High Expectancy Trading

I closed this spread by purchasing the short options back on Thursday, capturing all the planned premium.

I opened this position on 5/12/08 by selling the 64 Puts and buying the 61 Puts for a net credit of .17.  I closed the position on 5/29/08 by buying the 64 Puts back at .04.  This is a gain of .13 per contract, times 100 shares per contract nets out a gain of $13 per contract.

I am holding on to the long 61 Puts to help with margin in July.  I’ll explain this in a later post.

The average margin required over this time period for one contract is $300.  This is lower than the last spread because this spread is only 3 strikes apart.

To determine how many contracts you could have sold on 5/12/08 just divide the amount you want to use as margin by $300. (again, I use 75% of my capital, and I call that 75% my Risk Capital)  Multiply the result by $13 (subtract commission) and you have your profit.  You would have made this profit in 17 calendar days! (the difference between 5/29/08 and 5/12/08).

The gain in those 17 days was 3.74% return on capital. (ROC - % return compared to the amount of margin required) The annualized ROC on this trade is a whopping 80.37%!  This means that if you made this bet with these same parameters every 17 days, for an entire year, you would gain 80% of your risk capital.  Wow.

I closed this spread by purchasing the short options back on Thursday, capturing all the planned premium.

I opened this position on 5/2/08 by selling the 64 Puts and buying the 59 Puts for a net credit of .25.  I closed the position on 5/29/08 by buying the 64 Puts back at .04.  The 59 Puts are not trading because they are so far out of the money and we are so close to expiration now.  This is a gain of .21 per contract, times 100 shares per contract nets out a gain of $21 per contract.

The average margin required over this time period for one contract is $500. 

To determine how many contracts you could have sold on 5/2/08 just divide the amount you want to use as margin by $500. (again, I use 75% of my capital, and I call that 75% my Risk Capital)  Multiply the result by $21 (subtract commission) and you have your profit.  You would have made this profit in 27 calendar days! (the difference between 5/29/08 and 5/2/08).

The gain in those 27 days was 3.84% return on capital. (ROC - % return compared to the amount of margin required) The annualized ROC on this trade is 51.97%.  This means that if you made this bet with these same parameters every 27 days, for an entire year, you would gain 52% of your risk capital.  That is excellent, in any trader’s book.

I’m not superstitious but I’m thinking my cautious tone on Monday scared the market into rallying this week.

I closed two of my credit spreads today for full gain.  I predicted I would close them on 6/2, so this is two trading days early than predicted.  This is excellent.  I’ll post soon as to how well these trades did.  I believe this is the best result I’ve had yet this year!

As you can see from the picture below, IWM broke the up-trend line on 5/21 with pretty good volume.   (click on the picture to see it full-sized)

This likely signifies that the rally is over.  Typically, when uptrends like this are broken with big volume, the near-tern future trading is either sideways or down.  But, nobody can predict what the market will do next. (although many try) 

This is time to be cautious.  I am considering my next move to defend my positions if IWM drops drastically this week. 

I am considering buying a few close to the money Puts in IWM.  This is a good hedge against a drop.  If IWM trades sideways in the next week I can likely sell the purchased Puts for only a small loss.  If the market happens to move up, I may reach full profit in my positions by the end of the week.

Update on positions:

Short 64, Long 59 - Currently trading at .13, opened for .25 on 5/2, so I have a .12 gain so far.
Short 64, Long 61 - Currently trading at .10, opened for .17 on 5/12, so I have a .07 gain so far.
Short 66, Long 63 - Currently trading at .18, opened for .17 on 5/16, so I have a .01 loss so far.

IWM closed at 73.17 today.  The positions lost some ground yesterday with the big drop but basically gained it all back with the move in IWM today.  Time is ticking away and taking it’s toll on my positions.  I still predict I’ll close these on or before the first week in June.

Short 64, Long 59 - Currently trading at .09, opened for .25 on 5/2, so I have a .16 gain so far.
Short 64, Long 61 - Currently trading at .07, opened for .17 on 5/12, so I have a .10 gain so far.
Short 66, Long 63 - Currently trading at .13, opened for .17 on 5/16, so I have a .04 gain so far.

IWM broke a key up-trend line yesterday.  It seems that the skyrocket in oil prices has slowed this bull run in stocks.  IWM will probably trade sideways for a while which is just fine with me.

Like I mentioned Tuesday, I’m looking to diversify with other ETFs.  One of the most promising seems to be USO, an oil ETF.  The option implied volatility is at historic levels.  This is good for credit spreading.  An issue for USO is option volume.  It’s fairly thinly traded so large positions are not advisable.

IWM closed at 73.70 today.

Heres the low-down on my current spreads.  All June 21st expiration:

Short 64, Long 59 - Currently trading at .10, opened for .25 on 5/2, so I have a .15 gain so far.
Short 64, Long 61 - Currently trading at .08, opened for .17 on 5/12, so I have a .09 gain so far.
Short 66, Long 63 - Currently trading at .14, opened for .17 on 5/16, so I have a .03 gain so far.

I plan to close the short options at .04.  Based on my previous trades I expect to do this the first week of June.

I am considering some diversification for the July expiration month.  I am looking at other ETFs for high volatility in Puts and good option volume.  It would be best to not trade all my risk capital in IWM.  I am looking at foreign exchanges and commodities.

Van Tharp is a successful trader and trading educator.  His book on the left side of this blog is excellent.  It is thought to be one the of the best all-around trading books ever.  His description of expectancy in this book excellent.

Here’s a link another friend passed along from the Tharp site.  Tharp is known for teaching trading psychology.  If you are interested in this subject, this trader test is right up your alley.

http://www.tharptradertest.com/default.aspx

A friend of mine sent me this link.  It gives a good description of credit spreads.

http://www.graymetalbox.com/tutorial/credit_spread_tutorial.htm

Credit spreads in IWM are still hot because despite the recent break to the upside, volatility in Puts is still high.

After the open today I filled a 66/63 spread.  This was the most profitable. (considering ROC and positive expectancy)

I sold the June 21st expiring 66 Puts for .31 and bought the 63’s for .14 for a net credit of .17.

I bought back my June 30th 60 naked Puts yesterday for .11, netting a .21 profit to free margin for my new spread today.

I now have all of my risk capital in play.  Here are my positions.

All June 21st expiration:

Short 64, Long 59 - Currently trading at .15, opened for .25 on 5/2, so I have a .10 gain so far.
Short 64, Long 61 - Currently trading at .12, opened for .17 on 5/12, so I have a .05 gain so far.
Short 66, Long 63 - Currently trading at .17, opened for .17 on 5/16

I plan to close each position when the short option is trading at .04.  Based on my past trades I expect to close these the first week in June for full profit.

IWM closed the day at 73.4. 

My 64/61 spread ended the day at .12 so I gained 2 cents from Monday’s close.  Again, I’m looking to close this spread at .04 for a full profit of .13.  (I opened the spread for .17)  To calculate the $ profit, multiply .13 by 100 (shares per contract) then by the # of contracts. 

The number of contracts you can trade is limited by the cash you have in your account that will be held as margin.  To calculate the number of contracts you can trade, divide your risk capital by 300.  (Take the difference between the strike prices (3) and multiply by the number of shaes per contract (100) = 300)

Right now there is a 98.21% chance of collecting all the planned .13 of profit.  The current ROC annualized is 87% assuming this trade closes on 6/1, 20 days ahead of expiration.  Wow.

This is an excellent trade so far.

OK, my naked 60 puts closed at .12 today. (.20 profit so far)  The problem with this trade now is that so much value came out of it already, relative to the length of time to expiration.  There is only a 12% ROC annualized on this trade.  With the IWM pull-back late today, it feels like IWM may close lower tomorrow.  If it does, I will likely close this naked Put for it’s profit and use the margin to open another spread that is currenly showing an 88% ROC.  That sure makes sense to me!