Anybody ever traded options??

[eridanus]

There are studies on covered call writing. It's often not as profitable as holding the stock outright. The market trends up, but not in a uniform manner.

Benesh and Compton,
HISTORICAL RETURN DISTRIBUTIONS FOR CALLS, PUTS, AND COVERED CALLS

Read the study yourself, but I found this interesting:

"Thus, on average, covered calls produced lower mean HPRs [Holding Period Returns] than those of the underlying stocks."

"Covered calls represent a conservative strategy aimed at generating some extra income and downside protection in return for giving up some of the upside potential on the stock. In other words, covered calls should exhibit less variability in returns than do the underlying stocks.

The empirical evidence confirms this relationship as the standard deviation of the HPRs for CCs are 5.8 percent for the ITM sample, 8.7 percent for the ATM sample, and 11.8 percent for the OTM sample, versus approximately
15 percent for the underlying stocks in each case. A comparison of the minimum and maximum returns for the CCs versus the underlying stocks also reveals a smaller range for the HPRs of CCs. However, much of the reduction in the range is due to the reduction of maximum returns as opposed to higher minimum returns."

[SIZE=-1]www.studyfinance.com/jfsd/pdffiles/v13n1/benesh.pdf[/SIZE]


But we're all above average here.

 

[clifp]

A very interesting study thanks for pointing it out. I find it unforunate that study covers a period off only 4 years 1986-1989 which while in includes the crash of Oct 1987 still was a very good period for stocks. I also find it interesting that study wasn't published until 2000!

I longer study of the use of covered calls say overa 20 or 30 years and including various withdrawal levels e.g. 4-6% would be much more interesting.

 

[fmhealth]

To: Easter 99. Simon, I would be more than happy to answer your specific inquiries. Please post your questions on this forum. Thank you.

PS- PLEASE do not take my strategies & thoughts as appropriate for you or anyone else for that matter. Just read that it takes 10 years to develop a personal trading approach. It's taken me A LOT longer. Please tread very carefully! The old saying is very true "never mistake a bull mkt for brains" Best of luck!!!

 

[Easter99]

With the generous endorsement of fmhealth to share his trading experience to all of us, I would be more than happy to post my private message earlier to him in here:

"Hi Dear fmhealth,

Sorry for bothering you by sending this mail. I just came across your posts recently and convinced that you are an experienced options trader and the one I would like to talk to.

I have a few questions in my mind, which I cannot figure out by myself and would like to have your private mentoring if you don’t mind spending some time to help me.

Let me introduce myself here:

I am 40, male, living in Hong Kong, having two kids, started trading stock options in US market 5 months ago (also using Schwab’s Street Smart Pro platform). Before that, I have 14 years experience of trading real stocks in HK market and US market.

According to my short time experience, selling naked puts & covered calls (which I mostly do) made a lucrative business. I treated it as a business since I found out that it consistently provide me with 4% monthly return on my US$1.2M portfolio (now run up to 1.5M+) when deploying buying power margin.

Originally, I think even with 1% monthly return, such cash flow created from receiving premiums would sufficiently cover my family’s expenses plus asset growth (to overcome inflation); I could therefore consider ER by the end of 2008 (after acquiring full equity of my home, now worth 1.5M).

You know, my wife and I always have the goal in our life to be free, independence, able to spend more time with the kids, doing whatever we like affordable, (LBOM of course) etc. These strong desires drive us to save as hard as we can and even to decide to forfeit our current handsome incomes (say 200K pa vs our spending 60K pa).

I know I have flare and zeal in trading (although most people don’t recognized this is a proper mean to make a living). I am also a natural learner, so I can pick up something new very quickly, like accounting, financial, economical issues, etc, by reading books, despite my profession is an Architect.



What I am not sure is: If I commit myself full time into the option trading business after 2008, would I be able to survive in long run, judge from your valuable experience?

I can trade very conservatively (think I need only 1% pm), but what I cannot avoid is a sudden downturn of the market. How do you deal with this? What is your view?

Thank You.


Simon"


PS: fm, I fully understand the old saying you quoted. Don' forget I have been there and through the famous Asian Financial Crisis & Tech Bubble.

 

[fmhealth]

Hi Easter. Well the past two weeks have shown you the "Dark side" of PUT selling. After a magnificent & very profitable first half of the year, I've given back a great deal of my profits.

This past week alone I've been stopped out of 16 positions, all for losses, some very significant. Does it bother me , NO (well maybe a little!). It's simply the way this game is played. That's why I would NOT recommend this strategy to you or anyone else that needed the proceeds of these trades to cover their fixed expenses. Simply too difficult to sustain a monthly P&L that is reasonable for most of us.

If, you feel that on a yearly basis you can augment your your income by selling PUTS, that's a tactic that can make a lot of sense & money. But you MUST be willing to either continually take relatively small losses or acquire stock at a lower price for this to work.

I'm trading GOOG now. Sold the Dec 380s for $2.40 with a stop at @3.60. A wonderful (I hope) premium for a strike that is, as I write this 130 points away. This is NOT a recommendation. I simply like the risk/reward ratio on this one.

Best of luck & remember this is a evolutionary not revolutionary process. It takes years upon years to develop a strategy that works for you & even then must constantly be monitored & course-corrected!

 

[Easter99]

Crazy Week

Hi fm, Nice to hear from you again and thank you for passing on of your wisdoms.

Wow, the last week was a crazy week. Here is my damage report:

1) I finished on July 21 expiry date with a ‘regular profit’ of 4% (on margin);

2) On Jul 24-25, when things seemed taste bad then I started selling more covered & naked OTM calls (21 nos. total; I think that would serve a hedging purpose); while keeping the puts; ;

3) On the pm session of Jul 25 to Jul 26, big lots of INTC (stock) were sold on profit taking and for capital preservation; temporary shorting of JWN, TEX & X stocks (to protect the puts; all closed out later with small profit). When I saw the board market didn’t turnaround, I closed out bad put positions and underlying stocks like crazy (14 nos.) and started profiting from the calls (not too much gains tough);

4) On Jul 27, I was sitting with mostly the short calls; Felt exhausted and waited for the upcoming signals from the market;

5) On Jul 28, counting chips, the whole month's profit of July was almost wiped out in just a few days;


Loss positions closed: ATI, TIE, NUE (stock), CLF, COH, JWN, MO, TEX (puts);

Calls selling that saved me from going negative: AA, ATI, CLF, FCX, INTC, MRK, MTW, X;

* * *

You see, you and I were expecting something like this to happen (but didn’t know when); So far, I am glad to have confined my losses and gone slightly positive by the end of the month; Looking back, if I were not staying in the game closely watching and managed my trades by doing hedging, I would have no doubt suffered huge loss.


Hope we can keep in touch. Good luck and good trading.

 

[ERD50]

I'm trading GOOG now. Sold the Dec 380s for $2.40 with a stop at @3.60. A wonderful (I hope) premium for a strike that is, as I write this 130 points away. This is NOT a recommendation. I simply like the risk/reward ratio on this one.

fmhealth - interesting. I'm trying to understand your GOOG position risk/reward. I 'play' these puts quite a bit differently than your example (near term, put strike a bit below current stock price).

In the most likely event, those puts expire worthless, and you collect the full $2.40. But, is that a reasonable return? You had to keep $380 tied up in order to sell that put (in case it gets put to you @ 380). So, I calculate the potential return as 2.40/380 = 0.63% return over 5 months ~ 1.5% return annualized. It seems to me you would be better off in a money market? Do you anticipate liquidating this far in advance of DEC? It seems it would take quite a drop to move that deep put very much in the near term, but I haven't done the math.

I realize that with your stop, you would never actually take ownership of the stock, but the money is still tied up. So how is is this a good return?

-ERD50

 

[utrecht]

he could make that exact same trade with Google by selling a naked put (as oppossed to buying Google stack and selling a covered call). The profit / loss is virtually the same but there is no money tied up by buying the stock. You only have to tie up potential margin buying power.

 

[ERD50]

he could make that exact same trade with Google by selling a naked put (as oppossed to buying Google stack and selling a covered call). The profit / loss is virtually the same but there is no money tied up by buying the stock. You only have to tie up potential margin buying power.

But it is still tied up. IOW, that money could be doing other work for you. And if you sell the put with margin to cover, the piper may come to you with a bill one day. Even with a stop, if it plummets overnight, someone could put the stock on you first thing AM.

-ERD50

 

[brewer12345]

You guys eating at the trough now that option premia have gone through the roof? Or getting whipsawed?

 

[fmhealth]

ERD, you bring up an interesting point. I simply don't consider any of my funds "Tied up". I have enough equity in my account that a reserve is set up by Schwab to cover the possibility of a total loss. None of my long positions are sold & my cash is still earning reasonable MM rates.

So I understand your logic, but I just have a different perspective on this trade. I look at this trade as picking up $2,400 with a total downside of about $3,600. Since the overwhelming % of these trades expire worthless. I have found that this strategy gives me a constant cash flow with a minimum of risk.

Now, I'm writing this after the 283 point debacle today. Only action I took was to buy back my Sept GS 190 PUTS & sell the Jan '09 180 PUTS. Took a considerable loss on the Septs but picked-up $24,000 on the LEAPS. I'll probaly use the same tactic wih MS & RIG early next week.

IF GS was PUT to me, my effective cost would be around $143.00. Which may or maynot look like a bargain 17 months from now. I'm simply betting that sanity will return & iconic companies will once again begin to be appropriately valued.

Time will tell. Best of luck!

 

[ERD50]

You guys eating at the trough now that option premia have gone through the roof? Or getting whipsawed?

Some of both. I sold puts at a strike price below their underlying at the time and still got a nice premium. So I had some downside protection built in. Some are below my break even point (if this price holds until expiry), some are above. Overall, not bad considering how far down this market has gone. But I'll be holding these until expiry, so that will be the real test.

I've also done some betting on buying calls on this drop with the intention to sell on a rise. Looks like I'll lose as much as I have made so far on those, but I haven't closed them all yet, so we will see.

This game had gotten pretty boring the past 9 months - well *that* certainly has changed!

I'm feeling OK about my positions right now, but next week may be another roller coaster ride. I'll feel a bit lucky if i come through this better than the overall market, but there is a pretty good chance I will.

-ERD50

PS: At least I have a nice batch of 'Griffin Spit Ale' from the Big Brew on May 5th to help me through this!

 

[ERD50]

fmhealth, yes, selling puts that are far below the current stock price can seem like a pretty safe bet (and it almost always is), but be careful. May I suggest that you read Taleb's ' Fooled by Randomness '? It's a good read, IMO, and makes you really think about the risk in your positions. Those 'black swans' are rae, but can we be ceratian that one will not appear over a 30, 40 or 50 year investment period?

The problem that I see, is that you can't really say your max downside is $3,600. It may appear that way with your stop loss, but those can get blown through. I held a stock that was somewhat volatile but there was no reason to think of it as crazy volatile, and it dropped in half overnight on after-market news, and I couldn't do a thing about it. I decided to double-up in the morning, assured that it was an over-reaction by the market. It continued to drop another 40% from that level before recovering. If I had been leveraged on that, and had a big position, I could have been wiped out. Maybe that was my 'black swan event'?

One exercise I do is to look at my portfolio and say - what if every stock I own dropped 60% overnight? Sure, that is a very, very unlikely scenario, but is it impossible? Not really, put sellers are usually drawn to volatile stocks. If that could wipe me out, maybe I should reconsider how much risk I am taking.

I'm not saying that your positions are good or bad, just that you might want to take a fresh look at the kind of risk you might be exposing yourself to.

-ERD50

 

[ERD50]

I had to click to get back to the OP.

Hey VaCollector - how are your friends with the 50% gain in two weeks doing in this market (maybe Brewer was directing his queation to you also)?

-ERD50

 

[haha]

fmhealth, yes, selling puts that are far below the current stock price can seem like a pretty safe bet (and it almost always is), but be careful. May I suggest that you read Taleb's ' Fooled by Randomness '? -ERD50

I am not able to recall tonight who told this story, but I believe it is credible as the guy telling it looked stupid and the other guy looked very smart. These two young guys were hustling institutional accounts at some brokerage. One of them became convinced that a crash was likely and scraped together about $60,000 to buy far OTM puts. This was in late September, 1987. The crash came, this guy sold his puts for $7million+ and immediately retired in his late 20s. The other guy just couldn't see it, said buying puts was a sucker's game, etc, and continued to work.

The put buyer was a genius or more likely very lucky. But my point is that someone wrote those puts, for damn little money- and that someone was wiped out forever.

Good thing to consider when you plan to become an undercapitalized insurance company with no actuarial department.

Ha

 

[ERD50]

Good thing to consider when you plan to become an undercapitalized insurance company with no actuarial department.

Ha

Very good observation, Ha.

My studies led me to set these rules for my put selling:

A) Allocate no more than half my NW
B) Keep every sale *fully* capitalized
C) Apply no more than ~ 5% of my NW to any one transaction.

That still leaves me w/o an actuarial dept My proxy for that is the diversification and a little research and avoidance of the temptation jump on the really high premium positions.

I have bent rule C under one condition so far. If I was comfortable buying SPY with the rest of my equity anyhow, and I run out of other attractive put sales, I will allocate a large % to put sales on SPY (or just buy it outright, depending on my outlook). My thinking is, heck, I was going to buy the SPY anyway, why not contract to buy it at an even lower price? Of course, I accept the option premium against the chance of an immediate spike in SPY, which I would not participate in.

You win some, you lose some. You just don't want those loses to hit too hard.

-ERD50

 

[FIRE'd@51]

I have bent rule C under one condition so far. If I was comfortable buying SPY with the rest of my equity anyhow, and I run out of other attractive put sales, I will allocate a large % to put sales on SPY (or just buy it outright, depending on my outlook). My thinking is, heck, I was going to buy the SPY anyway, why not contract to buy it at an even lower price? Of course, I accept the option premium against the chance of an immediate spike in SPY, which I would not participate in.
-ERD50

Very good explanation and reasoning, IMO. What you have described is "targeted buying". I think this is just fine (bending rule C) since SPY is a broad-based index and doesn't face the bankruptcy threat that an individual company faces (besides, nothing wrong with having an incremental allocation greater than 5% in a broad-based index - we all do that anyway when we rebalance). You are selling puts which are fully capitalized in lieu of buying the index. The folks who got into trouble doing this in 1987 (as Ha described) sold puts that weren't fully capitalized, thinking it was "free money". Especially now with the premiums being so attractive due to the high implied volatility embedded in them. Yes, you may be able to buy the index lower in the next few days or weeks, but, as you say, you will be better off having sold the puts than buying the index today (and you have made this buy decision) if the index languishes or goes down further. If the market runs up, the implied volatility embedded in the premiums will likely drop, so you will be compensated from this effect as well to offset some or all of your "non-participitation" in an upward move.

 

[fmhealth]

ERD, once again, points well taken. I also have been in the unenviable position of getting stopped out much lower than my stop price. Not a pretty picture.

I try to diminish this by selling PUTS in various industries & at numerous exp. dates. I have found this mechanism somewhat useful in mediating risk. Not a guarantee, but a viable tool for some degree of risk-adjustment.

Essentially, my mind-set is that I usually sell PUTS on stocks that I wouldn't mind holding for the L/T. If they're PUT to me I'll take another look & either hold, sell or sell CCs on this position. I have been utilizing this strategy for so long that I'm very comfortable with the downside. An example would be one that I used earlier, GS. It's selling at around $177.00. Say they announce a significant sub prime exposure today & the stock tanks to $125.00. I'm going to get A LOT of GS stock. Avg. price around $145.00 or so. I'm simply willing to take the risk that over time this will become a very profitable position to hold. Other examples would be, RIG, MS, C, SBUX, WAG, CVS, GE, WMT, TGT, WYNN,YHOO, BOT, DNA, AMGN.
I would have vey little problem adding these companies to my portfolio at prices below their mkt price today.

So I look at PUT selling as a two-fold dynamic. Primarily, to provide a steady cash flow, secondly, to possibly acquire stocks I'd like to own at prices lower than their mkt price today.

Thanks so much for your sage insights. They are very much appreciated.

 

[teknobucks]

Ok....I'm not sure if this is the proper area to post this inquiry.....or if it might be considered heracy to post such an idea on this ultra-conservative board BUT at the risk of takin' a lickin' from you guys ....I just wanted to ask

I visited with a couple of friends yesterday, informed them of my new part-time FIREing...and after the [-]what I come to find as normal[/-] confused,surprised looks and explanations....we began a discussion of "how" it could be possible....

My explanation included the conservative approach that I have read regarding index funds, apportioning, etc.with a focus on safety, etc.......and after they finished rolling their eyes at me....I was introduced to their newest foray in investing - OPTIONS.

It seems that they took an investing course in the fall of 2006 ~ paying $25K for the priviledge ~ .......and have attended several investment seminars to learn the ins and outs of the stock market....and while they have learned about the basics (mutual funds seem to be a joke to them) they are completely enamored with trading options and spent a couple of hours trying to help me (mental midget) to understand the process....

While they are admittedly new in this field, their results are impressive to say the least.....a 54% NET return since they began trading REAL MONEY (after paper trading for several months).....HOLY POOP BATMAN....I want some of that!!

OK...so I DID feel like I was at an Amway convention...with all of the sunshine being blown up my butt....and after the euphoria wore off....I still couldn't shake the fact of their results!!

Anybody here ever traded options with positive results?? Any other advice (other than to run the other way - hard and fast)??

Opinions and experiences appreciciated ~ thanks!!

RUN from um.
if u must be leveraged my practice is 2 buy dual inverses such as SDS...u can go short here for a nice long position. much more volume in the short stox than the long version counterparts. liquidity liquidity liquidity!

look at: BigCharts - Interactive Charting

versus: BigCharts - Interactive Charting

 

[teknobucks]

if u do buy/sell an illiquid stock/etf be sure u use a limit order only.
market orders in high volume stocks trade close to the current strike price.
*limit orders are the only smart way to trade as a rule.

 

[haha]

Option Liquidity Disappearing

I've noticed the last couple of days that as volatility ramps up, the bid/ask spreads widen considerably, even on very active options- such as near the money QQQQ options.

Also, a related question- do any of you options traders have brokers that support web based spreading of different months/strikes on the same underlying?

When I roll, I have to do each leg separately. When I used to trade commodities the roll was much easier as only the differential had to be specified. Since that is what counts it seems lot better to me.

Ha

 

[fmhealth]

Ha, Schwab's "Street Smart Pro" supports the type of trading you're looking for. I find their platform very easy to navigate & intuitive as well. Many times you'll be able to get numerous free trades if you open a new acct or transfer one.

Best of luck!

 

[ERD50]

Also, a related question- do any of you options traders have brokers that support web based spreading of different months/strikes on the same underlying?
Ha

Ha, I have e-trade, and (though I've never done it), they do support spreads as one entry. You can choose two different symbols (so I assume they could be diff months), and for 'Price Type' you have the choice of Market; Net Credit; Net Debit; and Even.

Hmmm, I just noticed that you can do a Buy-Write (Covered Call) with those 'Price Types' also. As you say, it is the delta you are most interested in, not the absolute prices so much. I'm going to have to give that a try.

I'm glad you asked - I learned something!

-ERD50

 

[FIRE'd@51]

Schwab's "Street Smart Pro" supports the type of trading you're looking for. I find their platform very easy to navigate & intuitive as well. Many times you'll be able to get numerous free trades if you open a new acct or transfer one.

I have e-trade, and (though I've never done it), they do support spreads as one entry. You can choose two different symbols (so I assume they could be diff months), and for 'Price Type' you have the choice of Market; Net Credit; Net Debit; and Even

Does Schwab and e-trade give you a bid/offer on the spread or just on the individual options?

 

[fmhealth]

Schwab gives you the individual bid price on each side & then nets it for you. Subsequently, you can increase the net price & submit your order.