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Archive for August, 2011

Creative Ways to Profitably Trade Options

Monday, August 29th, 2011

For over 11 years, Terry’s Tips has carried out different option strategies in actual brokerage accounts.  Of course, commissions are paid in these accounts so the results are exactly what you would experience if you followed the trades we make.

Paying subscribers can watch these portfolios unfold over time to get a better understanding on what causes the bottom line to grow or shrink (yes, unfortunately, that does happen occasionally).

Today I would like to discuss how three of these portfolios are set up and how they did last week.

Creative Ways to Profitably Trade Options   

Most of our strategies involve buying LEAPS or other longer-term options and selling short-term (higher decaying) against these long positions.  While that is the central idea, there is a multitude of ways it can be carried out.

We use the central idea in an unusual way in a portfolio we call the Last Minute.  It sits in cash until late in the day on Thursday when we make a guess as to whether we think SPY will move more or less than $2 on Friday.  If we think it won’t move by that much (like we did last week in spite of Mr. Bernanke’s upcoming speech), we buy calendar spreads at several different strikes, some above and some below the stock price.

Last week, we might have done better to have guessed in the other direction since SPY moved by more than $2 on the upside and almost that much on the downside.  But during the day, when the stock had moved up about $.45, we sold all our calendar spreads, making a nice 22% gain after commissions for a single day of trading.

The Last Minute portfolio has made gains in 14 of the 17 weeks it has been running, and has made 187% on the average weekly investment.  (One of the losing weeks was only a $39 loss, and in another one, I made an uncharacteristically stupid trading decision and passed up an 8% gain only to lose money by the end of the day.)

Another portfolio which uses the central idea is set up for subscribers who are fearful that the market might move lower.  It is called the 10K Bear.  Two weeks ago, SPY fell by 4.6% in a single week and our 10K Bear portfolio gained 17.5% after commissions.  Last week, SPY did a complete turn-around and rose 4.7%.  Our 10K Bear portfolio managed to gain 1% for the week in spite of being on the wrong side of the trend.  Admittedly, option prices are unusually high right now, and this bearish portfolio could not be expected to make a gain with such a stock price move in normal times, but it is nice to see that in today’s market, we seem to be able to make weekly gains no matter which way the market moves.

A third portfolio uses the central idea in a different way.  We picked an underlying stock (AAPL) which we think is headed higher, and instead of selling as much short-term premium as we can, we sell just enough to cover the decay of our long positions.  If the stock goes higher, we should experience a much greater percentage gain than the stock.  Last week, in spite of Steve Jobs’ resignation, AAPL gained 7.7%.  Our portfolio gained a whopping 31.4%, proving once again that options can consistently outperform stock.

An analogy – Checkers is to buying stocks as chess is to trading options

Monday, August 22nd, 2011

Last week we saw the market fall for the fourth consecutive week.  Volatility in the options market shot higher than we have seen in many years.  As usual, there are abundant ways in the options market that do not exist in conventional investments.

For example, our Bearish SPY portfolio gained 17.5% last week while the market (SPY) fell by 4.5%.  This portfolio has now gained 42.3% over the last couple of months as the market has steadily gone down.

Today I would like to discuss a little about the challenges of learning a bit more about the options business.

An analogy – Checkers is to buying stocks as chess is to trading options

Someone said that investing in stocks is pretty much like playing checkers.  Any 10-year old can do it.  You really don’t need much experience or understanding.  If you can read, you can buy stock (and probably do just about as well as anyone else because it’s basically a roulette wheel choice in spite of the near universal belief that you are smarter than anyone else).

Options, on the other hand, is more like playing chess.  It can be (and is, for anyone who is serious about it) a life-time learning experience.

You don’t see columns in the newspaper about interesting checker strategies, but you see a ton of pundits telling you why you should buy particular stocks.  People with little understanding or experience buy stocks every day, and most of their transactions involve buying from professionals with far more resources and brains (and for some reason, these professionals are selling the stock to them instead of buying it).

Option investing takes study and understanding and discipline that the purchase of stock does not require.  Every investor must decide for himself or herself if they are willing to make the time and study commitment necessary to be successful in option trading.  Most people are not.

It is a whole lot easier to play a decent game of checkers than it is to play a decent game of chess.  But for some of us, options investing is a whole lot more challenging, and ultimately more rewarding.

Finding an Implied Volatility Advantage

Monday, August 15th, 2011

This market has surely been a crazy one. It has been a difficult one for many of our portfolios that do best if the market is flat rather than gyrating all over the place. But right now, option prices are such that new spreads promise to do exceptionally well, especially if the market manages to settle down a bit.

Today I would like to discuss an important feature of buying calendar (or diagonal) spreads.

Finding an Implied Volatility Advantage


When market professionals talk about the Implied Volatility (IV) of a particular stock or ETF, they are referring to the at-the-money current-month put and call options for that underlying instrument.

While it makes total sense that every option for a particular underlying should have the same IV, in reality it is usually not the case.  Some options are more expensive than they “should” be and others may be cheaper than they “should” be.

When I was a market maker on the CBOE, one of my favorite tactics was to find discrepancies in IVs of options on the same underlying, selling the “over-priced” options and buying the “under-priced” options.  I would try to maintain a neutral net delta condition at all times so I didn’t care whether the stock went up or down while I waited for the market to correct itself and move the IVs of both sets of options closer to parity.   (I surely wasn’t alone in using this tactic, as it was, and still is, one of the most widely-employed strategies on the floor.)

The 10K Strategy that we carry out at Terry’s Tips involves buying LEAPS (or other longer-term options) and selling short-term options (sometimes Weeklys) against them.  If the long and short sides of the spread are at the same strike, it is called a calendar spread, while if they are at different strike prices, it is a diagonal spread.

In the best of all possible worlds, we would seek out underlying stocks where the LEAPS carried a lower IV (so they were “cheaper”) than the IV of the short-term options (which were more “expensive”).  Whenever we enjoyed this difference in IVs, we know that we have an IV Advantage.
Most of the portfolios that we carry out at Terry’s Tips use SPY as the underlying, in spite of the fact that there rarely is an IV Advantage for that ETF.  It is more likely to be found for individual company options, especially when there is a rumor or earnings announcement coming soon, as short-term options often see unusually high IVs in anticipation of such events.

At the present time, the short-term options for SPY carry a higher IV than do longer-term options.   The August options that expire this Friday carry an IV of 36 while SPY options expiring in January 2013 have an IV of only 28.  This would be a perfect time to place the kind of calendar spreads that are the basis of our most popular strategy.

While having an IV Advantage stacks the deck in your favor, it should not be used as a sole determinate in choosing an underlying instrument to trade options on.  It is possible to make good returns with the 10K Strategy when you don’t enjoy an IV Advantage, but it is extremely helpful whenever option prices make it possible.    

Using Options to Protect Against a Market Crash

Monday, August 8th, 2011

We carry out a Bearish portfolio for our subscribers to follow (either by mirroring our trades on their own or having trades made for them by thinkorswim through its Auto-Trade program). Subscribers who follow this portfolio are happy campers this week. They made 26% on their money last week while most everyone else was suffering.

Today I would like to tell you how this bearish portfolio works.


Using Options to Protect Against a Market Crash

Our bearish portfolio is made up of put LEAP options that we buy (at strike prices which are higher than the current stock price) and short-term put options that we sell (at strike prices which are lower than the current stock price).  We use options on SPY so we are betting that the market in general will fall rather than just one individual stock.

The neat thing about this strategy is that if the market doesn’t fall (but stays flat), it also returns a nice profit.  It can even go up a couple of dollars and a gain should result.  Here is what the risk profile graph looks like for a typical bearish option portfolio using our strategy:

This is a Bearish options portfolio with $7000 invested.  This risk profile graph shows what gains or losses might come in two weeks at the August 19, 2011 expiration.

You can see that if the stock ends up flat in two weeks ($120.08), this portfolio should gain almost $1100 (17%).  If it should fall a couple of dollars, the gain should be about $1600 (23%).  No matter how far the stock falls in the two-week period, a minimum gain of $1000 should result.  That is just what happened last week when this portfolio gained 26%.

If the stock goes up $2, this portfolio also makes money (about 4% for two weeks).  A loss situation only results if the stock were to go up by about $3.  

An important part of this strategy involves making adjustments if the stock starts moving significantly in either direction.  Last week, when it started going down, we had to buy back short puts we had sold that had become in the money (i.e., the stock price was higher than the strike price).  We replaced these short puts with lower-strike puts (at strikes which were lower than the stock price).  This kind of adjustment tends to shift the entire risk profile graph curve to the left.

How many bearish investments can you make and still expect a gain even if you are wrong? Shorting stock only makes money if you are right and the stock falls.  Buying puts is usually a bad idea because they become worth less every day that the stock fails to fall.

A properly-executed options strategy can make big gains if the stock remains flat, smaller gains if the stock moves slightly higher, and very large gains if the stock falls. Where else besides options can you find this kind of opportunity?  If you know of one, please send it along to me.

Carrying Out the Last Minute Strategy

Monday, August 1st, 2011

Last week was the worst week for the market in a year. Most investors are not happy campers. A few of our portfolios did quite well, however. Our bearish one gained, of course, but two others did well in spite of the crashing averages.

Last week we discussed our William Tell portfolio which is an options bet that AAPL will move higher. Last week, the stock fell slightly, but our William Tell portfolio gained 2.3%, once again demonstrating that an options portfolio can outperform the outright purchase of stock (see free report that explains it all below).

Our Last Minute portfolio gained 27% on the amount invested last week. This is the portfolio I would like to talk about today.


Carrying Out the Last Minute Strategy

We carry out one portfolio that is a little unusual in many respects.  It is entirely in cash until late in the day each Thursday.  At that point, we decide whether we expect that SPY will fluctuate by more or less than a dollar on Friday.  If there is an important report coming out on Friday (such as the government’s job report which is due next week on the 5th), history has shown that SPY is quite likely to move by a fairly large amount in one direction or the other.  Other weeks, when the stock has moved by a dollar or more for several days in a row, we would expect that level of volatility to continue on Friday (which often has the greatest volatility of the week).

If we expect the market (SPY) to move by more than a dollar on Friday, we buy straddles or strangles.  If we expect it to move by less than a dollar on Friday, we buy calendar spreads (the long side with only 8 days of remaining life and the short side with one day of remaining life).

Last Thursday, we had trouble deciding which way to go, and we decided to invest less than half our money.  Ironically, we could have selected either straddles or calendars and we would have made money last week.  Early in the day, the stock fell by almost $1.50, but it ended up falling only $.89 for the day.

We bought straddles, the Jul5-11 131 calls and Jul5-11 130 puts, paying $1.12 each.  We bought 20 straddles, investing $2240.  When the market tanked early in the morning, we sold those straddles for $1.47.  We made a gain of $607, or 27% for the day (after commissions).

This was the fourth consecutive week that the Last Minute portfolio has made a gain.  Over that time, we have gained a total of $2860 on an average investment of $3450.  That works out to 83% on the money at risk (per unit, and many subscribers invest in lots of units).

We also would have made a gain last week if we had guessed the stock would move less than a dollar on Friday.  In that case, since SPY was trading between $130 and $131, we would have bought calendar spreads at the 130 and 131 strikes (either puts or calls could have been used, but we typically would have bought put calendars at the 130 strike and call calendars at the 131 strike).

These two spreads would have made a gain if the net change in SPY for the day was less than a dollar.  It was, at $.89, so we couldn’t have gone wrong last week.

We are having a lot of fun with this Last Minute portfolio, and so far, it has been quite profitable as well.

By coming on the Terry’s Tips bandwagon, you can play along with us in the Last Minute portfolio as well as 7 other portfolios, including the William Tell that has done so well as AAPL has moved higher.

We have written a detailed report on how the actual William Tell portfolio gained over 100% in 2010-11 while the stock rose only 25%.  You will learn how you can use the Shoot Strategy on any other stock of your choosing as well.  You can get this special report free when you subscribe to the Terry’s Tips service for a price which is less than a dinner for two at a decent restaurant – only $79.95 for the whole enchilada, including:

1)    My 72-page White Paper which explains my favorite option strategies in detail, including Trading Rules for each, and 20 companies to use with the “Lazy Way” Strategy, (which guarantees a 100% gain in 2 years if the stock stays flat or goes up).

2)    2 FREE months of the Options Tutorial Program (a $49.90 value), which includes:
·    A 14-lesson tutorial on trading stock options which will give you a thorough understanding of trading stock options.
·    A weekly update of 8 actual portfolios so that you can follow their progress over time.
·    Specific trades for each portfolio emailed to you so you may mirror them in your own account if you wish.
·    Access to historical analytic reports and portfolio updates posted in the Insiders section of Terry’s Tips.
·    If you choose to continue after the 2 free months, do nothing, and you’ll be billed at a discounted rate of $19.95 per month.  

3)    A FREE special report  “How We Made 100% on Apple in 2010-11 While AAPL Rose Only 25%“.

With this one-time offer, you will receive everything for only $79.95, the price of the White Paper alone. But you must order by Tuesday, August 2, 2011. Click here and enter Special Code 802 in the box at the bottom of the page to get the special Apple report as a free bonus.

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Success Stories

I have been trading the equity markets with many different strategies for over 40 years. Terry Allen's strategies have been the most consistent money makers for me. I used them during the 2008 melt-down, to earn over 50% annualized return, while all my neighbors were crying about their losses.

~ John Collins