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Success With Options - Monthly Review, Issue #60 -- December 2014 Edition
December 01, 2014

Welcome to the December 2014 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 (nearly) 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.

Rally or Fizzle? - December Newsletter

It's been a surprisingly strong month given the meteoric rise we saw in October. Is this a Santa Clause rally or are we at the top with selling in store?

I recently began a series of live web sessions on a number of topics suggested by subscribers. I'll have an update on these sessions as well as providing access to past sessions.

In addition, I have answers to your questions and Options Strategy Focus and more.

Finally, we'll close as usual with a Market outlook for you. For more details, read on...

I'm always interested in receiving feedback on the newsletter. If you haven't done so recently, please consider taking a few minutes to visit the newsletter feedback page and let your voice be heard. This can be done anonymously so please consider how you can help make the newsletter better.

In This Issue

1) Options Strategy Focus

2) Exciting Announcement

3) Answers to your questions

4) Options Outlook

5) Featured Products

Announcement: Live Web Sessions Schedule

Recently, we launched a new service in the form of periodic live Web sessions. These sessions have been quite successful as we had a number of attendees join and participate in the discussion. However, they've turned out to be popular with people who couldn't attend the session as well.  See below for more details.

Based on feedback, I'm going to schedule the next few sessions. Notice that I've added dates for two more sessions to be held in mid December and early January. I'll be sending out a reminder notice but don't wait. Sign up now so you won't forget and then add it to your calendar. I'll be using these sessions as well as feedback using this survey to help me determine if there is sufficient interest.

Date/Time Topic Registration
Technical Analysis for Options Traders
This hour session offers tips for technical analysis tools for improved timing of entry and exit of spreads trades. We introduce different technical analysis concepts and highlight ones that may be best for options traders.

Level: Beginner - Intermediate
Purchase Recorded session (MP4).

Recording cost: $12

Add to Cart
More Info
Short Vertical Spreads Entries and Exits
This hour and a half session focuses on different entry and exit strategies for short vertical spreads. We'll examine strike selection, position sizing, entry timing, exit rules and more.

Level: Intermediate
Purchase Recorded session (MP4)

Recording cost: $12

Add to Cart
More Info
Calendar spreads entry & management
Calendar spreads can be a complex spread to trade. In this session, we'll cover ways to analyze potential profit, entry strategies, exit strategies and management.

Level: Intermediate
Seats limited to 25 so don't wait to sign up.
Session cost: $18

Add to Cart
More Info

Portfolio Management
This session will focus on a number of topics related to portfolio management including how many trades to have, balancing the portfolio for market bias, using portfolio greeks to make additional trade decisions and more.

Level: Advanced
Seats limited to 25 so don't wait to sign up.
Session cost: $18

Add to Cart
More Info

TBD thinkorswim Analysis Tools
This session will provide a look at a section of the thinkorswim platform that often intimidates even experienced traders. The goal will be to demystify many of the features so you can unlock the potential for better trade and portfolio analysis.

Level: Advanced
Stay tuned

Each session will be recorded and made available to attendees. If you can't attend a session, don't worry. Once the session has completed, the recording will be made available for a very reasonable price. They'll be announced and listed on the Options Trading Videos page as well as in future newsletters so stay tuned.

We are planning additional sessions so continue to use the feedback form to make suggestions and requests for future sessions. Use this survey to have your say.

Stay tuned!!

Options Strategy Focus: Portfolio Management

This section of the newsletter will focus more deeply on the details of some of the options strategies I use in the tutorials. One of the more frequently asked questions I get in one form or another is about managing trades from a portfolio perspective.

One of the harder aspects of trading is keeping a balanced portfolio, or at least keeping a portfolio that's oriented toward your current bias. I've covered this topic in a video on YouTube to some extent but I want to expand on this here.

What is Portfolio Management?
First, what do we mean by portfolio management? When I refer to this term, I mean having a set of trades that collectively reflect the current market bias and making trades that take into consideration the current risk and portfolio greeks.

In your account, you should be able to have a good idea of what the total risk is, how the portfolio as a whole benefits or is harmed by a move up or down, how time affects th position and how volatility increase or decrease affects the portfolio. That in a nutshell is what I mean by portfolio management. Much of this view comes from understanding the greeks at the portfolio level.

Using portfolio greeks
Ok, so I may have introduced a concept that may not be familiar. If you have worked with individual option contracts, you should be familiar with delta, gamma, theta and vega with respect to those options contracts. If you understand that option greeks can be additive, you can begin to see how we arrive at the idea of portfolio greeks.

If you think about it, you can do the same thing with a vertical spread or any other spread position. If you buy a call and sell a call to create a vertical spread, you can add the deltas (one will be positive and one will be negative) to arrive at a position delta. You can do the same thing with the other greeks as well.

Now, if you think about it, you can take that concept to the next logical level, which is to add the delta, gamma, theta and vega for each position to arrive at a portfolio delta, gamma, theta and vega. As an example, if you had a positive delta, it tells you that the portfolio will benefit from an overall market increase. If you have a negative vega, it suggests your portfolio will benefit overall from a decrease in volatility. Ideally, your portfolio theta should always be positive as should each of your positions if you are following the premium selling strategies promoted on the website.

You use the portfolio greeks to determine your overall exposure to market factors such as volatility, time passing and market bullishness or bearishness. You  can also use the greeks to help you select a strategy when considering a new position. First though, you need to determine your current bias.

Deciding on bias
Any time you are set to put on a new position, you will always want to determine bias as you would typically want to determine outlook. The same is true when managing your portfolio. The way to do this is the same as when entering a new trade. It's primarily through technical analysis. My preference is to use simple techniques such as support and resistance. You'll want to look at a two week timeframe as well as a 4-6 week timeframe. What you are doing is making a plan to adapt your portfolio to reflect your outlook. Since most positions are 3-6 weeks in duration, you'll want to take the time to do this.

Once you arrive at an bias, you'll be comparing bias to portfolio bias. Your portfolio bias is expressed in the greeks. Delta primarily indicates directional bias. Positive delta means bullish bias. Negative means bearish bias. The larger the delta in either direction, the more bullish or bearish. Vega can give you an idea of volatility bias. Positive vega means the portfolio benefits with increased volatility and so forth.

Once you have both an idea of portfolio bias and an idea of outlook, you have one of two choices. One, do nothing since the outlook agrees with the current bias. Two, select a position that shifts the portfolio from its current bias more in the direction of your outlook. Of course, this latter choice could either mean pushing the portfolio further in the direction of its current bias or changing the bias of the portfolio by the position(s) you add. For example, if you want to move a mildly positive delta to a more strong positive delta, you pick a positive delta trade. If you want to move a negative vega portfolio to a less negative or positive vega, you select a positive vega trade.

Selecting a strategy for the portfolio
To begin, you need to make sure you understand the greeks of each stragegy. In general, most strategies I propose are positive theta so we won't spend time on that. Beyond that, you need to know what strategies are positive delta and negative delta. Generally, any bullish strategy is positive delta and any bearish strategy is negative delta. Vertical spreads and iron condors are negative vega, while calendar spreads and diagonal spreads are generally positive vega.

So, you now have the building blocks to make your decision. You know what the current portfolio bias is. You've assessed the market and have an idea of the market bias. You know what strategies will help you make the necessary adjustment to your portfolio. You are almost ready to set up the trade.

If you are using the thinkorswim platform, you have another tool in your toolbox. You can use the thinkorswim analyze to see what impact your trade will have. You can see what the greek impact is as well as the P&L impact. If you use this broker, you'll want to take this additional step of doing the analysis.

Finally, you will will enter the trade. Once entered, you can now see the actual impact to your aggregate greeks. Be careful that you don't try to accomplish the entire job in one trade. If a fairly large adjustment in your portfolio is called for, do it in several trades. This will give you a little more flexibility and a bit more fine grained control as well.

I know that's a lot of information to digest. There are actually a few more aspects I couldn't cover in this newsletter given the space. For more on strategies, check out the Options Trading Strategies page. For more on technical analysis check out the Technical Analysis page. Also, be sure to check out the video on portfolio management on YouTube. Finally, you may want to consider attending the Portfolio Managment live webinar coming up this month. See the schedule in the prior section for details.
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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!

This question is related to the mechanics of a short vertical spread.

Q: If I sell a call option at a 14 day strike price of 10.5 and buy a call option of the same stock at a 14 day strike price of 11 what will I gain if the commission is $1 per transaction and the stock price stays the same and is my only risk the $50 difference in case the stock goes up?

A: I want to take time to address this here because behind it are the mechanics of a short vertical spread, which I think are really important to understand.

There are a number of key mechanics of a vertical spread I want to explore before directly answering the question. First of all, let's look at the spread. You are selling a $10.5 strike and buying a $11 strike. This creates a vertical spread with a width of $.50. It's important to understand the risk and reward of this trade. Realizing that each contract controls 100 shares of the underlying, we are talking about a risk of $50 per contract. It's not clear what the credit is but I could imagine that a typical OTM credit would be between $.10 and $.15. If we assume it's $.10, that means a reward of $10 per contract.

The risk in any vertical spread is the width of the spread ($.50) minus the credit, which means there is $.40 or $40 per contract risk with a $10 reward. To answer the question then, if there is a $1 per transaction commission, the actual max gain if you sell the spread and it expires worthless is $9. If the stock goes nowhere for 14 days, then your spread expires worthless and you keep $9.

If the stock were to go up but remain below $10.5, then you still keep $9. However, if the stock moves above the short strike, you get into interesting territory. If it remains below the long strike, there is a risk you get assigned on your short call (meaning you must sell 100 shares per contract you originally sold). You then must take some sort of action, typically closing the resulting position. Generally, this will result in a loss but less than the max loss of $40.

Finally, if the stock moves up strongly, there is the chance that both options will be assigned at expiration. This will be handled automatically with by the broker after expiration. If, on the other hand, you are fully ITM on both options and your short option gets exercised by the buyer, you have the ability to exercise your long options to close the position for the maximum loss.

I should mention that in many of these scenarios, you will be required perform closing transactions, which will usually involve additional commission. The amount of the commission will be dependent the broker you use.

A lot of the mechanics covered here are also covered if a fair amount of detail in the Mastering Short Vertical Spreads video.

Help me ensure we have an interesting question or two to respond to next month. Submit your questions at 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, expectations may change if the charts indicate something different during the month.

After the steep rise in October, who would have thought that we'd see such a strong continuation in November? So far, that's 6 weeks of strongly bullish action without much of a letup. What can we expect for December?

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

"... With the steep recovery after hitting the $1820 low, I wouldn't be surprised to see some kind of a pause and maybe a pullback. The question is: where will the SPX pull back to? The nearest support would be in the vicinity of the bottom of the up trending channel where the 50 day moving average is as well. That's around $1975, which is also an area of horizontal support. ..."

Here's how the November played out.

While I really expected some sort of a pause to occur, none materialized. We saw the SPX move up to the diagonal resistance, pause and then push through. We are now pretty close to the midline of the prior up trending channel. Stepping back and looking at the move from the lows in early October to the end of November, it's breathtaking how strong this move has been.

There are several things I notice at this point that are worth pointing out. First, we are very near the midline of the bullish channel the SPX has been in since the beginning of the year. I see that as the next level of resistance and would expect a pause and even some selling when we get there. Second, the SPX has pulled quite a ways away from the 30 day moving average. There is a gap of about 70 points or so between the two. I'd guess that there has to be some sort of reverting back to that support level. However, we're also caught in the midst of a 'Santa Clause rally' that offers opposing tension to this outlook. That said, I think the odds favor some sort of a pullback before resuming the bullish trend.

At this point, I've been selling against the trend a bit, taking a contrarian view of things. That may come back to haunt me but as I said, I expect a pullback to some extent. However, I'd treat a pullback to the moving average a buying opportunity. If this happens in the first week or so of the month, I'm looking for bullish positions that  will allow me to ride the bullish wave into the new year.

As always, do your own analysis and whatever trades you enter, use good money management and have exit strategies in place in case you are wrong in your analysis. It's a good practice to be prepared with trades in either direction but not to act without confirmation.

Remember to stay nimble and alert. Make a point of doing market analysis every day, especially if you have open trades. If you choose to enter any trades, be sure to do your own analysis and follow your rules for entry and exit.

More on technical analysis.

Options strategies I use

Be sure to take time to provide feedback on the newsletter.

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Featured Products

I'm adding a new section to the newsletter. Feel free to disregard if you aren't interested in product information.

As I announced earlier,  I just released the second for sale' video last week. The title of this video is "Mastering Short Vertical Spreads". I now have at total of two videos for sale. Here is a quick summary of each.

An Introduction to Options Spreads
This video provides a good coverage of the basics of options spreads, including why they are preferable to other options strategies like buying options and selling naked positions. What I believe makes this video valuable is that it combines presentation with interaction. Once you have the basics down, you will be well prepared to start digging deeper into some of the options strategies employed on this website.

For a relatively small cost of $29, you can own this video, which offers over 40 minutes of material. This package is very easy to install and use.

For more information or to purchase the video.

Mastering Short Vertical Spreads
The focus of the video is on one specific strategy, including all aspects of of the process. This includes:
  • Understanding the construction and the trade progresses over time
  • Selecting the long & short strikes
  • Planning entry & exits
  • Managing the trade once entered
  • Back testing
  • Creating a trading system with the strategy
I'm excited about this project. While a long time coming, it's been a labor of love. Many know this is my go-to strategy for options trading. After watching the video, I'm certain you will understand why.

For more information or to purchase this video

Special Discount offer:
If you'd like to own both videos, you can do so for a bulk discount. Simply add both videos to your shopping cart and then enter the discount code 'combo10' to receive $10 off your shopping cart total.

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