Theta Positive - Option Trading

30 days till October Expiry

We are only 5 days in the trade and we have seen the downside adjustment area and the way the market is going, I would not be surprised if we are going to see the upside adjustment area in a week or so.

Yesterday my adjustment was half the size of a 'normal' adjustment. I did not want to commit myself to certain direction, just neutralize the deltas.

Today I had to do some soul searching - and decide if replacing yesterday's adjustment was over trading or a very sensible move.
The thing is my butterfly deltas are not asking for correcting the adjustment. BUT here is how I see the market right now;

- all the news is out
- AIG is getting help
- WM and WB are not news anymore

With all the bad news out there - this market has desire to see the upside - that is a characteristic of a bull market. I am not saying this is the bottom - not at all - I am just saying that it feels bullish for right now.

So what did I do. I chickened out and reversed yesterdays adjustment. Neutralize the butterfly  and prepping for a up run. This all should not be part of a normal 'theta positive' trading strategy. Normally a TP - trading can handle a up or down trending market, as well as a sideways market. It just hates multiple standard deviation moves up and down.

32 days till October Expiry

That was not to bad, wasn't it? (so far).

Let's see what happens with the calls from the margin clerks to some of the NY offices. "You have 24hrs to add cash to the account or close some positions". Those calls take a couple of days before you see them in the market. So far I would say quite orderly.

The IWM demo butterfly is doing great. Without a sudden reversal we are heading for a 15% profit considering commission. The goal of the small demo trade was to proof that trading small (for newer traders) is possible and profitable. Of course in the great scheme of things you could say that 15% on a $625.- is not worth your time, I would disagree. Learn this craft with small stakes will set you up for good proceeds later.
I enjoyed this little demo trade. I enjoyed to see how detached I was with a $600 trade compared to my  bigger RUT trade. Same trade, same risk/reward, just a different level of commitment.
I recommend to fellow experienced traders to copy a trade they do monthly and shrink it by using a small vehicle. SPY for SPX, IWM for RUT etc. Observe your decision making process.

My OCT butterfly is already getting close to it first adjustment point. A bit soon 1 day into the trade. We are down a small number - just interrupted writing the blog - I made a first small adjustment on the trade. We seem to be ending on the low of the day, tomorrow is FED day. I want to go into AM rather market neutral. 

the position was

long 680 - 760 both 5
short 720  (-10)

The adjustment closed 1 680 and 1 720.

Here are the two graphs.

September 14th

The best way to recognize a "bull market" is to see how the market reacts to bad news. When good news is good news and bad news is good news then you know for sure up is the direction we want.

Last week after the rescue of Freddy and Fannie it seems that way. Now at 8PM EST in market shows a more bearish reaction to the news.

- LEH is bankrupt
- JPM wants to buy WaMu
- BAC might be buying MER

Whoever said that Wall Street people don't work for their money for sure needs to reconsider after a weekend like this.

As always the advice is to plan your action before the market opens. If possible don't trade the first half hour (except for closing call credit spread which have run there coarse). Tomorrow early AM you can check were the futures are, to get a hint how the market will open.

One of the lesson I needed to learn was how to trade hectic markets and how to prep for them.
As Brett Steenbarger writes in his books you cannot expect to think rational when you are under influence of adrenaline. Adrenaline moves your brain power to the flight and fight section and you start acting very instictively.
Two ways to deal with it;
- Prepare all your actions at for hand
- 10' before market open picture how your trade desk will look like with all the alerts firing off. Make a good mental picture and familiarize yourself with the upcoming situation. This will reduce the situation, if any

Be safe, let's hope for moderation in tomorrows market action.

34 days till October Expiry

The market had a little surprise in the last half hour. During the day we were mostly sideways, with the RVX creeping up. In the afternoon the RVX came down and the market ended close to the high of the day.

I pulled the trigger, I am in a 680-720-760 butterfly for 9.60 and I bought 1 extra 780 call to moderate the deltas.

Trader M made a remark on yesterday blog. I am asked this question often.

Let's try to address it. In my experience a Butterfly is not as sensitive to IV moves as the vega makes you initially belief. This has to do with the way IV is skewed over the strikes.
In the graph below you see the IV for all the strikes between 650 and 780.

Two scenarios
1. we go up and IV comes out
If we go up my 720 strikes becomes ITM. The ITM's have a higher IV. So on balance my short strike doesn't profit from the full drop of IV. The 780 doesn't play a big role. I am long vega in the 780, a move up makes it closer to the ATM strike which has a higher IV; again no big loss here. Simular for the 680 stike.

2. we go down and IV runs up
You can work this one out for yourself. :)

Don't get me wrong, I am not saying that butterflies are Vega neutral, they are not. Overtime I have learned that adding a Butterfly to your portfolio because you expect the IV to come down, is not the most effecttive way to 'skim the cat'.

September 11th

On day like this you should be happy that you don't need to predict direction to make a buck. What a roller coaster.

XLF up, IYR away from the lows of the day. RVX filling the gap and the RUT in a bounce up from the 700.
Rumors GS buying LEH; then no we will not, it being to "Disruptive".

I fully understand that market action and underlying fundamental on a daily basis are detached. That doesn't mean that I understand why on a day like this we can shy away from the low's and why the fear in the market can subside.

Did we accept and embrace the possibility of LEH bankruptcy and are considering a moat point? Do I have to believe it is already priced in the market?

The demo butterfly is in good shape, we still hanging in.

Today's graph is again a general chart. It shows over the period of a year the 6 morningstar indexes and projects them next to the SPY. On top Small Growth, Mid Growth and Large Growth and the bottom Small Value, Mid Value and Large value. All except for Small Value done worse or equal than the SPY. Interesting to see that Small Value had its own bottom early July and outperformed since.

september 10th

Did you recalculate the range for today when the market set its low @ 705 and did you see the market running up till ATR + low of the day (721).
It is not exact science it doesn't work day in day out. The spikes in the histogram above the moving average are proof for that. It is a great tool to set expectation and to be able to assess bigger moves as extraordinary.

The demo butterfly is still in great condition.

Tomorrow we are 35 days out for OCT. Time to started the bigger butterfly. I might wait a couple of days. Next week is expiration week and can have a upward bias. Same is true for the last week of the quarter. I rather have the mid strike a bit higher (if the market gives me that opportunity).

The chart I have today is a more general. Periodically I like to check which SPDR sector are working and which not. In this YTD chart of all the SPDR sector you can see that SPY is down 14% while Consumer Staples is the only one up for the year. XLE, XLF, XLU, XLK are even worse of compared to the SPY.
I don't make any trading desicions on the chart - just one of the ingredients to get a feel for the state of the market.

September 9th

The 700-705 range seems hard to navigate. There seems to be some strong level of support in this area. The development of the RVX is encouraging (if you want this market to go down all the way). It ended in the high end of the range. I am not some kind of anti patriot, sitting here in NY doing voodoo on the market. I want this market to go down to 2002 level, so we can start with a clean book again.

For me there are 4 issue causing this down trend;
. the mortgage mess (probably for 80% priced in)
. the upcoming Credit Default Swap mess (bigger than the mortgage mess)
. the trend with in the Price/Earnings ratios
. the overall US debt - in plain view and hidden (uncovered pension obligations)

The market will not deal with them all in one big down cycle, but number 1, 2, 3 are in my opinion unavoidable in this cycle. As you know my opinion comes from reading other peoples work, for instance John Mauldin has a great influence on me

So a reset to the 2002 level would be a point were I can stop looking over my shoulder all the time and can be a little bit more relaxed about my longer term stuff.

Let's focus on today for now.

The small demo butterfly in the IWM is doing well. Below is the analyze page.

I also have for you a graph which shows the RUT futures and its RVX. Both have a study I wrote to display the Average True Range as a histogram. Up if the Range was in the up direction, down if the close was lower than the open. On top of the range I display a 100 day Moving Average.
Knowing the statistical ATR of an underlying you trade is essential. This was the reason I closed Monday morning my SPY. The SP500 futures have a range of 23. By Monday morning we had done way more than the ATR. Very greedy to expect an other big leap up, hence close the trade.
I advise you to study the ATR for your underlying. It helps me a lot in predicting where possible the top and bottom for the day will be.
Like today, the Russel future has a high of 718 if we go down I would expect not much further than 702.The current low is 712 - if we go up I am looking at 728. None of my positions need action between these ranges. I will set some alerts and will enjoy the day.

in the earlier version of the post. I forgot to add the graphs. Sorry for that.

September 8th

I am quit happy with myself; My work on Friday around lunch time was right on the spot. Something was off. Market down heavy, RVX under the day before and financial creeping up. Then after the close we got some conformation. I hope my After The Close post reached you all in time.
I bought some extra SPY's and some XLF - and closed them this morning before market open (7am). All in all a nice little profit. I did not close them on particular technicals, I just looked at the range of the market in the last 8 trading hours, I could not imagine much more upside for today.

As for today's trading, I suggest you look at an intraday chart for the $trin and the $trin/q. I might be wrong, but I am under the impression that some of the big boy used the jump in the market to off load some assets. The $trin opened very bearish, while it should have opened bullish or more neutral. The next couple of days we will see what it means. I would not be surprise if the old ritme of news trading is true - first a move in the wrong direction - then a move in the real direction.

The butterfly trade is still doing fine.

The graph I want to share today is a volume graph. It shows the $tvol and the $tvol/q respectively NYSE volume and NDX volume. Plus 2 average of the volume. Just a good graph to look at. At the end of the day to get a feel for volume and 'seriousness' of the current trend.

I got to run, before market close. So this post is on a scheduled release.

The end of the World as we know it.

This weekend two very sad events happened.

Natan's hotdog stand (since 1900) closed on Coney Island and the Cyclone had its last run.
Coney Island has to move for progress. Real Estate developers have made a traffic plan, all the American ICONs needed to close for the execution of that plan.
We will see in a couple of year if progress is improvement.

I am sure you are up to speed with the other American Icon that fell of its pedestal this weekend. I truly hope that one day we realize that not every problem can we solved by big Businesses. Maybe then we can make some progress in areas of Health Care and Education. The last decade has given us enough examples of failing business systems to allow for a experiment in the other direction.
 

September 5th (after the close)

I am trying to figure out what news is hitting the wire, after the close the market is jumping up.
XLF, SPY, GS, LEH all up. To moderate my SPY delta I bought some stock in the extended hours. Monday I can swap them for some theta positive credit spreads.

The news must be bond related, my NLY bond funds is also jumping in the after hours.
My best guess is that FNM is being nationalized and that the market risk for those bonds is taken off the table.

If you are new into this style of trading and have a difficult time, believe me you are not the only one.
Trade (very) small, focus on trading right, don't force your results. Your size should be so small that the loses don't matter. Trade correctly and the result will coming.

enjoy the weekend