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Success With Options - Monthly Review, Issue #004 -- April Edition
April 01, 2010
Hello,

Welcome to the April edition of this newsletter!

This is a monthly newsletter packed full of tidbits not found on the website. This is my attempt to stay connected with those who find value on the the website and want more.

Since this newsletter is published every month, you are always up to date and empowered to be a better trader. That's because I'll be sharing lessons I've learned over the prior month, answering questions from other viewers and providing a spotlight on useful websites and trading tips. If you find this newsletter valuable, pay it forward and send it to your options trading friends.

To access previous issues of the newsletter, click here.

Through the Roof! - April Newsletter

Whereas February was a fairly quiet month, March was a "Through the roof" month - in more ways than one. This month has seen a $75 run with hardly any pauses.

There's been a lot going this month behind the scenes. Of course I've put on a few trades and closed a few trades. In addition, I've put up a new page on option greeks that I hope will be valuable.

Also this month I've been busy putting together some videos with more in the works. I've had a few good trades with more on the way (I hope).

For more on this, read on...
 

In This Issue

1) New on the site

2) Trade of the week summary

3) Options Trading Tip

4) Answers to your questions

5) Options Outlook
 

What's new at Success With Options

Other than adding trade pages, I haven't made any major additions or changes to the website. I did add a new page on option greeks when I realized I had neglected to put together a page on this topic. I have also recently added a couple of new videos out on YouTube. I had promised to put together some videos on the Iron Condor strategy. The first two are available now.
Here's what one visitor had to say about these videos:

"I came across your web tutorial about iron condors on YouTube when I was searching for some info online. Your tutorial is very instructive and helpful."

Be watching for a video update on the Iron Condor trade as I discuss ongoing trade management.

After sending out 3 newsletters, I'm anxious to receive some feedback on the content and on ways I can make this newsletter more valuable for the readers. Please consider taking a few minutes to visit the newsletter feedback page and let your voice be heard.
 

Trade of the Week Summary

February's trades have gone much better than my January trades. While most of the trades I put on this month are still open, they are well on their way to being profitable.

Here are the trades I put on this month in a quick summary.

New/ Closed Trade Gain/Loss Comments
Closed Put Calendar spread -$44 I closed this trade early because it was clear the trend had changed and I didn't see any point in remaining in the trade. In retrospect, I'm glad I exited when I did.
Closed Short SPY put vertical +$192 This trade would have done better if I'd have not put the call spread on because, as I've noted, the market starting showing a lot of strength in March. Nevertheless, I managed it well enough to lock in some profit.
Closed Short EWZ put vertical +$288 This was another textbook trade. I put it on and was out in just over a week's time.
Open Diagonal spread on IWM   This is a one contract long diagonal spread. The spread is $7 wide and is well in the money with one roll already completed for $.51. With any luck, I'll get one more roll before closing for my final profit.
Open SPY Iron Condor   I put this trade on in conjunction with a video tutorial I also released (see 'What's new' above). The put side of this iron condor is closed (no surprise) and the calls are slightly being overrun (also no surprise). I've done a little trade management on this position that will help.
Open Short DIA put vertical   This trade is progressing nicely and will likely close in the next week or so.
Open SPY Iron Condor   Another iron condor spread I put on at the beginning of the week.

This has obviously been a better month than the first two months of the year. Is this simply because the market has turned bullish again or is it because I'm trading the trend and following my rules?

It's probably too soon to tell, but I'd like to think I'm learning from my mistakes.

By the way, I want to take a moment to address a question/observation a few people have made regarding my trade results for this year and last year. They observed that the results I listed weren't a great testament to the strategies I'm promoting. For the most part, I'd have to agree. As I acknowledged at the beginning of the year, I fought the trend for much of the latter part of 2009 and paid the price for it.

However, my personal account did much better. Why? Because for the trade tutorials, I deliberately chose trades (and still do) to illustrate trading strategies and trade management - not so much to prove they can make money. Additionally, I don't put out a trade page on every strategy I personally trade or consider trading.

That said, I will be striving to make better choices on my trades as a demonstration of selecting the appropriate strategy for the market climate and my outlook. My expectation is that 2010 will show much better results.

For more information on all of the trades I've posted as option trading tutorials, click here

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Options Trading Tip of the Month

This month, I want to tackle a topic that isn't so much about the mechanics of trading but the psychology of trading. This isn't going to be a deep discussion since there isn't really room to go into detail. However, a trading friend and I were talking about the interesting tendency that we have to second guess our trading rules. Let me give you an example.

Let's say I put on a short vertical spread trade with an exit rule to close if the debit reaches twice the initial credit. For example, I sold the spread for $.40 and have a target exit to close when the debit would be $.80. A few weeks go by and the trade goes against me, ultimately resulting in my exit being triggered and I'm out for a loss of $.40 times the number of contracts. Let's make it an even $400.

A few days later, the market reverses and I notice that if I'd have just stayed in the trade, I would have been able to lock in my target profit. So, I resolve to myself that next time I put on the trade, I'm going to wait a day or so just to make sure the trade is really going against me. However, I don't make any other changes to my trading rules (like position size).

Sure enough, as before, this trade goes against me but instead of getting out, I decide to wait it out. This time though, the reversal continues and my potential $400 loss turns into $800 before the pain becomes too much and I decide to get out. Now I'm confused and angry and afraid to take the next trade. This experience hit me not only in my account but in my psyche.

Does this sound familiar? I'm guessing anyone who has traded for any period of time has had this experience. This is what happens when we lose sight of the big picture. We have a trading plan and a set of rules hopefully based on some amount of testing that has shown that the strategy is sound long term. Even when we have a few bad trades in a row, our question shouldn't be "What's wrong with my plan?" but "Did I follow my plan?".

This is not to say we shouldn't fine tune our trading plan from time to time. However this should be done using a fairly scientific approach. Change one thing at a time. Back test it and forward test using paper trading until we know whether this helps or hurts our success rate. There's obviously a lot more to trading psychology than what I just covered. However, I've found this one issue comes up over and over with traders I talk to - myself included.

Visit the website for a quick review of options trading systems including creating a trading plan and trading rules.
 
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Answers to Your Questions

I frequently receive email from visitors to the site with questions that aren't answered directly from content on the site. Many of these are great questions and I think the answers would be valuable to all readers. Each month, I'll be posting one or two questions so stay tuned!

Here is a great question I received recently...
.
Q:  Is it possible to implement a strategy with iron condors similar to the strategy used for short vertical spreads (i.e. targeting 80% of the initial credit and 2X the credit to exit)?

A:
This is a good question. It's certainly possible to come up with a strategy that's similar. However, let's take a moment to think through the strategy. The iron condor strategy I currently use is what I call the 60% strategy due to the rough probability of the short strikes I choose expiring worthless. That typically results in a credit that is 50% of the spread. For example, if I sell a $2 wide spread on each side of the iron condor, I'd look to get about $1 in credit. So, there's already a 2X rule built in. On top of that, if I set my exit rule for 20% of the credit for each side, I've effectively made it the same as putting on two vertical spreads with their own separate rules. I could set my overall target profit point to be 80% instead of 60% but that means leaving the trade on longer and that typically imposes more risk.

Maybe a better way to use a strategy like this is to chose short strikes farther OTM than what I chose. For example, what happens if we look for short strikes with a probability expiring worthless of 80%. In that case, I might expect a credit of $.60-$65 on a $2 wide iron condor. This trade has a higher probability of success overall so I may be more inclined to stay in the trade longer to allow the spreads to decay to 20% of their initial value (locking in 80%). 

The point that I want to make is that we start with a theory and begin to work the mechanics on paper. Any trade must make sense logically both in terms of the mechanics and the probabilities. Look at a few examples hypothetically. Next, we should backtest the strategy thoroughly before paper trading it and finally implementing it in our real account.

By the way, if you are a Thinkorswim customer, Thinkback or OnDemand are great ways to do this.

If you would like to submit  a question, comment or feedback on the website, please visit this page.

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Options Outlook

In concluding this newsletter, I want to provide a brief outlook for what I'm expecting for the next 20-40 days. Before I do, I need to insert the following disclaimer.

 
This is not a recommendation to buy or sell stock, ETFs or options. It is simply my opinion of what I expect and how I plan to trade. As such, it may change if the charts indicate something different.
 

In the March newsletter, I summarized my outlook as follows.

"
I am now cautiously bullish....

... Unless I see indications to the contrary, I'm going to be putting more bullish positions on. Expect to see some bullish credit spreads, maybe a diagonal and a skewed iron condor in upcoming trade tutorials."

March has been pretty much nothing but up days starting at about 1105 and pushing all the way up to just over 1180 at one point. Where does that leave the outlook for April?

SPX Market outlook

Last month I mentioned that we were bumping up against resistance that might cause a sell-off. The other possibility was a breakout. The latter is what ended up happening and now that old resistance area becomes support. Notice also that after the breakout, there has been almost 2 weeks of consolidation, which means there may be another push up. I'll remain bullish until we see a break of the support level at $1150. A new bullish move could take us all the way up to the $1200 area before pausing or turning downward. The iron condor I recently entered has its short strike at $120 on the SPY, which is perfect!

What's the bearish argument? Right now, the VIX (the volatility or risk indicator for the S&P 500) is sitting near lows not seen since before the market sold off back in 2008. There is a chance that volatility could jump accompanied by a sharp sell-off. The other way to look at the recent consolidation is that it could be a sign of the bullishness starting to weaken, which could be a precursor of a near term bearish turn.

The truth is that there's no way to know for sure until a move one way or another takes place. As we conclude the month of March, we are also concluding the first quarter of the year so things are relatively quiet. This coming Friday is also Good Friday, so the markets will be closed. I wouldn't expect anything significant to happen until the next week.

In summary, I'm still bullish but I'm starting to look at more neutral trades. I'll probably wait until next week to enter any new trades just to see if a move makes it more apparent as to the move the market will make. I will treat any pullbacks to the support level as opportunities to take more bullish trades like short put vertical spreads.

I have a diagonal spread on the IWM that is pretty deep in the money. A sell-off could actually give me a chance to get a good roll. If that doesn't happen, I'll close for a nice profit anyway. This bullish sentiment is putting a squeeze on my older iron condor spread but I recently adjusted that with a call calendar spread to hedge off some of the upside risk.

Beyond that, we'll just have to sit back and wait for a move to develop and adjust the outlook accordingly. By the way... I do this analysis more than once a month. It's important to review the trend and outlook at least weekly to stay on top of changes that are taking place.

More on technical analysis.

Options strategies I use

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