OPTION MONEY MANAGEMENT – LIKE SEX???

“Money management is like sex: Everyone does it,one way or another, but not many like to talk about it and some do it better than others. But there’s a big difference: Sex sites on the Web proliferate, while sites devoted to the art and science of money management are somewhat difficult to find…..” written by Gibbons Burke.

Yes, Gibbons is right….money management is a rare commodity especially on Options courses. “Get Rich Quick” is the strong password to sell Options Course for many speakers/seminars. They put pictures of ex-students and commented that Mr. A- had been profiting more than 1000% in in GOOG Options trading…. When I looked at this advertisement… “yes”, it happen on paper trading and it was only occurred one time, not everytime…….

Money management in Options is indeed very important. Yet, it is very difficult to execute it if you overtrade and do not trade based on your level or expertise. On one occasion, I had been on one single big trade and using more than 50% of my fund margin (note: it is only a foolish who uses 50% margin fund for one position). I was so “Greed” and saw only profit potential and did not see the catastrophic possibility. I was so sure that the stock would not move down passed the strong support level that I believed in. This was due to that the stock had been lowered on an extended period of time and experienced exhaustion. Well, there was one important lesson here that during a Bearish Market, anything can be happen…. and the stock really against toward my position…..

Since I was over-trade, cutting loss means huge pain. Therefore, I fixed the position by rolling my position to next month, putting to more conservative strike price and expecting time will help to recover the loss.

My expectation was half true. I was right that the stock crept up again.. but only for certain period of time and began to be pressured by whole discouraging market conditions. When the stock rebound, I actually could make a good stop loss, nevertheless, over-trade made me hesitate to do that…….

A week later, the stock showed further deterioration and luckily, I could be able to discipline myself to get out from this trade and ate my loss (around 40% from the margin and I really did not like the whole technical indicators). The prediction was right, the stock plunged more than 20% to the lowest level for over 2-3 years. Should I waited again, I could loss the whole margin……

The thing that I want to share to you is that “over-trade” can definitely make you stunned on executing important move. I experienced that I can cut loss earlier when I did not over trade. It was really easy and no emotional involvement. I can also close my profitable positions earlier (if I have more than 80% of profit and options expiration is still more than 2 weeks) and look for another options trading opportunities. Not to over-trade is one important step to Money Management.

Gibbons Burke wrote an interesting article about “Money Management”. The article discussed about:

• Money Management Task
  
• Determining per Trade Risk
• It is more than Stops
• OverTrading and UnderTrading
• Understanding Trading Risk
• Tools for understanding and practicing money management
• 






….for those of you who are interested to read the article (in PDF format), please send me an email to kxdhar@yahoo.com and posted “Article Intrested”. I will send you the download link.

Faith, hope and prayer should be reserved for God …. the markets are false and fickle idols.

GUIDE TO SWING TRADING - A BONUS FOR WRITE-OPTIONS READER

LEARNING OPTIONS without knowing to where the STOCK will move? Big Mistake.....
Options is a Derivative Product and an Investor/Trader has to know Technical Analysis to have an edge.

If you want to know:

- Why Technical Analysis Work?
- Japanese Candle Sticks.
- Moving Averages
- Force Index/Directional Moving Index
- What is Swing Trading
- The Steps in Swing Trading
- What Can You Expect?
- Identifying Stocks that Appropriate for Swing Trading
- Taking Profit and Preserving Capital
- How to Enter The Trade
- When to Enter the Trade

And More.........

You can DOWNLOAD THE E-BOOK.... for FREE !!! (Please acknowledge your Friends if they are interested).

The E-Book will tell you about Swing Trading, but I believe you can learn the Technical Analysis discussion to anticipate to where stock will move.

Happy Reading.....

BUY OPTIONS ? Read this Article before you DO it…..

Options has attracted many investors because the “LEVERAGE” factor. By buying Options, investor will have ‘LIMITED” Risks and “UNLIMITED” Return. This means that you can pay a certain amount of premium (depending on the volatility) to get Unlimited Return when the stock/underlying assets is moving based on your expectation….. Good, isn’t it?

Well, hold your conclusions for a while and be CAREFUL on Buying Options...... the followings are the points that you MUST consider:

1. Options is a wasted Asset.

Every assets are subject to be depreciated, based on the their categories. Indeed, there is asset that can not depreciated such as land. Every Options contract has tenor, and options value will be substantially reduced approaching the expiration date of the contract. This is what we call it “Time Decay” factor. I am really reluctant to buy Options that have high “Theta”, which is Time Decay is very fast. Many Options seminars teach students either to Buy Call or Put Options to cultivate gapping event of certain stocks before earning announcement. Some of them even suggest to make “STRADDLE” position, where you have to buy Call and Put options with the same strike price in anticipation you can hit the big bucks no matter the stock will gap up or down. Nevertheless, they never talk about suggested options tenor that must be bought. As I said, on one month options tenor, Theta is very high and Time Decay is against to all Options buyer. By buying Straddle without knowing momentum and volatility, it is a recipe of loosing the trade.

2. Even the STOCK is running to your direction, the OPTIONS value does not Move……

Many investors do not know why the options value do not move as their expectation despite the stock is moving onto their direction. Options is a derivative product and it is quite complex. The options value is calculated based on “Theoretical Options Value” (such as Black Scholes, Binominial model) and there are many factors affect the value… such as interest, tenor, strike price, dividend, etc. So, before buying options, you have to know “Delta” or the degree of change in option premium in relation to changes in the underlying stock. Many investors want to buy cheap options with the expectation of having Unlimited Return. Well, this is definitely wrong. By choosing OTM (Out of the Money) strike price, you will have higher breakeven (in case of buying call option), therefore, the stock must increase higher than your expectation.

The OTM Call Options usually have lower delta less than .50, and this means your option value will increase very slow compare to stock increase.

3. Even the Stock is running to your direction, your still loose the trade -> the “TIMING” is wrong…

Many Option buyers want to cultivate momentum when stock is gapped up or downward and they buy one-month options since it is cheaper to do that. This is what usually a seminar teach people to see which stock candidate that will bouncing up or down after earning announcement. Well, it may be right that due to good earning result, stock is increasing and running to their direction. But most of the time, the timing is wrong, means the stock is running/rallying after the option is expired. The direction bet is right, but the timing is wrong, and this is happening again and again….

4. You buy Pricey Options….

Every trader must do buy low - sell high. This is also work for Options trading. Options buyers bet options value to increase substantially. But, some investors buy options not considering options price when they buy options, but only looking for momentum that they think can push the price higher. When earning announcement is still pending and nobody know the company’s result, “greed and fear” are influencing the market and usually this drive higher implied volatility and consequently the options price. Nevertheless, when the momentum is decreasing (or no great news anymore), usually volatility is down and also the options price. For option buyers who is using momentum to bet, they usually loosing the trade when volatility goes down.

WRITING CALL OPTIONS TO BALANCE YOUR LOSS AND WRITING VERTICAL SPREADS TO PROFITING FROM CONSOLIDATING MARKET

Bernanke made a bold move by cutting 75 basis point interest rate the day after the Martin Luther King’s Holiday (Jan 22, 2008). It was a shock therapy from him after future market went down substantially and the overall gloomy market outlook. SPY gapped down from above 130 to below around 126, the lowest low of the year. Many investors cringed as they just could only watch their 2007 investment return was washed out just in a blink.

The shaken of US market made big tidal wave to other countries as well. Europe and Asian market got the negative affect and made all investors in the world wondering what they had to do on this situation.

Before the FOMC meeting on 30 Jan 08, market also dictated Bernanke to make a further interest rate cut by 50 basis point instead of 25 basis point. I personally believed that if Bernanke only cut 25 basis point, the previous cut that he just made (75 basis point) will mean nothing to the market. Market really jitters on the whole condition and need assurance and commitment from the Fed and US government on the next move.

The last trading action on Friday closing (feb 1^st), little positive breeze felt already as all indices went up. SPY surged and closed at 138.00. Before the approved stimulus financial package really implemented, I may predict that the SPY index will move sideways around the channel trend that I drew previously (see graph). Strong resistance at 137/138 was got from low point in mid August 2007 and support trending sideway-trending lines since October 2007.

I was questioned by one of forum member about what to do if he owns stocks that he perceives good stock and he wants to hold them for long term investment. I suggested to him to Write Call Options against his stocks. By Writing a Call Options, he will get the premium and reduce his loss when the market gapped down.

I also told him to write the CALL OTM (Out of the Money) if the stock has positive relative strength to index (on historical point of view) and stock will move upward within short period of time. By writing on OTM strike price, he will get double return from price increase and premium sold.

For those stock that he wants to sell, I suggested not to Write Call Options deep ITM (In The Money). To do this, he must choose the Strike Price that produce High Time Value. By Writing ITM, there will be big possibility that the stock will be exercised and provide a downturn cushion.

When the market is consolidating and volatility went down to normal from current high (market moves sideways), Options Investors can reap profit by selling Vertical Spreads. This is one of my favorite strategies to have consistent return. For stocks that good Relative Strength, you may write Vertical Put Credit Spreads, and look for good support line. For stocks that have negative Relative Strength, you may write Vertical Call Credit Spreads and look for good resistance point. If you believe that the stocks will move on close and tight trending lines, you can use Iron Condor that have friendly margin. The probabilities and choices will be many if you use your imagination and creativity.

STOCKS…HOW LOW CAN YOU GO…? CREATING OPPORTUNITY FOR OPTIONS PLAYERS…?

How Low Can You Go? This is one of the tag sentence of the most well known cigarette brand in Indonesia “Sampoerna Light” which was acquired by Altria Group/Phillip Morris (MO) a couple years ago. The questions of “How Low Can You Go” has the perception of how low the Tar and Nicotine content comparing to other rival cigarette products.

This tag reminds me to the current market condition. On the S&P daily chart, we can see that stocks were trading on the “Trading Range” , started with the high of 157.52. This is like a neutral zone in the ongoing battle between buyers and sellers. If the trading range is in uptrend, the buying army is obviously stronger than the selling side and rising prices result. The trading range that we have since mid of October 2007 is a downtrend, the flip side of the coin and the selling side is much more powerful than the buyers. So, there a couple of higher-lows and lower lows that make “BEARISH” message on the technical side.

There was a break-out on the 138, and a support level on the 137 the lowest level in August 2007, but once again, Sellers were dominance on the process and stocks were just falling down like a knife without any stops. 30 MA confirmed the downtrend since the beginning of November 2007. This is very ugly scenario and there were a lot of damage happen. The good news of IBM and GE Earnings that exceed analyst expectation just made small rallies, but the bad news on the whole recession possibility really caught investors tightly.

Investors need more assurance from Fed and US Government on real Solutions. It must be fast and comprehensive, otherwise the situations are getting worse. The Bush administration propose “Financial Stimulus” yesterday and some of key actions are:

- Tax incentives to Businesses

- Financial Stimulus of 1% of the GNP, or approximately $ 145 billion.

On the upcoming Fed’s meeting on 29-30 Jan 2008, interest will be cut by 0.5 basis point. I do not know whether this will be helping on the overall economic situation, but, the previous 0.25% reduction has not made the market move and the decision was below market expectations (see my writing on “Market Bullied Bernanke”). With the existing increasing of inflation threats, the Fed must be very careful on every steps that they made.

The down rally was getting worst by the options expiration week. Options buyers usually sell their ITM positions in order not to be assigned and market maker has to buy it. To hedge this position, market maker will sell shares and weighing additional pressures in the market.

I still do not see the “Bottom” yet despite market has been dropped so much. All of technical indicators are still showing downtrend. However, I believe there are quite a number bargain hunters are waiting for short rally, especially after Fed Meeting and Financial Stimulus.

To buy Call Options making a bet on good stocks that have been on their lows can be rewarding, just make sure the tenor is about 3 months to ensure the right movement. However, you must consider that you may pay premium price due to high volatility. Selling Put Credit Spread with far OTM strike price on good stocks that has found firm support is one of my favorite strategy. Just imagine, that market players need insurance and you sell the insurance to them with high price. However, this will be a good move if you choose good risk on good stock that quite robust with Bearish situation. There is always opportunity in a bad market condition and this is how you you look at it…….

PLAN YOUR TRADE AND TRADE WITH YOUR PLAN

One way to be consistently profitable at Options Trading is that you have to Plan Your Trade in advance. This is very simple steps but crucial... where traders often forget to do it once they see opportunities to make money in the market. Sometimes "the allure of putting a position" is very big and we easily forget the discipline.

Below is "The Approach- One Way" from Pete Stolcer, one of most well known Options Trader. He is running 1option.com and also provide advise of stocks and options at his blog. I hope that his approach can help you to be a better trader:


1. First, form an overall market opinion for the next 30 days. Use technical and fundamental analysis to support your conclusions.
2. Get an early read on the market by viewing the Pre-Open searches in the Scanner. They will identify stocks that will be up/down right on the open. Identify groups that will be on the move and analyze the news to determine the driving market forces for the day. Look at the prior day's movers to refresh your memory.
3. In the first 30 minutes of trading, review the Movers searches in the Scanner. Identify areas of relative strength/weakness within the market. Form a market opinion for the day and determine intraday support/resistance levels.
4. Narrow the universe of stocks. The searches have eliminated the vast majority of stocks using sophisticated programs. You will see stocks that conform to a particular price pattern and they are poised to move.
5. Select the stock lists in the Scanner and quickly "flip" through hundreds of charts. Visually identify attractive candidates. This process is all about pattern recognition and it is explained in the Tutorials. Understand the concept and gain one of the most powerful trading skills.
6. Use the one-month and one-year charts to further reduce your list to a handful of candidates. If the one-week chart looks good, zoom-out and look at the one-month chart. If that looks good, zoom-out and look at the one-year chart.
7. Review the news. What's driving the stock? Avoid trading "hot" news. There is too much "noise" and the stock needs to digest the event. By all means do not initiate a position before earnings are released. Identify long term guidance revisions up or down by the company. That is valuable trade information.
8. Look at the financials. Is the company making money? Are the profit margins improving? Do they have cash so that they can increase dividends and buybacks? Are they a "pipe dream"? What is the overall state of the business?
9. If your answers to the above questions warrant it - develop a game plan. Identify support and resistance levels and know when you are getting in and out.
10. Form an opinion on the direction, magnitude and duration of the expected move.
11. Consider your overall confidence level in the trade and "size" your position accordingly. Your market opinion also needs to be factored in here. If your market opinion is neutral try to balance long and short positions.
12. Characterize the options markets in terms of implied volatilities and liquidity. Are the options expensive? Are the bid/ask spreads wide? Is there any volume or open interest?
13. If appropriate identify an option strategy.
14. Try to carry a balance of bullish and bearish positions where you are long relative strength and short relative weakness. This portfolio can be weighted toward a bias but there should always be a mix. This will help reduce "market risk".

COVERED PUT OPTIONS STRATEGY

I wrote and discussed this strategy as one of forum member (http://options.forum2u.org/) asking whether this strategy is good or not compared to Covered Call Strategy. Well, actually Covered Put strategy is just the opposite of the Covered Call Strategy...... it is a BEARISH STRATEGY. What you do is you sell SHORT the Stock to cover the Put that is written. Below is the comparison:

Covered Put Covered Call
Short the Stock Buy the Stock
Collect prem on write PUT Collect prem on write CALL
If assigned, deliver stock If called, deliver stock owned


The Covered Put is a neutral to Bearish strategy. So, the investor is expecting the stock to go down or stay constant. When the stock goes down, the Sell Put position will be assigned and and this covers the obligation of the shares of stock that were shorted (just like in the case of Covered Call where the owned stock is delivered for an exercise when the stock go up).

Investor will keep the Collected Premium and this premium is a cushion if stock goes up. However, it only covers the amount of premium and if stock is rallying, the LOSS will be maximum (due to Short Stock Position).

Despite this strategy is quite the same with Covered Call (just opposite), personally I do not suggest this strategy. Because we have MAXIMUM LOSS when stock goes up and as you know, there is no limit stock can go up. The potential loss is very enormous if this strategy is taken by an amateur/beginner (no tight cut loss).

It is different with Covered Call, when the stock goes down, investor always know that they hold a good/bluechip stock. And this is a good cushion that stock will not go down as big as market and can rebound very easily.