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Conservative Options Strategy
- Thread starter yucca_mtn
- Start date
Economically spreaking, last week's crunch on energy and commodities was like a stiff wind coming in, stiring up the trees and dust, and leaving without any damage.
After my portfolio low of 189K on Thursday, there was a small recovery on Friday, and a full recovery today (from last weeks action) back to a 200k level. With no sales or exits of positions, this just means that my unrealized (paper) gains went down then back up.
The high risk positions I identified in my previous excel file, are still of concern, but the risk level has diminished a lot with today's action. I learned a lot about how oil price will affect my portfolio, and hope to make use of this info.
For example on Thursday USO (oil ETF) fell from 110.19 to 105.09 from hi to lo. And my energy stocks dropped to their lowest levels. On Friday USO fell further to 104.27, but my energy stocks recovered off Thursdays lows - like they got oversold on Thursday. Today USO recovered up to 106.71 (only a little off the lows of last week), and my stocks recovered to levels from Monday last week. For an even better sign, I don't think the general market helped them recover, These stocks recovered on their own strength.
So far I'm glad I didn't shed the high risk positions on Thursday, I'm still hoping to find a better time to shed them with less of a loss or a small gain.
After my portfolio low of 189K on Thursday, there was a small recovery on Friday, and a full recovery today (from last weeks action) back to a 200k level. With no sales or exits of positions, this just means that my unrealized (paper) gains went down then back up.
The high risk positions I identified in my previous excel file, are still of concern, but the risk level has diminished a lot with today's action. I learned a lot about how oil price will affect my portfolio, and hope to make use of this info.
For example on Thursday USO (oil ETF) fell from 110.19 to 105.09 from hi to lo. And my energy stocks dropped to their lowest levels. On Friday USO fell further to 104.27, but my energy stocks recovered off Thursdays lows - like they got oversold on Thursday. Today USO recovered up to 106.71 (only a little off the lows of last week), and my stocks recovered to levels from Monday last week. For an even better sign, I don't think the general market helped them recover, These stocks recovered on their own strength.
So far I'm glad I didn't shed the high risk positions on Thursday, I'm still hoping to find a better time to shed them with less of a loss or a small gain.
Monday Activity: none
Tuesday Activity: none
Wednesday Activity:
SOLD: 5 UNG OCT 42/47 @ 2.3
Stock at 45.65, net LOSS 567
SOLD: 5 UNG JAN 40/45 @ 2.4
Stock at 45.50, net LOSS 611.53
BUY: 5 RIG JAN 100/105 @ 4.1
Stock at 137.08, expected gross profit 450.
Reduced my position in UNG on huge price drop, and took a loss. I did not want to take a loss as I expected this correction and still think it is a two week anomaly, but Iâm not sure so I ate part of the position.
This has been a very tough two days for my portfolio, and I must say if it continues, I will be taking some hits. All my unrealized profits have become paper losses.
On the other hand, this is a wonderful buying opportunity for my other accounts which were handled more conservatively. I have been buying many spreads and using up most of the cash reserves in those accounts, getting what I think are great prices on DITM spreads in these sectors that I am so fond of.
So the question is what is the status of my portfolio now? How much more risk have I incurred with this drop in my stocks? See for yourself. Iâm enclosing an updated excel file, with a new risk assessment. Last line of the spreadsheet shows daily liquidation value.
Position risk:
Very high = 5
High = 11
Low = 54
We will see what tomorrow brings. Regardless, my lingering problem of not leaving myself enough cash for tough times is still with me.
Tuesday Activity: none
Wednesday Activity:
SOLD: 5 UNG OCT 42/47 @ 2.3
Stock at 45.65, net LOSS 567
SOLD: 5 UNG JAN 40/45 @ 2.4
Stock at 45.50, net LOSS 611.53
BUY: 5 RIG JAN 100/105 @ 4.1
Stock at 137.08, expected gross profit 450.
Reduced my position in UNG on huge price drop, and took a loss. I did not want to take a loss as I expected this correction and still think it is a two week anomaly, but Iâm not sure so I ate part of the position.
This has been a very tough two days for my portfolio, and I must say if it continues, I will be taking some hits. All my unrealized profits have become paper losses.
On the other hand, this is a wonderful buying opportunity for my other accounts which were handled more conservatively. I have been buying many spreads and using up most of the cash reserves in those accounts, getting what I think are great prices on DITM spreads in these sectors that I am so fond of.
So the question is what is the status of my portfolio now? How much more risk have I incurred with this drop in my stocks? See for yourself. Iâm enclosing an updated excel file, with a new risk assessment. Last line of the spreadsheet shows daily liquidation value.
Position risk:
Very high = 5
High = 11
Low = 54
We will see what tomorrow brings. Regardless, my lingering problem of not leaving myself enough cash for tough times is still with me.
Attachments
Thursday Activities: none
Sometimes day-to-day activity fogs the bigger picture. Had a chance to look back at my July buying activity. It wasnât too bad. I was disappointed yesterday that I had no resources to capture these great low prices, but if fact I have been doing a pretty good job, after reviewing my spreads so far this month. (This is one of the reasons I wanted a journal - improved documentation.) Yesterday I pointed out that I had 70 spread positions, of which 16 were considered high risk and 54 at low risk.
During July I have put on 18 new positions. So I did in fact take some advantage of this correction in energy and commodities. Of those 18 new positions, 15 are still low risk, 1 was sold yesterday at a loss (UNG), and 2 are now high risk. So my portfolio was certainly improved by these buys.
Yesterday I reviewed some material and reinforced my conviction that this correction (retracement, whatever) is counter to the bullish market trend that my positions are in, and I vowed to tough it out and not be in a hurry to take losses. Well, early today the market tested me pretty good, but I hung tough and saw a good afternoon rally that took most of the sting out of the morning session. During the last hour the prices of oil and natgas held up, but the indexes tugged at the stocks a bit.
If I were really tough I would turn off my computer for 2 weeks, but Iâm not that tough.
It is worth mentioning, for the sake of the journal, that almost all my other accounts are surpassing mine in terms of percentage yield, and have a much lower percentage of high risk spreads. There is like an âin your faceâ lesson there. My idea of being âoverly cautiousâ with other peoples money is a better investment that merely being âcautiousâ with my own.
Not it is time to just see how things unfold.
*********
Friday Activity: none
No changes since yesterday. Will just wait it out, and report any significant changes.
Sometimes day-to-day activity fogs the bigger picture. Had a chance to look back at my July buying activity. It wasnât too bad. I was disappointed yesterday that I had no resources to capture these great low prices, but if fact I have been doing a pretty good job, after reviewing my spreads so far this month. (This is one of the reasons I wanted a journal - improved documentation.) Yesterday I pointed out that I had 70 spread positions, of which 16 were considered high risk and 54 at low risk.
During July I have put on 18 new positions. So I did in fact take some advantage of this correction in energy and commodities. Of those 18 new positions, 15 are still low risk, 1 was sold yesterday at a loss (UNG), and 2 are now high risk. So my portfolio was certainly improved by these buys.
Yesterday I reviewed some material and reinforced my conviction that this correction (retracement, whatever) is counter to the bullish market trend that my positions are in, and I vowed to tough it out and not be in a hurry to take losses. Well, early today the market tested me pretty good, but I hung tough and saw a good afternoon rally that took most of the sting out of the morning session. During the last hour the prices of oil and natgas held up, but the indexes tugged at the stocks a bit.
If I were really tough I would turn off my computer for 2 weeks, but Iâm not that tough.
It is worth mentioning, for the sake of the journal, that almost all my other accounts are surpassing mine in terms of percentage yield, and have a much lower percentage of high risk spreads. There is like an âin your faceâ lesson there. My idea of being âoverly cautiousâ with other peoples money is a better investment that merely being âcautiousâ with my own.
Not it is time to just see how things unfold.
*********
Friday Activity: none
No changes since yesterday. Will just wait it out, and report any significant changes.
figure out a way to buy cheap insurance,you dont have to do it just start thinking about it,increase your war arsonal incase your acct is under attack,so far your recourse is surrender,one thing you could do is buy the same put sprd as the call sprd you are long,pick a point in each stock where you would think about saying uncle and possibly buy a put at that point,the 4.75 call sprd on a $5 sprd means the put sprd is trading at a quarter,all same strike call and put vertical $5 sprds ,say 20/25 call sprd and 20/25 put sprd,same onth same stock are always going to sum up to $5,if the call sprd is trading at 3.25 then the put sprd is trading at $1,75 and will stay that way right into expiration ,(its called a box),you can take off the put sprd or the call sprd on a day like yesterday when you have momentum and let the remaining sprd turn profitable and you will lower or erase your drawdown, or if your long a $12 call and short a $7.25 call ,you can short term sell an extra $5 call and you are neutral,an old school way of trading options when you were in trouble was if you were long something at 12 try to sell something at 12 and at least you are temporarily nuetral until you decide what you are going to do,in the above example you were long 1 at 12,sh 1 at 7,selling 1 at 5 makes you long and short at 12,neutral
ammo
Your excellent post deserves a thoughtful reply, and I will work on that.
For now, I think your perception of the overall risk in my portfolio is much higher than my perception. I don't feel at all out of control, and I'm interested to see how my reasoning works out during the next 3 to 6 months.
If I had your knowledge, skill, intuition, and experience, I would happily be trading just like you do. I can only do what is within my ability, doesn't mean I'm closed to new ideas that make logical sense to me.
Thanks again, and I will respond to your suggestions.
Your excellent post deserves a thoughtful reply, and I will work on that.
For now, I think your perception of the overall risk in my portfolio is much higher than my perception. I don't feel at all out of control, and I'm interested to see how my reasoning works out during the next 3 to 6 months.
If I had your knowledge, skill, intuition, and experience, I would happily be trading just like you do. I can only do what is within my ability, doesn't mean I'm closed to new ideas that make logical sense to me.
Thanks again, and I will respond to your suggestions.
Sunday:
Prompted by ammo, Iâm looking at protective strategies.
Example using APA and yahoo option data for today.
I can buy a bull call spread position: 5 APA JAN 80/85 for 3.8.
APA price is 109.6. This gives me an expected gross profit of 600, for an invested $1900. With a safety factor of $24.6 (22.4%).
Assume the stock drops to 85 with several months to expiration. The spread might only be worth 2.4. So on paper I would be down $700. And the spread is still ITM.
Some protective possibilities:
1. Buy a put to protect a spread.
The JAN 85 put costs 4.4, JAN 80 put cost 3.2. So if I buy the 80 put to protect each spread it cost $320. Doesnât work.
So a ballpark guesstimate of the put value might be 8 at that point (three months out OTM put). So the put would increase from 3.2 to 9, giving me a 580 gain. So one put is enough to protect all 5 spreads. But it eats up half my profit.
What if I buy a put only when my spread gets in trouble (stock falls to 85)? Then the put cost $900 and is too expensive. It is cheaper and safer to simply sell the spread for a $700 loss then to risk another $900 buying a put, which could easily add to the loss. If the stock continued to drop and I was too dumb to sell the call spread (or guessed wrong about future direction), then the put would gain in value to offer some compensation, but not nearly enough.
2. Buy a BOX.
So I buy the JAN call spread for 3.8. Then I buy a JAN bear put debit spread at 85/50 at 1.2. This creates a $5 box (as I understand it). A neutral position that a trader plays with large volume (a lot of spreads) to profit on the fluctuations of the box as the price of the stock changes. If I understand correctly, an ATM box would fluctuate sufficiently to earn good money for a trader who is skilled. What about a DITM box? It seems to me that you would tie up a lot of money for a long period of time waiting for the stock price to start favoring either the bull or bear spread, with no assurance of any profit at all. If I kept both spreads till expiration, it is a breakeven position if the stock stays above 85. If the stock is below 80, I would lose 3.8 but make 1.2, for a 2.6 net loss. The idea is to NOT keep both spreads till expiration, but to tweak the legs to make profits. The box sounds like a good strategy for an price orientated ATM trader with lots of capital, maybe not so good for a part-time, fundamental, guy with much less investment capital.
3. Sell an extra call on a spread to bring the spread to neutral.
This is a temporary play for a very strong experienced trader. It scares the hell out of me. I can think of so many possibilities of total disaster stemming from selling naked calls, that I wonât even consider an overnight position involving a naked call. I donât even have a naked call for 5 minutes as Iâm legging into or out of a position. Out of the question for me.
The above 3 possibilities are not all of the protective measures that are possible, and for now Iâll continue to mull over the problem. Iâm getting some PMs with more suggestions â all food for thought. I will continue to think about it and to solicit workable protective suggestions.
For now my protective measures are to "surrender" (cut my losses early) when I think the fundamentals of the spread has broken down, and, as a secondary approach, to hang tough or roll a leg when I think the position will recover within my timeframe. So I have to convince myself there is another, better way.
****
I want a strategy that is geared for a non-trader. A lot of people donât have the capital, the time, the mentality, the knowledge that successful day or swing trading requires. Look at the other threads to see how very hardworking smart people are struggling to trade consistently, and how few actually are confidently making a living doing it. Day trading specifically is not for part-time investors, full time working people, housewives raising small children, disabled people, retired people (who want a life away from the computer). But these people, including me, deserve a shot at building and protecting a nest-egg in a very hostile and dangerous investment environment. So I am trying out one such strategy that is, so far, working for me.
*********
BTW. I have a strong interest in UNG getting back above 45. I looked at a yahoo chart of USO and UNG (compared) and was blown away by the fact that for six months they tracked each other very closely, then suddenly diverged hugely about 3 weeks ago. So 5 people can look at this chart and have 5 different opinions, but to me this looks like a buy for UNG. So even though my spreads are now under water, I'm not bailing out just yet.
Prompted by ammo, Iâm looking at protective strategies.
Example using APA and yahoo option data for today.
I can buy a bull call spread position: 5 APA JAN 80/85 for 3.8.
APA price is 109.6. This gives me an expected gross profit of 600, for an invested $1900. With a safety factor of $24.6 (22.4%).
Assume the stock drops to 85 with several months to expiration. The spread might only be worth 2.4. So on paper I would be down $700. And the spread is still ITM.
Some protective possibilities:
1. Buy a put to protect a spread.
The JAN 85 put costs 4.4, JAN 80 put cost 3.2. So if I buy the 80 put to protect each spread it cost $320. Doesnât work.
So a ballpark guesstimate of the put value might be 8 at that point (three months out OTM put). So the put would increase from 3.2 to 9, giving me a 580 gain. So one put is enough to protect all 5 spreads. But it eats up half my profit.
What if I buy a put only when my spread gets in trouble (stock falls to 85)? Then the put cost $900 and is too expensive. It is cheaper and safer to simply sell the spread for a $700 loss then to risk another $900 buying a put, which could easily add to the loss. If the stock continued to drop and I was too dumb to sell the call spread (or guessed wrong about future direction), then the put would gain in value to offer some compensation, but not nearly enough.
2. Buy a BOX.
So I buy the JAN call spread for 3.8. Then I buy a JAN bear put debit spread at 85/50 at 1.2. This creates a $5 box (as I understand it). A neutral position that a trader plays with large volume (a lot of spreads) to profit on the fluctuations of the box as the price of the stock changes. If I understand correctly, an ATM box would fluctuate sufficiently to earn good money for a trader who is skilled. What about a DITM box? It seems to me that you would tie up a lot of money for a long period of time waiting for the stock price to start favoring either the bull or bear spread, with no assurance of any profit at all. If I kept both spreads till expiration, it is a breakeven position if the stock stays above 85. If the stock is below 80, I would lose 3.8 but make 1.2, for a 2.6 net loss. The idea is to NOT keep both spreads till expiration, but to tweak the legs to make profits. The box sounds like a good strategy for an price orientated ATM trader with lots of capital, maybe not so good for a part-time, fundamental, guy with much less investment capital.
3. Sell an extra call on a spread to bring the spread to neutral.
This is a temporary play for a very strong experienced trader. It scares the hell out of me. I can think of so many possibilities of total disaster stemming from selling naked calls, that I wonât even consider an overnight position involving a naked call. I donât even have a naked call for 5 minutes as Iâm legging into or out of a position. Out of the question for me.
The above 3 possibilities are not all of the protective measures that are possible, and for now Iâll continue to mull over the problem. Iâm getting some PMs with more suggestions â all food for thought. I will continue to think about it and to solicit workable protective suggestions.
For now my protective measures are to "surrender" (cut my losses early) when I think the fundamentals of the spread has broken down, and, as a secondary approach, to hang tough or roll a leg when I think the position will recover within my timeframe. So I have to convince myself there is another, better way.
****
I want a strategy that is geared for a non-trader. A lot of people donât have the capital, the time, the mentality, the knowledge that successful day or swing trading requires. Look at the other threads to see how very hardworking smart people are struggling to trade consistently, and how few actually are confidently making a living doing it. Day trading specifically is not for part-time investors, full time working people, housewives raising small children, disabled people, retired people (who want a life away from the computer). But these people, including me, deserve a shot at building and protecting a nest-egg in a very hostile and dangerous investment environment. So I am trying out one such strategy that is, so far, working for me.
*********
BTW. I have a strong interest in UNG getting back above 45. I looked at a yahoo chart of USO and UNG (compared) and was blown away by the fact that for six months they tracked each other very closely, then suddenly diverged hugely about 3 weeks ago. So 5 people can look at this chart and have 5 different opinions, but to me this looks like a buy for UNG. So even though my spreads are now under water, I'm not bailing out just yet.
Yucca, I'm following your posts with interest and enjoying your commentary. It's obvious you are using options to implement your views of the market without taking excessive risks.
As you well know by now, with a very diversified portfolio concentrated in a few well chosen sectors, you can escape some of the pain, but not all--as evidenced by your performance in 2008. For most stock only investors, 2008 has been a bit nasty, but your option portfolio is holding up pretty well, although it clearly has not done as well as in 2006-2007 when the general market was also rising.
Here's my question: Do you have a good feel for when the overall market will go up or down? If you do, there are a number of strategies you can employ to reduce the downdrafts. Ammo and Atticus are hinting about ways to make your options portfolio more delta neutral (for newbies, a simple way to think about this is way less sensitive to price changes in the underlying stock, ...Atticus-don't shoot me down over this, I'm giving the most simplistic answer that is somewhat meaningful!!!...)
Also, Atticus--could you elaborate in simple layman's terms from your earlier posts. I know you have plenty of knowledge in this area, but Yucca's comment on the theory of relativity.....
As you well know by now, with a very diversified portfolio concentrated in a few well chosen sectors, you can escape some of the pain, but not all--as evidenced by your performance in 2008. For most stock only investors, 2008 has been a bit nasty, but your option portfolio is holding up pretty well, although it clearly has not done as well as in 2006-2007 when the general market was also rising.
Here's my question: Do you have a good feel for when the overall market will go up or down? If you do, there are a number of strategies you can employ to reduce the downdrafts. Ammo and Atticus are hinting about ways to make your options portfolio more delta neutral (for newbies, a simple way to think about this is way less sensitive to price changes in the underlying stock, ...Atticus-don't shoot me down over this, I'm giving the most simplistic answer that is somewhat meaningful!!!...)
Also, Atticus--could you elaborate in simple layman's terms from your earlier posts. I know you have plenty of knowledge in this area, but Yucca's comment on the theory of relativity.....
Ammoâs post above is his third attempt to get me to consider protective puts. He also posted the ideas on 5/29 and 6/12. He is persistent. Iâm actually coming around a little bit. The quick math I did in my previous post did impress me and it is taking some time to soak in.
The quick look showed that one put could offer some protection to a 5 spread position, at a cost, of course. But I would think that some more consideration could find a happy medium between cost of protection and value of protection. Like insurance, we all try to find what we need at a price we can afford. So the trick is to develop a methodology (I love that word) to add that insurance at either: (1) the right cost and/or (2) the appropriate time, in order to maximize the benefit of the protection. I want the selection criteria to be as rigid as possible to insure repeatability, just like my criteria for spread selection that is six months out, DITM, yields 25%, and in a selected sector.
In other words I want a guideline to select the most cost effective put strike at the time of opening the spreads, or opening the spreads then waiting for a certain set of circumstances (like stock price dropped to a certain % level) to occur before buying the put protection (and at what expiration). Obviously I donât need 99% accuracy, but I do need a darn good ballpark idea about which put strike price and strike date to start looking.
I would think that playing around with option modeling could answer enough âwhat-ifâ questions to yield a pretty good answer. Iâm going to look at that in the coming days starting with a spreadsheet in excel and estimating delta by examining actual option data and assuming a constant volatility. Any assistance with this would be appreciated, or pointers to reference material. As a last resort, I will try to find it myself in McMillan's book.
Obviously when a spread has already got in trouble, the horse is already out of the barn, and no option magic is going to repair the position, only a recovery of the stock price will do that.
Another consideration is if a put protection strategy really exists, wouldnât life be nice?
Taking a vacation with less worry about monitoring a disaster. Maybe fewer (but larger) positions to monitor. And not least is that the worse the disaster the more the put protects, and the put delta is higher than the spread delta under that scenario. So if the delta of the put = the sum of the deltas of the spreads â delta neutral???????
How do you determine the delta of a spread, anyway?
*****
JohnGreenâs question : âHere's my question: Do you have a good feel for when the overall market will go up or down? If you do, there are a number of strategies you can employ to reduce the downdrafts.â
Answer is no, I do not have a feel (good or otherwise) about the markets direction. The DITM bull spread is like a shotgun approach, even if I donât aim directly at the bird, my pattern is so great that mostly I hit it. (Think clay pigeon if you are offended.)
My only idea of market direction is a fundamental belief in the sectorâs growth, or (as a poor second) reliance on analysis of âexpertsâ. P.S. Glad you liked the Einstein post. lol.
The quick look showed that one put could offer some protection to a 5 spread position, at a cost, of course. But I would think that some more consideration could find a happy medium between cost of protection and value of protection. Like insurance, we all try to find what we need at a price we can afford. So the trick is to develop a methodology (I love that word) to add that insurance at either: (1) the right cost and/or (2) the appropriate time, in order to maximize the benefit of the protection. I want the selection criteria to be as rigid as possible to insure repeatability, just like my criteria for spread selection that is six months out, DITM, yields 25%, and in a selected sector.
In other words I want a guideline to select the most cost effective put strike at the time of opening the spreads, or opening the spreads then waiting for a certain set of circumstances (like stock price dropped to a certain % level) to occur before buying the put protection (and at what expiration). Obviously I donât need 99% accuracy, but I do need a darn good ballpark idea about which put strike price and strike date to start looking.
I would think that playing around with option modeling could answer enough âwhat-ifâ questions to yield a pretty good answer. Iâm going to look at that in the coming days starting with a spreadsheet in excel and estimating delta by examining actual option data and assuming a constant volatility. Any assistance with this would be appreciated, or pointers to reference material. As a last resort, I will try to find it myself in McMillan's book.
Obviously when a spread has already got in trouble, the horse is already out of the barn, and no option magic is going to repair the position, only a recovery of the stock price will do that.
Another consideration is if a put protection strategy really exists, wouldnât life be nice?
Taking a vacation with less worry about monitoring a disaster. Maybe fewer (but larger) positions to monitor. And not least is that the worse the disaster the more the put protects, and the put delta is higher than the spread delta under that scenario. So if the delta of the put = the sum of the deltas of the spreads â delta neutral???????
How do you determine the delta of a spread, anyway?
*****
JohnGreenâs question : âHere's my question: Do you have a good feel for when the overall market will go up or down? If you do, there are a number of strategies you can employ to reduce the downdrafts.â
Answer is no, I do not have a feel (good or otherwise) about the markets direction. The DITM bull spread is like a shotgun approach, even if I donât aim directly at the bird, my pattern is so great that mostly I hit it. (Think clay pigeon if you are offended.)
My only idea of market direction is a fundamental belief in the sectorâs growth, or (as a poor second) reliance on analysis of âexpertsâ. P.S. Glad you liked the Einstein post. lol.