Welcome to Wall Street, Main Street and Me

Friday, June 29, 2012

Putting on the Other Hat (Main Street)

Besides doing stock option trades, I also write. I was surprised today to discover that I was a Finalist in the Creative Non Fiction portion of the PRESS 53 2012 Contest. Nope didn't win, but I didn't even know I was in the running.

I sent off a memoir chapter called "Swan Song" which was about a summer in North Africa at the age of twelve.

Always nice to know there's an editor paying attention. :-)

Press 53 Awards


Wednesday, June 27, 2012

Options- the Things They Don't Tell Beginners

Options are a mountain of information which needs to be learned before one can sensibly (or even insensibly) trade. The deeper I get in the game, the more I realize that I wasn't taught enough of the right things. So busy were they teaching me the difference between a call and a put, a Bid and an Ask, that the whole idea of defining risk was, at best, paid lip service. Yes, yes, you must protect your capital...but in the beginning, nobody tells you HOW to do that. They just assume you are going to lose a few, part of the learning process. How very unfair!~ A few can turn into many without the tools you need.


Since I started learning spreads and some of the more advanced strategies, I realized that a trader needs to have a good sense of the odds of her trade being successful. What is the probability that this trade will make money, and/or more importantly, NOT LOSE MONEY?

I bought Calls and Puts for a couple of years without a full understanding of these basic principles: protect your capital and compute your risk.

This might give you an idea (if you are a beginner) of the things you should know before leaving the paper trading mode, and using your real money.

The first trade you usually make is buying a Call, right? Beginners go long, and buy a Call or a Put. Toe in the water time. So what is the logic that goes on?

Okay, in this example, you look at an option chain. The stock is at $132. If you are buying a Call, then your expectation is that the stock is going to go up. You will note in the option chain below that the "At the Money" strike price has a Delta of .52 and a probability of going "In the Money" (by at least one cent) is 50.39%. These two figures are VERY close, and that is why traders often use DELTA has a "loose" probability calculator. In this ThinkorSwim chain, the probability column is built into the chain but not all brokers have this feature, so you can use DELTA instead.

So,what does that mean? It means that AT EXPIRATION, the 132 Strike option has a 50% chance of being in the money. Sort of like Vegas? Heads or tails, 50-50 chance.

So, a typical beginner's logic (without thinking about probability or risk) would be to buy the $133 or $134 Strike, because for sure the stock can go up a dollar or two, right?! And thus she'll have a winning trade!

But think about this for a minute. If the stock moves to $134, would she really have a winning trade? No! And why not? Because she paid $1.52 for the option. So before she comes into profit, the stock has to get to $135.52 ($134 plus $1.52). And if you look at the option chain above, what is the Delta and probability % for the $135 Strike? We have gone from an almost 40% probability down to a 30% probability just by knowing our break-even. How are those odds looking now? Not too great. A 70% chance of losing on this trade,right?

Well, that's easy to remedy, says the Beginner. She'll just buy a Call that is DEEP IN THE MONEY. How about the $127 Strike. It's sure to be in the money, look at that chain; it has a 79.96% probability of being in the money!

But wait. Don't forget the break-even calculation. The stock has to be at $127 PLUS THE COST OF THE OPTION which in this case is $6.19. So now your break-even stock price is $133.19 ($127 plus $6.19)-- and that moves you down, down, down the chain to the $133 strike which is only a 44% probability of success.

Are you beginning to see how such small treasures of information can inform your trading choices? NOBODY explained this to me. I bought Calls ITM, OTM and ATM and if I happened to win on them, it was entirely due to volatility and some huge movement that I wasn't even aware of. It certainly wasn't because of my choice of strike price! I blindly traded Calls and Puts with no probability thoughts at all. It's a great way to lose your cash fast.

In fact, at this late date, I would say buying "plain" calls or puts (without protecting them in a spread) is a sucker's game and one that the market makers are getting rich from.

I hope you 'get' this little lesson and continue with your studies. This should be an eye opener if you have ever had what looked to be an option that was in the money, but you made no profit. This explains why.


Okay, if you're with me this far, you might wonder how then does a trader define risk? Probability is surely one factor, but are there others?

How much are you willing to Lose? When you go long on options (without doing a protective spread) your risk is limited to the amount you paid for the call or put. So the first question you should ask yourself when you look at the Ask Price. Am I willing to lose this much money? In the case of the Deep ITM call above, you would be risking $619.00 for ONE contract, with a 44% chance of winning. Ouch.

Comparing one trade to another

If you did a SPREAD, you could compute the difference between doing plain calls/puts and the risk and probability of having some protection.

In the plain Calls discussed above, your risk would be the cost of the premium:

Strike $134 - Risk $1.52 ($152 per contract)Probability of success 30%

Strike $127 - Risk $6.19 ($619 per contract)Probability of success 44%

But let's say we did a CREDIT SPREAD instead. If we were really feeling bullish, we would like do a credit spread on the Put side, but for example, let's do a bear call spread: Let's say we SELL the $137 Strike, and BUY the $138 Strike. The difference in the Bid of the Short Call and Ask of the Long Call would net us $.24 cents in our pocket, no out of pocket outlay at all. If I bought 10 contracts, that would be $240 in my pocket.

We want the stock price to stay BELOW our Short Call of $137. If it does, both options will expire worthless and I'll keep the $240. So what is the probability that I will get to keep that $240? The chain says that the Short Call at $137 has a 21.26% of going in the money. Well, this is CREDIT spread, so we don't WANT to go in the money. We want to stay out of the money until expiration. So that means there's a 78.74% (100 less 21.26%) probability that I will NOT go in the money, which is what I want. (just the opposite of going long on Calls)

How Do You Calculate the Risk on a Credit Spread?

Take the two Strike prices of your Vertical Spread: Difference between long and short strikes ($138 less $137)= 1.00 less the credit received $.24 = $.76 risk per contract.

Strike $137 (SHORT Call) - Risk $.76 ($76 per contract) Probability of success 78.74%

Now I ask you. When someone teaches you what a call and a put are, don't you think they should show you a few things first? Nobody showed me. I lost a lot of dough. I hope I can save you some.

P.S. If you don't use ThinkOrSwim software and don't have "probability %" on your option chains, don't despair. Just use the Delta as your gauge. It's close enough. These are not set in stone anyway, just possible outcomes given the history of this stock.


Monday, June 25, 2012


T.D. Ameritrade has an education section that has the niftiest little video on how to fix/repair/adjust an iron condor gone bad. It is quick and simple and I'm impressed! (if you go to their Education Videos under Options, you will find it)

I have been trying to figure out the butterfly spread, and it hasn't totally jelled for me yet, so I was a little nervous when I saw that the butterfly spread is used to adjust an iron condor gone bad. But after watching the video, it was clear as day! I will use the butterfly this way, if not for any other reason!

Okay, let's take an example:

With an Iron Condor, you have a "channel" between the short option of the bear call, and the short option of the bull put. The stock can go up or down in that channel as long as it doesn't violate the short option strike prices.

So, here's an example of an iron condor.

The Bear Call (at the top of the chart) is a short of $28 and a long of $29. The Blue Line is the Long Option at $29, the Red Line is the Short Option at $28.

The Bull Put (at the bottom of the chart) is a short of $20 and a long of $19. The Red Line is the Short Option at $20 and the Blue Line is the Long Option at $19

So let's pretend that this stock FALLS down to the $20 Strike of the Bull Put, and thus, we would need to repair this Iron Condor. (The Bear Call is fine, so it's only the Bull Put side of the condor than needs to be fixed).


In essence we are going to REVERSE the Bull put, when we put on this butterfly trade.

The trade we will make is this:

Buy one $20 Strike (thus reversing the short put of your original bull put)
Sell two $19 Strikes (thus reversing the long put of your original bull put...AND setting up a new short at the $19 level.)
Buy one $18 Strike (thus creating a new Long option at the $18 level.)

Using broken lines, I'm showing how the Butterfly trade is used to reverse the old bull put and put on a new bull put. Easy Peasy.

And here's a risk profile with the trades shown below it:

Oops, I just noticed I used $28/$29, instead of $27/$28 on my charts. But nevermind, it's the bull put we're adjusting in this example. ##

Sunday, June 17, 2012


This is the worksheet I've made to try to utilize the checklist in the last two posts into my trading. (it's easy to forget things...like the Earnings date!) This will likely evolve with time and use, and I'll update it if I make any major changes.

Saturday, June 16, 2012

Iron Condors - PART TWO

This is a continuation of Part One, on Iron Condors:


After Earnings?

a. Opening a credit spread right after earnings is an excellent strategy. You know by then whether it's a hit or miss, and if you are quick enough you can capture the collapse of the implied volatility.(which happens right after earnings are announced). You can realize as much as 50% return by the end of the post-earnings trading day.

A Perfect Day

b. Thursday is a perfect day to open a trade, so that by Monday you'll have profits. Think about Expiration days, the 3rd Friday of every month. Many traders let their credit spreads expire worthless (thus saving commissions), but it means waiting until Monday for the margin to be released (to buy into the next month's spreads) and by Friday, after expiration, the marketmakers have already shaved premium off the new trades. If you are trading weeklies, know that the marketmakers shave off premium between Thursday night and Friday morning, so you want to put on your trades on Thursday to maximize premium.
Better to get out of the trade the day before expiration (by buying back the short put/short call) thus releasing the margin; let the longs expire worthless, but you'll have the cash to buy the next month BEFORE it becomes the new "front month" on the following Monday.
Do I always put on the full Iron Condor?

c. Do you trade a bull put, a bear call, or an iron condor? Let the market be your guide. Look at the charts, look at the trend, and if the stock is bouncing off a resistance line, a support line, double bottom, double top, 50 or 200 day moving average, bottom or top of a regression channel -- the market is handing you the trade, up or down. If the stock is going sideways, an iron condor is obviously the choice. Remember if you do a bull put and the stock starts to go down, you can always add the bear call later, and vice versa.

Remember that option margin is held for only ONE side of the condor, so it's advantageous to trade both bear call/bull put together.

8. A Word on Weeklies

They require a lot more attention than the monthlies to make sure the stock is not going against you. But you can make a lot of money if you play them right.

Here's a list of possible candidates (check those charts!) for weekly credit spreads.



Track your premium - in and outs

a. Keep a daily list of the profits/loss of the trade. If you opened the trade for $.25, record at each day's end what the reverse of that trade would be. This is a great way to get familiar with how credit spreads move. Also, record the Delta of both short options, and track it.

Analyze what changed- Price or IV?

b. If the trade starts to move against you, your daily record will reflect it. If the delta goes to .15, it's a warning sign. You need to determine whether it's the IV that's affecting your option, or price change of the underlying. If's it's IV, it can possibly and probably bounce back. If there's been some event or news to affect the price, then that requires more attention. If both IV and price go against you, wake up!
If you weren't already in the Iron Condor, open the other side to offset the loss side when delta goes to .15. If the chart rights itself, you'll win on both sides. Otherwise you could neutralize the bad side, for starts.

Check your Deltas

c. If the delta goes to .20, this is the time for more action. Open the other side of the trade, if you didn't start with an Iron Condor. Get rid of the losing side of the trade, and take profit on the changed direction of the trend. If the price stays stagnant, of course, you'll win on both the call and the put sides. Worst case scenario is to get out of both sides at the breakeven point, and you'll only be out commissions. This is how to preserve your capital (your highest priority)

Let's say you get $.30 credit on the bull put, and $.30 credit on the bear call. The stock starts to move upward quickly, call delta goes to .20 and your premium on the bear call is now at $.60 (the cost to buy back the bear call). That puts you in a loss of $.30. 100% loss. If the bull put works out, you'll keep the $.30 credit from that side, and it will be a wash with the loss on the bear call. You'll be down only the commissions. So you must track your income and your daily profit/loss on both sides in order to manage this trade properly.

Neutralizing the Delta d. Another move is to sell additional "good" side contracts to neutralize the delta of the "bad" side of the Iron Condor. This is tricky and should be papertraded! You would do this when you firmly believe that the bad side is going to reverse, and that you will ultimately win both sides, if you just hang onto that bad side.

Example: If the "short" strike of the bad spread has reached a .20 delta, then the long position is trailing behind is usually around .10 or greater delta. It is this delta "difference" that is causing the increasing loss.

If it is a .10 delta difference, count the number of open contracts and multiply those two numbers: .10 Delta times 5 contracts = 50 deltas against you.

Go out to next month's options and find a .50 delta strike and buy it. (call or put) That option will neutralize the bad delta in your losing spread.

My "home base" Options Animal has their own "Secondary Exits" for bear calls and bull puts, namely letting the short be assigned, and turning the trade into a Collar trade. It is a little more "generalized" in their teaching, (plus I don't have a fund large enough to risk assignment) so I appreciate John Kelly's more detailed and remarkable "repair" strategies explained in a way I can get it.

As always, if you have questions/comments, please reach me at bevjackson@gmail.com or reply in the comments section, below.

P.S. My next post will be a "Worksheet" for using this methodology for doing Iron Condors. A checklist, if you will. :-)


In Search of the Iron Condor - PART ONE

In the options world, Iron Condors are as common as "hawks" in the pit of the NY Stock Exchange.

But to beginners, the very words conjure some hugely complex trade with an ominous name--one that should be pushed aside for years until one is professional, or nearly so. Pshaw!

Iron Condors are simply two basic credit spread trades (the Bear Call and the Bull Put) put on at the same time. That's it. No funny business. No secret handshakes or decoding rings needed. Unintelligent traders put on these trades all the time, but the way to make money is to do it the smart way. And that, as all things in options, takes some knowledge and some study. If you don't have the will to learn, this is not the trade for you. BUT IT'S NOT DIFFICULT.


I had the good fortune to be invited to a week of free online classes presented by a very savvy group called ProEdgeTraders.com. Our speaker was John Kelly who discussed...what else? Credit spreads and Iron Condors. It was a really good class and while I thought I knew credit spreads, I realized how much more there is to learn. (endless). I wrote down as much as I could, and I'm hoping this will be helpful.

John Kelly is a former airline pilot and believes strongly in "checklists" and I love checklists myself, so this was right up my alley. And I discovered that he has an entirely "different" way of trading credit spreads and iron condors than the ways I've learned on Options Animal. It's heartening to know that there are so many different ways to do the same trade, but also a bit daunting.

1. Earnings

Before you even think about doing the trade, check for Earnings.If you are within 20 days of Earnings, find a new stock.

2. Volatility

a. You want the Implied Volatility (IV) percentage to be higher than the Historic Volatility (HV)

b. The lower the Realized Volatility, the better. WHAT is Realized Volatility?

Average True Range Technical Indicator (ATR) is an indicator that shows volatility of the market, and can be added beneath your charts. If you set the ATR for 10 days (I think the default is 14 days) and then divide the current ATR by the stock price, you get the Realized Volatility.

Example: ATR is $14.58 and the Stock Price is $51.00, ($14.58/$51.00)= 29.20% RV (Realized Volatility).

I assume that as you compute more and more of these, you will begin to get an idea of what constitutes the "high" or the "low" of realized volatility.

3. The VIX index

VIX is the symbol for the Chicago Board Options Exchange's volatility index. It is a measure of the level of implied volatility, not historical or statistical volatility, of a wide range of options, based on the S&P 500. When the VIX is at 20 and below, the market sentiment is complacent; no fear. When the VIX is above 20, you can tell fear sets in, selloffs begin and premium gets expensive. (usually when Bernake speaks!)
So for this Checklist, you want the VIX = 20 and below for Bull Puts, and above 20 for Bear Calls.

Here's a sample $VIX chart:

4. Find Support and Resistance

There are different support and resistance lines on a chart. You want your credit spreads to fall OUTSIDE OF SUPPORT AND RESISTANCE.

a. Pivot Points

If you use Pivot Points (an indicator on many chart programs) on the chart, you'd see R1 and R2, and S1 and S2. These are based on standard deviations, and usable for our purposes. But that's just for starts.

b. Linear Regression Channels

John Kelly uses Linear Regression Channels (both 50 day and 100 day) which provide more support and resistance lines. (These indicators are available on ThinkOrSwim platform, but not on all platforms. StockChart.com has them in the "drawing" mode, but you have to place them yourself)
I didn't know what Linear Regression Channels were, so I asked. They are the "bell curve" turned on its side, and how the stock trades in regard to 2 & 3 standard deviations. I had to have my friend Linda explain standard deviations to me. "The Standard Deviation is a measure of how spread out numbers are." (huh?) But she helped me. Think of a "mean" middle line, the "average" and then equal-width lines on either side, like channels which deviate from the mean in equal distances. That is a linear regression channel. It's a mathematical equation but all you need to know is that you want your short options OUT OF THE 2 Standard-Deviation lines.

The point is that you want your credit spreads to be placed OUTSIDE of the regression channels - OUTSIDE of Support and Resistance.

c. Moving Average Lines

And of course the 200 day, 100 day and 50 day Exponential Moving Average lines also provide an idea of support and resistance.

d. Draw a Channel!

You can draw your own lines top and bottom on your chart, making a channel touching the highest candle above and the lowest candle below for the time period that you are trading.

e. Even your 52-week high and low show resistance/support. So get familiar with them all.

Depending on how long you are going to be in the trade, you would pick your support and resistance accordingly. (obviously if you're in a weekly trade, you'd be looking to see how much your stock moves (the range) in a typical week. If you're doing a 90 day trade, you'd be looking at the movement for 90 days, and use Support and Resistance based on that time frame.

This requires you to study the chart, and be careful of where you place your shorts. You do not want your short call or short put to EVER go in the money on these Iron Condors. The point of this trade is to keep the credit you get, and let the trades expire worthless (or reverse them before expiration for 90%+ of your credit received).

f. ATR Multiplier

ATR is an indicator which can be added beneath your chart. It stands for Average True Range. This is perhaps a less scientific approach to support/resistance, but can be a confirmation of Strike price choices. The same ATR indicator mentioned above can be multiplied by 2.5, 3, or 4 (the higher the better) and compared to the Support line and Resistance line you've decided on.

For example: A stock is trading at $561.28. You may have chosen a bull put of 495/490, and a bear call of 615/620. How can we verify if those strike prices are in a "safe ranges"?

Well, multiply the ATR of $16.82 times 3 = $50.46.

Subtract $50.46 from the stock price ($561.22-$50.46=$510.53) Our $495 short put in way below this support line.

Add $50.46 to the stock price (561.28 + $50.46=$611.45. Our $615 short call is ABOVE this resistance line.

So this confirms our support/resistance "safety" zones. You can never be too sure. Never have enough redundancy when you are risking money.

So if we look at the chart...

6. Probability & Premium

Final requirements are probability and premium. This was a tough one for me to get. John Kelly uses .05 to.10 Delta to pick his strike prices for both the Bear Call and the Bull Put!

This Delta translates also to a 5% or 10% probability of going into the money, which means it's also 95% and 90% probability (of success)!

This gave me pause as there's not much premium at those delta levels. But John does not look for high premium. He looks for (on a monthly trade) 3% minimum return after commissions and fees, or 1% (on a weekly trade).

As an example: on a $5 spread (between strike prices), for every $.05 nickel of premium, that is a 1% return. on a $10 spread, you're looking for $.10 dime of premium.

You need to sit down and do the math. (or let your trade calculator do it for you).

There are trade calculators on your broker's platform which compute probability on your trade. My own trading plan counts on an 80% to 85% probability of success. John's is higher. But I have a smaller fund, therefore I can't do as many contracts because of the margin freeze.

If you use the Delta as a measurement of probability (.05 Delta is 5% probability of going in the money (or 95% chance of being safe), you don't really need a calculator, but the software on most platforms has other bells and whistles that make it very helpful in trading. I would encourage you to learn how to use the software available to you on whatever platform you choose: OptionsXpress, Trade Monster, Think Or Swin, to name only a few of the top ones.

A snapshot of OptionsXpress's calculator:

A snapshot of TradeMonster's calculator:

This is getting pretty lengthy, so I think a second chapter is needed here: See the next post for Timing and Maintaining this Trade!


Friday, June 1, 2012

Month of May....Go Away~!

I should have paid attention to that little Wall Street slogan and quit trading in the month of May~ and today, June 1st, has only underlined that. Oy, what a mess~

Looks like I might lose ALL those wonderful gains I've made from Jan through April. (and so has the rest of the Market.)

However. No losses are without gains, and I'm learning, learning, learning. All those "boring" things they tell you about managing risk and doing the math became very, very, very important in the month of May.

There are certain rules in OptionsAnimal's education. One very important one is doing the math beforehand, and KNOWING YOUR PRIMARY AND SECONDARY EXITS before you pull the trigger. I got very clear this past month that I have a strong "belief system" that my trade is always going to work out...according to my primary exit. A win. Poor deluded woman. Not always the case, and I got caught with no secondary exit in place on three different bull put spreads where the market took the rug out from under me. I did NOT consider secondary exits. I SHOULD HAVE had enough cash to get assigned, buy the stock and put on a collar trade. Of course, I did NOT have that kind of cash, so instead I will be close to my maximum loss on all three trades. An expensive lesson.

However, I am learning more and more and more about trade adjustments ( Collaring the trade above is only one adjustment of many). I may go broke before I learn it all, but damn~! It never gets boring.