Shorter Than Stock

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Shorter Than Stock
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The magic of options trading is that allows for a variety of strategies to be matched with different stock trading philosophies. Each strategy has a different profitability and risk tolerance level, and using a variety of strategies can spice up a portfolio very nicely! In this article, I will outline four different stock trading strategies, and how they can be matched with corresponding options trading strategies which you can apply to your portfolio. The main idea is to first focus on an underlying stock trading strategy, and then add significant leverage and power to the trade by using options.

The most important factor when considering each of these strategies is the concept of TIME DECAY. The value of any option declines over time, until the day the option expires. This concept can be the major enemy of any option trade, eating into its profits, or it can be the key to successful and profitable option trading.

Firstly, which Strategy?

There are generally four different strategies employed by stock traders, each of which has implications when applied to options:

(i) Position Trading

Traders buy a stock and hold it for long periods of time, based on good fundamentals of the company. They will often wait for a stock to reach really good value, and then watch for institutional or insider buying before making a move. As the stock price increases, they look out for other buyers to step in and move the price even further.

APPROPRIATE OPTION STRATEGY

Buying calls and puts is NOT appropriate, because you pay large premiums for time value, most of which could be wiped out over time even as the stock gains in price. TIME DECAY is your enemy.

Selling covered calls each month in the option cycle on the stock you already own can significantly reduce the cost you paid for the stock in the first trade. Even if the stock goes down, you can still come out a winner!

(ii) Momentum or Trend trading

Once a stock has made clear move or breakout, the Momentum traders step in, and ride the stock up along a trend to its first major reversal. They hope to make shorter term profits from a rapid move in the price. Holding periods range from six weeks to six months.

APPROPRIATE OPTION STRATEGY

Buying calls and puts is NOT appropriate, because you pay large premiums for time value, most of which will be wiped out over time even as the stock gains in price. TIME DECAY is your enemy with Momentum Trading, unless you have a particularly strong and fast moving trend.

Selling Credit Spreads is a good strategy, and in fact can be very profitable, because as you sell spreads on the opposite leg from the stock's direction of momentum (e.g. selling put credit spreads in stock with a strongly bullish trend), you can repeatedly buy back the spreads for minimum cost and sell another spread closer in. This strategy can easily yield 10-15% profit per month. Time Decay is your secret weapon for trading this strategy.

Selling Naked Puts is a good strategy, and can be even more profitable than selling credit spreads. However, it leaves you a position of possibly having to buy a lot of stock if the trade goes against you, and so your broker requires you to have a lot of margin.

(iii) Swing Trading

Swing Traders buy and sell swings or oscillations within a trend. Holding times are from between 2 and ten days. This is a shorter term trading technique that is more dependent on the trend direction than it is on fundamentals or technical indicators.

APPROPRIATE OPTION STRATEGY

If you have mastered the skill of identifying reversals or swings within a trend, and know how to plan an exit strategy, you will be able to start buying calls and puts, or DITM options, which will take you to real profits! With Swing Trading, holding times are short (2-10 days) and so you minimise the effect of your arch enemy, TIME DECAY.

(iv) Day Trading

Day traders focus on the many small moves that happen during the trading day, mainly shown up by candlestick patterns. This strategy has a broker's requirement of a minimum of $25,000 to qualify, which knocks out many beginners.

APPROPRIATE OPTION STRATEGY

Option trading is not appropriate with this strategy. Broker fees for options trading are quite high, and Day Traders end up paying vast sums to their brokers.

In Summary:

If you own at least 100 units of a stock that is not particularly trending in any particular direction, sell Covered Calls each month in the option cycle. You can reduce the net price that you originally paid for the stock by between 5-12% each month.

If you have at least $1,000 in your account, and can identify a trend, you can easily sell Credit Spreads or Sell Naked Puts each month in the option cycle.

If you have mastered Swing Trading principles, especially the idea of planning entries and exits, you can start to buy Calls and Puts, or DITM options and make phenomenal profits.

To learn more, go to this site: http://www.swing-trading-options.com

When is the Best Time to Sell Your Stocks

Copyright (c) 2009 Scott Cole

Since late 2007, most stock markets are down over 50%, and many stocks have lost over 90% of their value. These results have had a devastating effect on many portfolios.

So, how does an investor or trader know when to sell? Well, my perspective is from someone who focuses primarily on price and volume, rather than the fundamentals of the underlying business. Admittedly, I've owned some shares that have fallen a bit. I intended to hold them as very long term investments, but it has been quite painful to watch them decline to current levels. This market has clearly demonstrated that the buy and hold strategy can devastate your portfolio if you do not use a form of protection, such as options, stock index futures, and shorting strategies.

Now, back to the question of when to sell. However, some hedge funds and Commodity Trading Advisors actually made a lot of money in 2008. Some made big bets on a collapsing credit market and shorted the financial stocks. Traders that I am more familiar with, have had significant success in trading in the commodity and currency markets. Their strategies will be the focus of this article.

Generally speaking, the majority of Commodity Trading Advisors (CTAs), traders that make a living by managing funds through the trading of futures markets and options on futures, can be regarded as trend followers. Among the more famous of these traders is John W. Henry, the owner of the Boston Red Sox baseball team. Trend following traders capitalize on the big trends that occur in the financial markets from time to time. In 2008, there were a lot of big trends in the markets, and probably the single best trend that these traders made easy money on has been in the downtrend in Crude Oil. After peaking at $150, this market has traded below $35 recently. Most trend following traders would have initiated short positions from about $120 down to $100. The move from $100 down to $40 equates to $60,000 for each contract held by these traders. At today's margin requirements, that is better than a 400% return.

Trend following traders do not try to pick tops or bottoms. They wait for a market to tell them when a trend may be starting, and they will exit when the market indicates that trend may be over. There is no magic formula for determining when these trends will occur, or when the high price will be set, or when the bottom will be found. During periods where the markets are choppy, these traders do not make money, and tend to experience some significant drawdowns on their equity. However, with the strict application of risk management in their portfolios, some of the better performing traders will reduce the volatility of their portfolios.

So how does this apply to stocks? Well, most individuals want to be able to catch that hot stock when it moves 500% or more. Unfortunately, many will experience that gain, then watch it evaporate as they hope for more gains from that stock. The professional trader, however, will have separated his/her emotions from the stock, and exited when indications were that the trend was over.

However, there is no one particular price level, or indicator that the professional relies upon to exit his position at once. Rather, he will exit at different price points within the trend. Here are some ideas that will help you determine when it is time to start taking profits in your stock, and when to exit altogether.

Let's suppose you purchased shares of JRCC as it was breaking out to the upside from a small base back in April of 2008. This breakout occurred at about the $20 level. The stock then rallied over 300% in less than three months to a high close over $60. The astute trader would not have exited his entire position at that level, since it is impossible to pick a top. However, the smart trader would have begun unloading some shares around the $55 level, and would have completely exited the position between $45 and $50. That's a pretty sizable gain in three months! Since then, JRCC has traded as low as $5.05 in November.

So, what were the signs that this stock was hitting its peak? The first sign occurred on June 19th. The stock had closed higher on four consecutive trading days, with a gain of over 30% during that time frame. The stock was going to the moon, and eventually, when a stock goes to the moon, it must come back down to earth. On June 19th, the stock opened up over $2 at the open, then closed down almost $3 for the session. This was the widest trading range of the move up so far, and that day's volume was its highest as well. This was the first sign of distribution, and the smart trader would have begun to exit either at the close or during trading the next day.

Two days later, JRCC had closed at a new high, over $62. On that day, its trading range shrank significantly, as did its volume, compared with the previous few trading days. The next day, on June 24th, the stock closed down almost $6, and nearly 9%, its biggest down day of the trend. Volume was higher than the previous day, indicating more distribution. The next day, it was down another 5% on even higher volume. This bottom formed a new swing low. It proceeded to rally for the next three days, but volume began to decline, and it could not take out the recent highs. On July 2nd, the stock broke through the short term swing low and closed down over $13, or 22% on its highest volume. The stock's back was broken. Traders following this stock should have exited all positions by the close of trading on this day.

Now, if you want a more basic idea for exiting a high momentum stock such as this, simply exit 50% of the position when it makes a 10 day low in price and the rest when it makes a 20 day low in price. This is an unemotional way of exiting a stock position. Sometimes, you will exit a position way to early in a trend, since stocks will shake out shorter term traders, but a 20 day low is a good sign that an existing, intermediate term trend is over. Longer term traders who may use a methodology such as the CANSLIM method to enter momentum stocks at 52 week highs may instead exit position if the stock makes a ten week low and then a 20 week low. However, you will give up substantial unrealized gains by waiting for a 20 week low, so it is a good idea to pay attention to the price and volume relationships discussed previously. Or, you can exit at a 5 week low and 10 week low.

These are just some ideas for when to exit stock positions after they have made significant moves. There is no one perfect exit strategy. However, if you trade in this manner consistently, you will experience nice profits in the long run, and you will be forced into 100% cash when the market experiences the type of bear market we are seeing now.

About the Author

Scott Cole is a trader and analyst with a focus on developing trend following trading systems for stocks and commodities. He is the owner of the website http://www.kungfutrader.com and the site http://www.theultimatestocktradingsystem.com

If you have short term and long terms gains for the year, and are thinking of selling a stock at a loss to?

offset these (and of course because you want to sell the stock anyway), is it better to take a short term loss or a long term loss? The holding period is right on the edge, so I could sell now for short term loss or hold on for another two weeks, then sell for a long term loss. Normally, long term is preferable, but long terms gains are taxed at a lower rate than short term gains, so it seems reducing the short term gains may be preferable in this case. (Assume stock will remain at constant price, and that the loss will reduce neither the long nor short term gains below zero.) Thank you.

If the loss you'll take is larger than the total of the two gains, then it won't matter - they'll all net out before taxes are calculated. If the loss is smaller that the total gain, then short term for at least enough to wipe out the short term gain would be preferable.

Shorter Indian market spills over to vendors' sales
— By James Monteleone — The Daily Times FARMINGTON — Many arts vendors participating in the annual Indian Market and Festival at Berg Park on Saturday said scaling the market down to a one-day event would hurt sales this year.

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