We turned the original bear call spread into an Iron Condor. As is true of all one-sided short-long spreads, the long option acts as a hedge by placing a lid on the maximum loss we can sustain. The long option even helps a little when the spread is threatened. That is what we started out with here, however, MMM did not cooperate and instead of declining after so-so earnings, it power ahead a little. Today, it closed down $1.12. We much prefer to have an off-setting put position to “balance” the overall call side of the spread and to act as a partial hedge so that when one side is threatened the other is making money.
Our mistake here, if we have made one, is to set a position based on a market direction opinion. The nice thing about premium collection is that it is market neutral...we generally do not care where the market is going...as long as it doesn't go there too fast.
We traded some premium sales for an improved position. The goal posts (strikes) are now 65 and 70, giving us a little room to maneuver. This transaction drove down our Cost per Share to under $50, to $49.89.
We sacrificed a little potential premium and rolled out and up to expand the goal posts which widens our profit zone and better positions us for next week’s rollover. We picked up a little premium and reduced the CPS to $24.93.
We rolled out and up to better position our spread and increased the call contract size. We went out to Aug expiration instead of the Weekly Aug 10 expiration due to a technical glitch in the broker’s order system and the new Weekly quotes. That pushes us out another 6 days but we are okay with it. We kept the fills as they were handed to us. Our CPS is down to $12.82, from $18.16
We got pushed out to 16 days on this one too. We expanded the strikes and gained some premium, increasing our Premium Pool to $872.
MSFT
+10 Weekly(2) 30 Puts @ .92
We decided to close out this position at a small loss of $279. Volatility is declining and premiums are low, making it difficult to roll out to another period and be compensated for the risk.
Rolled out and expanded strikes for a small debit to the premium pool. Now stands at $574.
GLD
+20 Aug 169 Calls @ .04
Bought back the short strike of the remains of this gold condor, leaving the long strike in the “given up for dead pile”. The long strike is worth nothing at this point so why pay commissions to close it out. It has 16 days of life left and on the remote chance that gold should rally, might be sold for something. This completes this Iron Condor.
Rolled out and expanded the strikes a little. Premium pool is $985. Stock closed at $47.09.
AGNC
+5 Aug 35 Puts @ .47
-5 Sep 34 Puts @ .72
Rolled out and down, moving the strike further from the underlying. Premium Pool is $660.
SBUX
+10 Weekly(4) 50 Puts @ 4.20
Stock closed at $43.16. It fell off a cliff on 7/27 and went from about 53 to 43 over the past 5 trading days, after a bad earnings report. This Buy to close today takes us out of this disappointing stock with a net $2854 loss.
We could have rolled the 50 puts out far enough into a month where we would recover most or all of the cost to cover this position, but because the IV volatility is less than the SV volatility and the delta is at 100% (the option moves in a 1 to 1 relationship with the underlying), we elected to buy it back at intrinsic and just take the loss and move on.
The lesson here is that individual stocks are vulnerable to earnings misses and other surprises. When that happens, the premiums seem to whither and rolling out or otherwise hedging gets to be difficult. There are a number of adjustments we could have initiated that would have recovered premium, but it is too much work for not much return.
SBUX was never a stock that we particularly wanted to own and were therefore not committed to salvaging a position in it.
A further lesson is that we let it go too long. It was obvious the stock was headed down and we should have closed out the position the second day.
-5 Weekly(8 days to expiration) 19 Calls @ .49
-5 Weekly(8) 17 Puts @ .31
Our action this week mostly involved rolling options forward and up or down where possible, to expand the goal posts and increase the profit zone. When trading WEEKLY options the strikes are set very close to the underlying in order to get sufficient premium but as the underlying moves about during the week the spread has a tendency to become unbalanced, in the sense that one of the strikes becomes threatened or actually goes In-the-Money. That requires us to re-balance the spread and to do so at a minimum debit or cost to our trading account. Because we sometimes offset added premium against a better position, we also lose additional premium through opportunity cost. Opportunity cost is not a recorded cost and is not a direct debit against anything. In a sense, it is profit that we MIGHT have had but instead choose to spend it on improving our position SO WE CAN HAVE GREATER FUTURE PROFITS.
OPTION REPAIR STRATEGIES
Another week has gone by so quickly. Without our electronics how would we even keep track of what day it is?
Actually, time appears to be accelerating (NASA agrees, as it appears there is some change in the speed of light and particles have been clocked at speeds greater than the speed of light, a previously unbreakable speed limit constant of 186,300 miles per second, all of which will affect time). And, of course, in eternity there is no time. Last year we wrote a very long piece on “Time Merging With Eternity, a Biblical Perspective”, that dealt with those facts. That is another discussion for another time.
Back to the world of Options.
Trading is an enterprise of defense. Last week we discussed Rolling. A Simple Roll is a common form of defense that involves buying back the threatened option and writing, or selling, a further out option, either a week, month or two months, for as much or more premium than our cost to cover. But, like most things, we need to get out of simple and into more complex, to really confuse the issue.
ROLL OUT and FLIP
Another form of defense that we use is called the Roll-Out and Flip.
This is when one side of a spread is threatened because the underlying is TRENDING, that is showing a sustained move rather than just a few wiggles. Such moves cause our normally unbiased fully leashed opinion generating internal mechanism, which in its benign state says “we don’t care where the market goes”, to twitch and bring forth “the great trader and prophet who knows the next moves of the market before they happen”, alter-ego or multiple personality, to prognosticate that the market is moving in one direction for the foreseeable future and may never stop…the moon may only get in the way, so we must get out of its path. One big problem in trading is that many times we believe ourselves.
At any rate, for better or for worse, we have decided defense is necessary.
Enter the Roll-Out and Flip. In the simple Roll-Out defense we buy back the threatened option then roll out and write options in a future period. The strikes we write may or may not be the same as the ones we bought back.
In the Roll-Out and Flip defense we buy back the threatened options and write options, in the same or further out period, in the OPPOSITE SERIES from the repurchased options, writing calls if we originally repurchased puts, or writing puts if we originally repurchased calls.
Several rules to keep in mind:
The strike price we are writing should be as far from the underlying as possible and from the strike price of the option we are repurchasing. We always attempt to improve our position.
2. Maintain an acceptable ROI, even if that means we must write more options than we repurchased.
The whole transaction must always be for a net credit.
A variation on the Roll-Out and Flip defense is the Nuclear Defense, so named because of its similarity to nuclear fission. A stretch I know, but there is a certain emotional satisfaction when looking at a threatened position and saying or yelling, “Nuke it!”
This is where we buy back the threatened options and roll-out to a future period and sell less than the number of options we bought back plus sell some number of options of the same period but of the opposite series, while adhering to rule #3 above.
For example, if we buy back 10 call contracts, we roll out to the next period, or further, and SELL 7 calls at a strike greater than we bought AND SELL 7 OTM puts, splitting the original calls into rolled-out calls and puts.
Hedging an option write is a process. Any trade may require a number of fixes before we are out of a trade. Some trades can go on for years. Some might even be labeled “Perpetual Trades”. Long trades are a good thing because we are making the cash register ring along the way. We are working to expand the pipeline that runs from other traders wallets to our trading accounts, making sure we are siphoning money in, not out.
Last week we spent $701 in commissions, to reposition, roll and fission trades that resulted in a net reduction to our unearned premium reserve of $3,516. We still closed out many profitable positions so we gained EARNED premium, or net profit, on the week. We gained much better position for many of our trades, as well as significant margin relief, but obviously lost ground in our premium collection. Next week we should be back on track to selling net premium.
We will also get to more Option Repair Strategies.
Total Credit net of commissions = $1,590
Probability = 69%
Annual; Yield = 104%
ROI = 6%
Margin = $26,820
Daily Time Decay (Theta) = $174.55
Gold has been channeling since March with resistance at 1642 and support at 1529. This naked strangle has a Delta of -2.39 with 22 days to go.
CRUDE OIL
+3 Oct 100 Calls
-3 Oct 102 Calls
@ .40
Delta = 17%
Margin = $1,363
Crude Oil has been inching its way up since June and it looks like it is eying $100 bbl. Middle East tension continue. Today a pipeline explosion in Iraq on the Kirkuk Ceyhan line, took out 300bbl a day. 300bbl a day is not much overall, but these kinds of problems can lead to Crude having $3-$5 up days. When Crude moves it moves with a vengeance.
Crude is less than $7 from the $100 mark, and a test of that level is likely.
The above Bull Call Spread was put on for a cost of .40, or net $1,213.92. Maximum profit is $6,000 – cost of trade = $4,786.08, which occurs at 100.50 at expiration.
Maximum loss is confined to the cost of the trade, or $1,213.92
We will exit positions at 80%.
This is a departure from our normal credit selling strategy but can be very profitable if we are right about the trend in Crude.
This is an example of the Fission Repair Strategy. We bought back the Aug(4) 28 Calls expiring Friday for $940. Then we rolled out and up to the Aug (11) 29 calls, but decreased the contract quantity to 9, for $567. Then we flipped to the put side to get on the other side of the current up trend in the underlying and wrote 10 Aug 28 puts to make up for some of the premium loss, for $580. How did we come out? $940-567-580 = 207 credit. We picked up a bit of premium and improved our position in the process.
Established a few new positions, closed out some old and defended a number of them. The net result of all this activity is that we improved our positions somewhat and added more time premium to the unearned column, which now stands at $7,668.10.
Added small covered call positions to all Dividend Portfolios.
KO
-5 Sep(40) 38.75 Puts @ .56
These are naked puts which, if assigned, will get us 500 shares of KO at 38.75, less option premium.
BIP
+100 Shares @ 35.41
TGP
+100 Shares @ 40.549
We added a small position in two limited partnerships for tracking purposes. We will write puts to enhance our position as the price moves about. Today’s pricing was not particularly compelling, but we have found that we tend to follow stocks much more closely when we have some kind of a position, even an overpriced one. Our strategy continues to include a portfolio of dividend paying stocks, MLP’s, and royalty trusts, funded by our option trading operations. If those dividend paying stocks are liquid and optionable so much the better. MLP’s are not the most liquid units out there so we use some caution as to issue and size of our positions.
As a general rule, careful selection of dividend paying stocks might get us to an annual yield of 6-10%. Selling covered calls on those stocks will get us up into the 20-30% range. Combining that with selling puts in twice the amount of stock we want to end up with will get us up into the 100% category.
EXITING POSITIONS OR WHERE DID DELTA GO
Option trading involves many decisions. One of many important decisions is where we exit a position. Like all traders we hate to leave money on the table and choosing the optimal time to exit a trade can make a big difference to our trading accounts.
Generally, we have found that the best time to exit an option trade is as soon as it has hit our target of around 80% of premium, but never less than 10-14 days prior to expiration (This does not apply to Weekly options). There is a very valid reason for so doing.
With all short options, especially spreads, which involve simultaneously buying and selling options, on the surface the numbers look much more profitable to hold to expiration. Often these spreads are most profitable when the price of the underlying closes at the short strike, however, it is a trader’s siren song that can coax one into losses instead of profits. If that sweet call comes during the final countdown to expiration we would be ignoring the increased risk which comes with the potential for more profit and our strategy of DECREASING risk, not increasing it.
The increased risk comes from the Delta exposure of the short option combined with the possibility that the underlying will not expire at the short strike. Delta is the amount of movement in the option pricing for every $1 move in the underlying expressed as a percentage.
Options are depreciating assets. That is why we like SELLING options and enlisting time on our side so we benefit from the daily premium decay, or Theta. The time value of an option decays at an accelerating rate as expiration approaches. This acceleration is quite noticeable starting about four weeks before expiration. Especially in the last week decay rates increase very rapidly. Graphically represented, the curve in the last few days steepens until it is almost straight down.
That ideal curve of Theta decay depends on the underlying being nowhere near our strike price, a modest Delta, and an ever shorting time to expiration. If the underlying threatens our strike, or worse goes in-the-money, and Delta rapidly increases…that is a whole ‘nother matter.
Our strategy on short options (not weekly options) is to carve out the first 80% or so of profit and close out the position. If we continue to hold the short option we could make another 20 or even 30 %. In other words, if we continue to hold the position we have the potential to make another 20% or so in just a few days. It seems like high probability money in a short time. That siren call can sometimes make it difficult to be disciplined and close out the position.
The remaining profit must be balanced out against the risks associated with increased Delta exposure. While it is possible to capture the increased profit it is just as likely we will not, plus a good chance we will give it all back and more. Why is this so?
Often during the beginning of a position the underlying moves around a little but doesn’t have much real impact on the option pricing and as the days tick off Sister Theta and her crew of daily price decay Theta dancers do their job on the premium which dissolves into small numbers.
We normally sell options when they contain much time value and Delta is low. Markedly increased Delta will cause a small percentage move of only 2 or 3 % in the underlying in the wrong direction to destroy our profitable option position. With low Delta, the underlying can move around a bit and not affect our position. Often during the beginning of a position the underlying moves around a little but doesn’t have much real impact on the option pricing and as the days tick off Sister Theta and her crew of daily price decay Theta dancers do their job on the premium which dissolves into small numbers.
However, as expiration nears and Delta increases, and sometimes approaches 100%, that 2 or 3% move in the underlying can be can be devastating. In times of high statistical volatility a 2 or 3% move in a single day is common. I repeat, IT IS QUITE COMMON. The mathematical probability which started out in our favor has now turned against us and it becomes increasingly more probable we will get a large move in the option pricing.
Of course, if the position is a spread the long option MAY offset some of the losses to the short strike, but even then further moves against us could erase the effect and still create an overall loss. Whenever the option price moves around the LONG strike price, DELTA EXPOSURE MAY OCCUR THERE ALSO.
The rapid increase in DELTA of both long and short options just prior to expiration creates a situation where small movements in the underlying can quickly turn a winning position into a loser.
Many traders talk about putting on short positions and holding to expiration. We have seen advisory services recommending holding to expiration to wring every last drop of profit out of the position. We think that is foolhardy and a result of folks who do not understand Delta. If we were to fall for that siren song we should not be surprised to be wrecked upon the rocks.
We can never forget that option trading is all about time, timing and decreasing risk. We close out our positions prior to expiration to remove this exposure to rapid changes so we stay on the path of high probability trading.
EWZ, RGLD, MMM, GTLS, SLB, AIG, CAT, CHK, FCX, MSFT, SSO, SLW, TNA, TZA, GLD, SO, AGNC, SBUX
FROM THE JOURNAL: Thursday, August 2, 2012
Covers Tuesday, Wednesday and Thursday
EWZ
+5 Weekly(4) 49 Puts @ .05
Autofill
+5 Weekly(2) 51 Puts @ .10
Autofill
-10 Weekly(9) 50 Puts @ .33
+10 Weekly(2) 52 Calls @ .80
-10 Weekly(9) 53 Calls @ .97
RGLD
+5 Sep 82.5 Calls @ 1.41
-5 Sep 80 Calls @ 2.15
MMM
+20 Sep 82.5 Puts @ .50
-20 Sep 85 Puts @ .75
We turned the original bear call spread into an Iron Condor. As is true of all one-sided short-long spreads, the long option acts as a hedge by placing a lid on the maximum loss we can sustain. The long option even helps a little when the spread is threatened. That is what we started out with here, however, MMM did not cooperate and instead of declining after so-so earnings, it power ahead a little. Today, it closed down $1.12. We much prefer to have an off-setting put position to “balance” the overall call side of the spread and to act as a partial hedge so that when one side is threatened the other is making money.
Our mistake here, if we have made one, is to set a position based on a market direction opinion. The nice thing about premium collection is that it is market neutral...we generally do not care where the market is going...as long as it doesn't go there too fast.
GTLS
+1 Sep 70 Call @ 1.05
Autofill
+3 Aug 65 Puts @ 4.10
-3 Sep 60 Puts @ 3.55
-1 Sep 65 Call @ 2.85
We traded some premium sales for an improved position. The goal posts (strikes) are now 65 and 70, giving us a little room to maneuver. This transaction drove down our Cost per Share to under $50, to $49.89.
SLB
+10 WEEKLY(2) 67.5 Puts @ .05
Autofill
+10 Weekly(2) 72.5 Calls @ .07
-10 Weekly(9) 72.5 Calls @ .35
-5 Weekly(9) 67.5 Puts @ .49
We reduced our put position by half.
AIG
+5 Weekly(2) 31 Calls @ .79
-5 Weekly(9) 32 Calls @ .61
+10 Weekly(2) 30 Puts @ .31
-10 Weekly(9) 30 Puts @ .52
We sacrificed a little potential premium and rolled out and up to expand the goal posts which widens our profit zone and better positions us for next week’s rollover. We picked up a little premium and reduced the CPS to $24.93.
CAT
+1 Weekly(2) 85 Call @ .34
-1 Weekly(9) 85 Call @ 1.43
-3 Weekly(9) 80 Puts @ .54
We rolled out at the same 85 call strike and picked up $1.09 in premium.
CHK
+5 Weekly(2) 18 Calls @ .43
-10 Aug(16) 19 Calls @ .51
-10 Aug(16) 17 Puts @ .56
We rolled out and up to better position our spread and increased the call contract size. We went out to Aug expiration instead of the Weekly Aug 10 expiration due to a technical glitch in the broker’s order system and the new Weekly quotes. That pushes us out another 6 days but we are okay with it. We kept the fills as they were handed to us. Our CPS is down to $12.82, from $18.16
FCX
+10 Aug(16) 33 Calls @ .32
-10 Aug(16) 34 Calls @ .55
+10 Aug(16) 33 Puts @ .41
-10 Aug(16) 31 Puts @ .45
We got pushed out to 16 days on this one too. We expanded the strikes and gained some premium, increasing our Premium Pool to $872.
MSFT
+10 Weekly(2) 30 Puts @ .92
We decided to close out this position at a small loss of $279. Volatility is declining and premiums are low, making it difficult to roll out to another period and be compensated for the risk.
SSO
+5 Weekly(2) 53 Puts @ .05
+2 Weekly(2) 56 Calls @ .11
-2 Weekly(9) 56 Calls @ .43
+2 Weekly(2) 55 Calls @ .33
-5 Weekly(9) 52 Puts @ .39
Cleaned up the dual call positions, expanded the strikes to 52/56 and picked up some premium. CPS is down to $54.07. Stock closed at $54.86.
SLW
+10 Weekly(2) 26 Puts @ .03
Autofill
+10 Weekly(2) 28 Calls @ .15
-5 Weekly(9) 28 Calls @ .55
Rolled forward the calls. Puts not yet in place. Premium Pool is $956.
TNA
+10 Weekly(2) 51 Puts @ 3.84
-10 Weekly(9) 47 Puts @ 1.83
-10 Weekly(9) 49 Calls @ 1.20
+10 Weekly(2) 53 Calls @ .05
Rolled forward and expanded strikes to 47/49. Premium Pool is $643.
TZA
+10 Weekly(2) 19 Calls @ 1.16
-10 Weekly(9) 21 Calls @ .49
+10 Weekly(2) 19 Puts @ .08
-10 Weekly(9) 19 Puts @ .37
Rolled out and expanded strikes for a small debit to the premium pool. Now stands at $574.
GLD
+20 Aug 169 Calls @ .04
Bought back the short strike of the remains of this gold condor, leaving the long strike in the “given up for dead pile”. The long strike is worth nothing at this point so why pay commissions to close it out. It has 16 days of life left and on the remote chance that gold should rally, might be sold for something. This completes this Iron Condor.
SO
+10 Aug 47 Puts @ .51
-10 Sep 46 Puts @ .48
+10 Aug 48 Calls @ .10
-10 Sep 48 Calls @ .34
Rolled out and expanded the strikes a little. Premium pool is $985. Stock closed at $47.09.
AGNC
+5 Aug 35 Puts @ .47
-5 Sep 34 Puts @ .72
Rolled out and down, moving the strike further from the underlying. Premium Pool is $660.
SBUX
+10 Weekly(4) 50 Puts @ 4.20
Stock closed at $43.16. It fell off a cliff on 7/27 and went from about 53 to 43 over the past 5 trading days, after a bad earnings report. This Buy to close today takes us out of this disappointing stock with a net $2854 loss.
We could have rolled the 50 puts out far enough into a month where we would recover most or all of the cost to cover this position, but because the IV volatility is less than the SV volatility and the delta is at 100% (the option moves in a 1 to 1 relationship with the underlying), we elected to buy it back at intrinsic and just take the loss and move on.
The lesson here is that individual stocks are vulnerable to earnings misses and other surprises. When that happens, the premiums seem to whither and rolling out or otherwise hedging gets to be difficult. There are a number of adjustments we could have initiated that would have recovered premium, but it is too much work for not much return.
SBUX was never a stock that we particularly wanted to own and were therefore not committed to salvaging a position in it.
A further lesson is that we let it go too long. It was obvious the stock was headed down and we should have closed out the position the second day.
More tomorrow.
BE BLESSED
CHK
FROM THE LOG: August 3, 2012
CHK
-5 Weekly(8 days to expiration) 19 Calls @ .49
-5 Weekly(8) 17 Puts @ .31
Our action this week mostly involved rolling options forward and up or down where possible, to expand the goal posts and increase the profit zone. When trading WEEKLY options the strikes are set very close to the underlying in order to get sufficient premium but as the underlying moves about during the week the spread has a tendency to become unbalanced, in the sense that one of the strikes becomes threatened or actually goes In-the-Money. That requires us to re-balance the spread and to do so at a minimum debit or cost to our trading account. Because we sometimes offset added premium against a better position, we also lose additional premium through opportunity cost. Opportunity cost is not a recorded cost and is not a direct debit against anything. In a sense, it is profit that we MIGHT have had but instead choose to spend it on improving our position SO WE CAN HAVE GREATER FUTURE PROFITS.
OPTION REPAIR STRATEGIES
Another week has gone by so quickly. Without our electronics how would we even keep track of what day it is?
Actually, time appears to be accelerating (NASA agrees, as it appears there is some change in the speed of light and particles have been clocked at speeds greater than the speed of light, a previously unbreakable speed limit constant of 186,300 miles per second, all of which will affect time). And, of course, in eternity there is no time. Last year we wrote a very long piece on “Time Merging With Eternity, a Biblical Perspective”, that dealt with those facts. That is another discussion for another time.
Back to the world of Options.
Trading is an enterprise of defense. Last week we discussed Rolling. A Simple Roll is a common form of defense that involves buying back the threatened option and writing, or selling, a further out option, either a week, month or two months, for as much or more premium than our cost to cover. But, like most things, we need to get out of simple and into more complex, to really confuse the issue.
ROLL OUT and FLIP
Another form of defense that we use is called the Roll-Out and Flip.
This is when one side of a spread is threatened because the underlying is TRENDING, that is showing a sustained move rather than just a few wiggles. Such moves cause our normally unbiased fully leashed opinion generating internal mechanism, which in its benign state says “we don’t care where the market goes”, to twitch and bring forth “the great trader and prophet who knows the next moves of the market before they happen”, alter-ego or multiple personality, to prognosticate that the market is moving in one direction for the foreseeable future and may never stop…the moon may only get in the way, so we must get out of its path. One big problem in trading is that many times we believe ourselves.
At any rate, for better or for worse, we have decided defense is necessary.
Enter the Roll-Out and Flip. In the simple Roll-Out defense we buy back the threatened option then roll out and write options in a future period. The strikes we write may or may not be the same as the ones we bought back.
In the Roll-Out and Flip defense we buy back the threatened options and write options, in the same or further out period, in the OPPOSITE SERIES from the repurchased options, writing calls if we originally repurchased puts, or writing puts if we originally repurchased calls.
Several rules to keep in mind:
2. Maintain an acceptable ROI, even if that means we must write more options than we repurchased.
A variation on the Roll-Out and Flip defense is the Nuclear Defense, so named because of its similarity to nuclear fission. A stretch I know, but there is a certain emotional satisfaction when looking at a threatened position and saying or yelling, “Nuke it!”
This is where we buy back the threatened options and roll-out to a future period and sell less than the number of options we bought back plus sell some number of options of the same period but of the opposite series, while adhering to rule #3 above.
For example, if we buy back 10 call contracts, we roll out to the next period, or further, and SELL 7 calls at a strike greater than we bought AND SELL 7 OTM puts, splitting the original calls into rolled-out calls and puts.
Hedging an option write is a process. Any trade may require a number of fixes before we are out of a trade. Some trades can go on for years. Some might even be labeled “Perpetual Trades”. Long trades are a good thing because we are making the cash register ring along the way. We are working to expand the pipeline that runs from other traders wallets to our trading accounts, making sure we are siphoning money in, not out.
Last week we spent $701 in commissions, to reposition, roll and fission trades that resulted in a net reduction to our unearned premium reserve of $3,516. We still closed out many profitable positions so we gained EARNED premium, or net profit, on the week. We gained much better position for many of our trades, as well as significant margin relief, but obviously lost ground in our premium collection. Next week we should be back on track to selling net premium.
We will also get to more Option Repair Strategies.
BE BLESSED
GOLD, CRUDE OIL, EWZ, TZA, SSO, TNA, AIG, XLE, CAT, SLB, SLW
FROM THE LOG: Tuesday, August 7, 2012
Covers Monday and Tuesday
GOLD
-5 Sep 1710 Calls @ 1.80
-5 Sep 1525 Puts @ 1.80
Total Credit net of commissions = $1,590
Probability = 69%
Annual; Yield = 104%
ROI = 6%
Margin = $26,820
Daily Time Decay (Theta) = $174.55
Gold has been channeling since March with resistance at 1642 and support at 1529. This naked strangle has a Delta of -2.39 with 22 days to go.
CRUDE OIL
+3 Oct 100 Calls
-3 Oct 102 Calls
@ .40
Delta = 17%
Margin = $1,363
Crude Oil has been inching its way up since June and it looks like it is eying $100 bbl. Middle East tension continue. Today a pipeline explosion in Iraq on the Kirkuk Ceyhan line, took out 300bbl a day. 300bbl a day is not much overall, but these kinds of problems can lead to Crude having $3-$5 up days. When Crude moves it moves with a vengeance.
Crude is less than $7 from the $100 mark, and a test of that level is likely.
The above Bull Call Spread was put on for a cost of .40, or net $1,213.92. Maximum profit is $6,000 – cost of trade = $4,786.08, which occurs at 100.50 at expiration.
Maximum loss is confined to the cost of the trade, or $1,213.92
We will exit positions at 80%.
This is a departure from our normal credit selling strategy but can be very profitable if we are right about the trend in Crude.
EWZ
+10 W(5) 50 Puts @ .05
TZA
+10 W(5) 21 Calls @ .05
SSO
+5 W(5) 52 Puts @ .05
TNA
+10 W(5) 47 Puts @ .15
AIG
+10 Aug(12) 30 Puts @ .05
XLE
+5 Sep 61 Puts @ .20
CAT
+3 W(4) 80 Puts @ .03
SLB
+5 W(4) 67.50 Puts @ .05
+ 10 W(4) 72.5 Calls @ 1.31
-10 W(11) 72.5 Calls @ 1.69
SLW
+10 W(4) 28 Calls @ .94
-10 W(4) 28 Puts @ .58
-9 W(11) 29 Calls @ .63
This is an example of the Fission Repair Strategy. We bought back the Aug(4) 28 Calls expiring Friday for $940. Then we rolled out and up to the Aug (11) 29 calls, but decreased the contract quantity to 9, for $567. Then we flipped to the put side to get on the other side of the current up trend in the underlying and wrote 10 Aug 28 puts to make up for some of the premium loss, for $580. How did we come out? $940-567-580 = 207 credit. We picked up a bit of premium and improved our position in the process.
BE BLESSED
SSO, TNA, NBR, CHK, JPM, TZA, XLE, EEM, AIG, FCX, MMR, SLW
FROM THE LOG: Friday, August 10, 2012
Covers Wednesday, Thursday and Friday
SSO
+2 Weekly(3) 56 Calls @ 1.78
-2 Weekly(10) 57 Calls @ 1.35
-5 Weekly(10) 56 Puts @ .43
TNA
+5 Weekly(3) 49 Calls @ 5.02
-5 Weekly(10) 50 Calls @ 4.48
-5 Weekly(10) 51 Puts @ .81
+5 Weekly(8) 50 Calls @ 3.86
-5 Weekly(8) 52 Calls @2.31
MMR
-10 Sep(43) 17 Calls @ .47
-10 Sep(43) 11 Puts @ .45
SLW
+10 Weekly(8) 28 Puts @ .05
NBR
+10 Weekly(10) 14 Puts @ .10
+3 Aug(9) 15 Calls @ 1.02
-3 Sep(44) 15 Calls @1.45
-10 Dec 12 Puts @ .51
CHK
+10 Weekly(9) 17 Puts @ .05
+5 Weekly(9) 17 Puts @ .02
+5 Weekly(1) 19 Calls @ .76
-5 Weekly(8) 19 Calls @ .91
FCX
+10 Weekly(8) 34 Calls @ 2.49
-10 Weekly(8) 37 Calls @ .36
-10 Weekly(8) 36 Puts @ .50
JPM
+10 Weekly(2) 35 Calls @ 2.06
-10 Weekly(9) 35 Calls @ 1.97
+10 Weekly(8) 35 Calls @ 1.65
-10 Weekly(8) 37 Calls @ .28
AIG
-10 Weekly(8) 32 Puts @ .30
XLE
-5 Sep 67.5 Puts @ .69
EEM
-5 Weekly(9) 41 Calls @ .27
-5 Weekly(9) 40 Puts @ .26
TZA
+10 Weekly(2) 19 Puts @ 1.82
-9 Weekly(10) Calls @ 1.95
Established a few new positions, closed out some old and defended a number of them. The net result of all this activity is that we improved our positions somewhat and added more time premium to the unearned column, which now stands at $7,668.10.
BE BLESSED
SLB. BIP, SLW, TGP, KO
FROM THE LOG: Monday, Augist 13, 2012
SLB
+10 Weekly(5) 72.5 Calls @ 2.77
Covered the call position as we are on the wrong side of this one. We will look for opportunity to write puts.
SLW
+300 Shares @ 30.76
-3 Weekly(5) 31 Calls @ .37
Added small covered call positions to all Dividend Portfolios.
KO
-5 Sep(40) 38.75 Puts @ .56
These are naked puts which, if assigned, will get us 500 shares of KO at 38.75, less option premium.
BIP
+100 Shares @ 35.41
TGP
+100 Shares @ 40.549
We added a small position in two limited partnerships for tracking purposes. We will write puts to enhance our position as the price moves about. Today’s pricing was not particularly compelling, but we have found that we tend to follow stocks much more closely when we have some kind of a position, even an overpriced one. Our strategy continues to include a portfolio of dividend paying stocks, MLP’s, and royalty trusts, funded by our option trading operations. If those dividend paying stocks are liquid and optionable so much the better. MLP’s are not the most liquid units out there so we use some caution as to issue and size of our positions.
As a general rule, careful selection of dividend paying stocks might get us to an annual yield of 6-10%. Selling covered calls on those stocks will get us up into the 20-30% range. Combining that with selling puts in twice the amount of stock we want to end up with will get us up into the 100% category.
EXITING POSITIONS OR WHERE DID DELTA GO
Option trading involves many decisions. One of many important decisions is where we exit a position. Like all traders we hate to leave money on the table and choosing the optimal time to exit a trade can make a big difference to our trading accounts.
Generally, we have found that the best time to exit an option trade is as soon as it has hit our target of around 80% of premium, but never less than 10-14 days prior to expiration (This does not apply to Weekly options). There is a very valid reason for so doing.
With all short options, especially spreads, which involve simultaneously buying and selling options, on the surface the numbers look much more profitable to hold to expiration. Often these spreads are most profitable when the price of the underlying closes at the short strike, however, it is a trader’s siren song that can coax one into losses instead of profits. If that sweet call comes during the final countdown to expiration we would be ignoring the increased risk which comes with the potential for more profit and our strategy of DECREASING risk, not increasing it.
The increased risk comes from the Delta exposure of the short option combined with the possibility that the underlying will not expire at the short strike. Delta is the amount of movement in the option pricing for every $1 move in the underlying expressed as a percentage.
Options are depreciating assets. That is why we like SELLING options and enlisting time on our side so we benefit from the daily premium decay, or Theta. The time value of an option decays at an accelerating rate as expiration approaches. This acceleration is quite noticeable starting about four weeks before expiration. Especially in the last week decay rates increase very rapidly. Graphically represented, the curve in the last few days steepens until it is almost straight down.
That ideal curve of Theta decay depends on the underlying being nowhere near our strike price, a modest Delta, and an ever shorting time to expiration. If the underlying threatens our strike, or worse goes in-the-money, and Delta rapidly increases…that is a whole ‘nother matter.
Our strategy on short options (not weekly options) is to carve out the first 80% or so of profit and close out the position. If we continue to hold the short option we could make another 20 or even 30 %. In other words, if we continue to hold the position we have the potential to make another 20% or so in just a few days. It seems like high probability money in a short time. That siren call can sometimes make it difficult to be disciplined and close out the position.
The remaining profit must be balanced out against the risks associated with increased Delta exposure. While it is possible to capture the increased profit it is just as likely we will not, plus a good chance we will give it all back and more. Why is this so?
Often during the beginning of a position the underlying moves around a little but doesn’t have much real impact on the option pricing and as the days tick off Sister Theta and her crew of daily price decay Theta dancers do their job on the premium which dissolves into small numbers.
We normally sell options when they contain much time value and Delta is low. Markedly increased Delta will cause a small percentage move of only 2 or 3 % in the underlying in the wrong direction to destroy our profitable option position. With low Delta, the underlying can move around a bit and not affect our position. Often during the beginning of a position the underlying moves around a little but doesn’t have much real impact on the option pricing and as the days tick off Sister Theta and her crew of daily price decay Theta dancers do their job on the premium which dissolves into small numbers.
However, as expiration nears and Delta increases, and sometimes approaches 100%, that 2 or 3% move in the underlying can be can be devastating. In times of high statistical volatility a 2 or 3% move in a single day is common. I repeat, IT IS QUITE COMMON. The mathematical probability which started out in our favor has now turned against us and it becomes increasingly more probable we will get a large move in the option pricing.
Of course, if the position is a spread the long option MAY offset some of the losses to the short strike, but even then further moves against us could erase the effect and still create an overall loss. Whenever the option price moves around the LONG strike price, DELTA EXPOSURE MAY OCCUR THERE ALSO.
The rapid increase in DELTA of both long and short options just prior to expiration creates a situation where small movements in the underlying can quickly turn a winning position into a loser.
Many traders talk about putting on short positions and holding to expiration. We have seen advisory services recommending holding to expiration to wring every last drop of profit out of the position. We think that is foolhardy and a result of folks who do not understand Delta. If we were to fall for that siren song we should not be surprised to be wrecked upon the rocks.
We can never forget that option trading is all about time, timing and decreasing risk. We close out our positions prior to expiration to remove this exposure to rapid changes so we stay on the path of high probability trading.
BE BLESSED
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