I was lucky enough to have the stock stay where its at.

How many bear spreads would I have to have on an index stock to protect my entire portfolio? How many puts and for what term? And how much would it cost?

I think that the right course for a very dangerous market is to do what I am doing. The only safer course is to get out of the market or reduce exposure. That is also what I do when I think it is the right thing to do.

These are all things my brain tells me. My emotions sometimes do not agree.
 
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