When you place a credit spread of any kind, you generally incur a maintenance requirement at your brokerage. Remember, a maintenance requirement is not a loan like a margin loan, but rather money that must be set aside and not used for buying other options or equities. Because it is not a loan it can be used in an IRA account.
Maintenance requirements come into existence when you sell an option at a different strike than the option you are holding as collateral for the short option. For example, if are long a 90 call option (regardless of which month it is as long as it is equal to or has more months of life than the short call you are selling), if you sold an 88 call against it, you could conceivably lose $2.00 ($200) if the underlying fell below $88. The broker requires that you set aside $200 in case this happens.
When you sell an iron condor spread, we create a maintenance requirement for a put spread as well as a call spread. As long as the difference in strike prices is the same for both the put and call spreads, the maintenance requirement is only charged for one of the spreads because you can't lose money on both of them.
At times, maintenance requirements are calculated that are difficult to understand because of the manner in which the broker's software matches up long and short positions. At thinkorswim, they have what is probably the absolutely best matching software of any broker. It is designed to create as low a maintenance requirement as possible so that you have as much free cash to invest as you can. The primary mechanism the software uses to minimize maintenance requirements is to establish butterfly spreads even if you did not specifically place a butterfly spread. Oftentimes, the software creates weird butterfly spreads with partial options covering other options at different strikes. It becomes quite confusing at times.
When we have both calendar spreads and short iron condor spreads in place in the same account (as we sometimes do in some of our portfolios), sometimes a maintenance requirement is established that is different than it would be if the spreads were matched up as we had placed them. Fortunately, there is a way to see how the matching takes place.
On the Monitor Tab on the thinkorswim trading screen, click on the far-right number that is listed just under the BP Effect title under POSITION STATEMENT. That number is the maintenance requirement for that underlying in your account. When you click on it, a drop-down screen appears which is titled Explain Margin. If you scroll down this screen, you will see how everything is matched up.
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Major stock indexes rose for the fifth straight week. The Dow last had five consecutive gaining weeks in April 2009.
The first quarter ended with a bang as the major market indices came rallying back after a rough stretch in February. For the quarter, the Dow advanced 4.1%, the S&P 500 climbed 4.9% and the tech-heavy NASDAQ 100 (QQQQ) led the way with a quarterly rise of 5.7%. For the shortened trading week, the S&P 500, NASDAQ and Dow remained relatively unchanged.
I once again would like to pose the same questions that I did in last week's report. Has the market reached a short to intermediate-term plateau? Are investors growing pessimistic about the sustainability of the current market rally?
After going over a few of the technical and sentiment indicators over the past week I have noticed that most lean towards the bearish side. Only momentum (although waning) and uptrends across the board are keeping the market afloat at least from a technical perspective. The Put/Call Ratio, VIX, Rydex Ratio, Options Speculation Index, AIM Model, Sentiment Surveys, Liquidity Premium and Overbought/Oversold indicators are all screaming for a short to intermediate-term decline. Furthermore, we still have a gap from 3/5 that has yet to close and now stands 5.2% below where the NASDAQ 100 (QQQQ) currently resides.
The Equity Put/Call Ratio is the latest bearish indicator to hit the wires. It has moved to the third most extreme reading since the current bull market was established roughly one year ago. Each time the market has hit this type of extreme the market has pushed lower over the next few trading sessions with more sustained losses over the next few weeks.
The current technical situation coupled with waning momentum certainly has me concerned about a quick whack that could potentially erase several days', if not weeks' worth of gains. Furthermore, volume has been suspiciously low during the last few weeks of this current rally. For example, volume was nearly 2 billion shares less than usual this past week and almost the same for the prior week.
As for the economic news during the week, the U.S. Labor Department said that jobless claims were down 6,000 last week to 439,000, roughly as expected. Moreover, the Institute of Supply Management's index of manufacturing increased from 56.5 to 59.6 in March, much stronger than expected and the highest score in almost six years.
Next week, market participants will be faced with a barrage of economic reports including the ISM services report on Monday and pending home sales on Tuesday. Moreover, there is a parade of Fed speakers due to speak next week, plus the Fed Minutes. Couple the aforementioned with the European Central Bank issuing a decision on interest rates and next week could have the potential to be a wild one.
Andy
Overbought/Oversold as of April 5, 2010
Major Benchmarks