I allocate about 20% of my portfolio to junior stocks and small caps ( below $5 ) .
Many of them do not have options available. If there are options, it is usually illiquid and has wide spreads.
But juniors can give you handsome rewards especially if you have some access to some good fundamentals on the company. For precious metal juniors, it could be deposits, strong management and a potential rise in the metal prices. I got most of my ideas for junior precious metal stocks by attending the Vancouver Gold conference which is held twice annually. Here I have the opportunities to hear presentations and talk to the companies on exhibition. The fundamentals could be a superior product, service, business models, confirmed contracts and rising from a very low base out of bankruptcy.
I have been trading juniors for more than 5 years. It is almost impossible to time the entry technically. It is a also difficult to use stop losses because the spreads are so wide.
So I use the following strategies.
First the stocks must be on a fundamental growth potential. It is very important that the companies must have cash to sustain for at least 2 years. Sound, prudent and experienced management is also key to their success. It is very similar to investing in a start-ups which was part of my business experience. The risks are high. Success rate could be 1 in 100. With due diligence you may be able to improve the ratio.
Next, I just buy a basket of stocks with the allocated 20% of my portfolio. These are companies I believe to have huge potentials. I re-balance it 2-3 times a year by selling the losers and add in more winners. For companies which have increased > 100%, I consider selling 50% and effectively you get a free trade for it to reach maximum potentials. If I believe the fundamentals have change for a particular company, I will sell the stock even though the losses could be high. Poor fundamentals could be product failures, market change, poor drilling results and management change.
These strategies have worked well for me. Roughly, 25% of the companies in this basket lose about 80% of its value after a few years. Some companies even go to zero. Usually, I am able to salvage some residual values. But, there are at least another 30% that gives me multi baggers. Some of biggest gains give me returns of 4-5X gains and I am still holding on to it. The rest seems to go nowhere and is stuck in a range.
Many times, even the multi baggers go through wild volatility .In 2008, some of the juniors went to <30% of its original price. But I kept the stocks because fundamentals were intact. I was not shaken because my exposure is <20% of my portfolio. For some stocks that I really like, I bought more stocks and average down my entry price. During 2009 boom, many of them went up 6-10X.
I have gone through 2 cycles of boom and bust for these stocks over the last 6-7 years. Overall, the portfolio make good average annual returns of >30% without the stress of managing it day by day.
Tuesday, March 30, 2010
Choosing stocks for trades
I have some questions posted to me on how do I choose my stocks? What are the resources I use and where do I get my research?
The good news is that most of the resources available to me are free. The bad news is that there is an information overload out there that I need to strictly prioritise the tons of info flowing into my computer every day!
Information can be classified into different categories – macroeconomics, specific fundamental information on stocks and technical analysis.
For macroeconomics, I like Business Week, Barron, The Economist, and Wall Street Journal. I subscribe to Business Week as it covers core current issues pretty well with an emphasis on information technology. I am a subscriber for Business Week probably for more than 15 years! I had been very involved in technology in my career and thus these articles in Business Week are of great interest to me. The rest I just read it from the local libraries which I visit occasionally.
For those who like a daily letter, I highly recommend you subscribe to John Mauldin’s letter issued out every week. ( www.johnmauldin.com). It contains a balanced insight into the economics situation worldwide. I also like Doug Casey although I may not agree with him all the time. Doug is a libertarian and a perma-bear on America. He is a big time speculator. He can be very extreme many times appear arrogant. But he has good contrarian arguments, which I find it brilliant and out of the box. I have been reading his thoughts for many years. In terms of timing, he could be totally wrong. Just search Doug Casey and you can subscribe to some of his newsletter daily. Most of these newsletter will try to sell you some services. You do not need to subscribe to the services.
For some radical radio interviews, I listen to KingWorld news regularly. Eric King brings an unique perspective on the economics front which is not normally covered by the main stream media.
An interesting site which I read regularly is http://www.madhedgefundtrader.com/. From here, I get some macroeconomics perspectives and many times specific ideas on individual sectors or stocks. He has a humorous style in presenting his thoughts in his writing and interviews.
I seldom watch CNBC although I have access to it on cable at home. It is too sensational seeking to drive emotions and gather points for their advertisements. Sometimes I watch Jim Cramer just for entertainment. It was very funny when I saw him torn apart by comedian Jon Steward last year. However, I do like BNN of Canada. It has a commodity bias and discuss many stocks listed in Canadian exchanges. You can watch most of the interviews on the web. www.bnn.ca
There are 3 websites that I use regularly for company fundamentals. I like Yahoo and Google finance. They provide most of the news, financial data, analysts views and even blogs ( in Google finance ) you need. You can get a rough feel on where the stock is going. Finviz.com is another great site. It provides a heat map and also technical synopsis of specific stock in a concise way using trend lines that I find useful.
I participate regularly on a website site which caters to options traders. ( www. optionsanimal.com ). I attend their market updates regularly. I have a paid membership. From here I get some good discussions of the market, option trading strategies and some specific ideas on stocks not just from the organizers from also from people in the community of which many are excellent traders themselves.
For technical analysis, I do not really follow anyone. I have my own system. But I find some cycle analysis, fibonacci, Gann ratios and angles fascinating. I do not take Elliot waves seriously because I find it very subjective and often based on hindsight. I want forward leading indicators not lagging indicators. Combined together, Fibonacci and Gann analysis can be very powerful for trading commodities. One website I like is Marketclub.com. Sign up for the periodic free video and Adam Hewlitt, the founder will show skilfully how he predicts directions for some key commodities and indices using his proprietary triangle technology together with fib. ratios and cycles. He is uncannily accurate in many of his predictions. It is also a good example on how to choose a system and stick to it and you will make money eventually. His triangle system is actually similar to some of the signals I use in my system.
A watch list of stocks is created based on the information gathered above. Every time a new idea comes to mind, I will add it to my watch list. At the same time, I revised my watch list every week and remove stocks that I do not want to follow. The watch list has a spread of companies in various sectors from commodities, pharmaceutical, consumer and technology.
I approach the market on 3 levels. First, fundamental data must show me the directions for the stock. It could be up or down. If I choose a stock that is bullish, the company’s fundamental data must support the bias in alignment with the macroeconomics directions.
After deciding on the stock, technical analysis is used to determine an entry. Normally, a reasonable technical system with some simple indicators will do. It is not a precise science. I use a mixture of price patterns, price actions via moving averages, slow stochastic, MACD, W % and Bollinger band. I had used these indicators for more than a decade and thus have a good feel of how they behave.
Price patterns are predominantly support and resistance plus varieties of patterns giving hints to market psychology. It is subjective but often it works. I believe you just need to choose the indicators that serve you well a period of time and stick to it. If you combine it with fundamental research and options, the technical system should serve you well.
Once I identify stocks that are ready for trades, I will put it into my hot list for actions on the next day. Before I trade, I usually wait for confirmation on the price actions on the trading day.
In the third phase, options strategies are used to hedge the trade to control volatility, fear and greed. It is described in more details on other posts on this blog.
Some final advice. Trade on a plan and not on emotions. Know the reasons why you are in the stock. Stick to your plan until with your targets clearly defined together with primary and secondary exits. Take full responsibilities for what you do. Keep a detail record of your trades. Over time it will help you tremendously.
The good news is that most of the resources available to me are free. The bad news is that there is an information overload out there that I need to strictly prioritise the tons of info flowing into my computer every day!
Information can be classified into different categories – macroeconomics, specific fundamental information on stocks and technical analysis.
For macroeconomics, I like Business Week, Barron, The Economist, and Wall Street Journal. I subscribe to Business Week as it covers core current issues pretty well with an emphasis on information technology. I am a subscriber for Business Week probably for more than 15 years! I had been very involved in technology in my career and thus these articles in Business Week are of great interest to me. The rest I just read it from the local libraries which I visit occasionally.
For those who like a daily letter, I highly recommend you subscribe to John Mauldin’s letter issued out every week. ( www.johnmauldin.com). It contains a balanced insight into the economics situation worldwide. I also like Doug Casey although I may not agree with him all the time. Doug is a libertarian and a perma-bear on America. He is a big time speculator. He can be very extreme many times appear arrogant. But he has good contrarian arguments, which I find it brilliant and out of the box. I have been reading his thoughts for many years. In terms of timing, he could be totally wrong. Just search Doug Casey and you can subscribe to some of his newsletter daily. Most of these newsletter will try to sell you some services. You do not need to subscribe to the services.
For some radical radio interviews, I listen to KingWorld news regularly. Eric King brings an unique perspective on the economics front which is not normally covered by the main stream media.
An interesting site which I read regularly is http://www.madhedgefundtrader.com/. From here, I get some macroeconomics perspectives and many times specific ideas on individual sectors or stocks. He has a humorous style in presenting his thoughts in his writing and interviews.
I seldom watch CNBC although I have access to it on cable at home. It is too sensational seeking to drive emotions and gather points for their advertisements. Sometimes I watch Jim Cramer just for entertainment. It was very funny when I saw him torn apart by comedian Jon Steward last year. However, I do like BNN of Canada. It has a commodity bias and discuss many stocks listed in Canadian exchanges. You can watch most of the interviews on the web. www.bnn.ca
There are 3 websites that I use regularly for company fundamentals. I like Yahoo and Google finance. They provide most of the news, financial data, analysts views and even blogs ( in Google finance ) you need. You can get a rough feel on where the stock is going. Finviz.com is another great site. It provides a heat map and also technical synopsis of specific stock in a concise way using trend lines that I find useful.
I participate regularly on a website site which caters to options traders. ( www. optionsanimal.com ). I attend their market updates regularly. I have a paid membership. From here I get some good discussions of the market, option trading strategies and some specific ideas on stocks not just from the organizers from also from people in the community of which many are excellent traders themselves.
For technical analysis, I do not really follow anyone. I have my own system. But I find some cycle analysis, fibonacci, Gann ratios and angles fascinating. I do not take Elliot waves seriously because I find it very subjective and often based on hindsight. I want forward leading indicators not lagging indicators. Combined together, Fibonacci and Gann analysis can be very powerful for trading commodities. One website I like is Marketclub.com. Sign up for the periodic free video and Adam Hewlitt, the founder will show skilfully how he predicts directions for some key commodities and indices using his proprietary triangle technology together with fib. ratios and cycles. He is uncannily accurate in many of his predictions. It is also a good example on how to choose a system and stick to it and you will make money eventually. His triangle system is actually similar to some of the signals I use in my system.
A watch list of stocks is created based on the information gathered above. Every time a new idea comes to mind, I will add it to my watch list. At the same time, I revised my watch list every week and remove stocks that I do not want to follow. The watch list has a spread of companies in various sectors from commodities, pharmaceutical, consumer and technology.
I approach the market on 3 levels. First, fundamental data must show me the directions for the stock. It could be up or down. If I choose a stock that is bullish, the company’s fundamental data must support the bias in alignment with the macroeconomics directions.
After deciding on the stock, technical analysis is used to determine an entry. Normally, a reasonable technical system with some simple indicators will do. It is not a precise science. I use a mixture of price patterns, price actions via moving averages, slow stochastic, MACD, W % and Bollinger band. I had used these indicators for more than a decade and thus have a good feel of how they behave.
Price patterns are predominantly support and resistance plus varieties of patterns giving hints to market psychology. It is subjective but often it works. I believe you just need to choose the indicators that serve you well a period of time and stick to it. If you combine it with fundamental research and options, the technical system should serve you well.
Once I identify stocks that are ready for trades, I will put it into my hot list for actions on the next day. Before I trade, I usually wait for confirmation on the price actions on the trading day.
In the third phase, options strategies are used to hedge the trade to control volatility, fear and greed. It is described in more details on other posts on this blog.
Some final advice. Trade on a plan and not on emotions. Know the reasons why you are in the stock. Stick to your plan until with your targets clearly defined together with primary and secondary exits. Take full responsibilities for what you do. Keep a detail record of your trades. Over time it will help you tremendously.
Sunday, March 28, 2010
My favourite precious metal stock - SLW
I am bullish on gold for the last 5 years. I have made a lot of money trading precious metal and related stocks.
Most of the stocks move directly with the metal. So you need only to find a few fundamental sound companies and trade accordingly.
But my favourite PM stock is Silver Wheaton ( SLW).
Silver is a lot more volatile that gold. If gold goes up, silver will outperform gold and vice versa.
Lets begin by stating the reason why I like silver more than gold. Based on historical ratio with price of gold >$1000, silver price was around $62. Today, silver is trading around $17 or about 60 times gold to silver ratio. This ratio will return to around 20 if there is a monetary crisis. In early 1970 when Nixon abandoned the gold standard and during the world war one, gold to silver ratio dropped to 17. As the dollar falls eventually, silver will return to around this ratio.
I use SLW as a proxy to trade silver. For juniors, I hold some stocks on SQI ( or Silver Quest ) traded on Canadian Venture exchange.
Silver Wheaton has a great business model. I bought tons of SLW at the peak of the credit crisis under $3 and today it is trading around $15. This is one stock that I hold long term. I use my “dynamic collar” strategy to manage the trades.
SLW is the largest silver streamer in the world. It is essentially the purchase of silver by product from base-metal miners who do not want the hassle of smelting and dealing with the silver from their mines. SLW has 12 long term agreements with companies like Gold Corp, Glencore Mining, Lundin mining etc which will produce 17 to 19 million ounces of silver equivalent ( the company gets some gold too ) in 2010. It is a win-win agreement. The miners get guaranteed income and SLW gets guaranteed supply of silver.
Some of the agreements are producing big profits. For example, SLW had an agreement with Luismin mine in Oct 2004 to get silver at $4.2 per ounce for 25 years. In the next few years, Luismin mine had produced 29.3 m of silver with a gross sales of $335m. Average price of silver over this time was $11.5 and thus SLW made $7.3 per ounce for 4 years during the agreement.
SLW fundamentals are more than what you can ask for. The $2.5 billion company has zero debt, almost 600 m ounces of silver reserves, a 63% operating profit and a secure cash flow from mines in seven countries.
A rise in silver price will give SLW more juice in operating profit and income. Today silver sells for more than $17 per ounce. A fair price of SLW should be around $16.00. The stock will fluctuates with silver prices. So as long as you believe silver price will rise, this is a good stock.
Again, stay hedged and manage it accordingly with a dynamic collar. It could drop drastically if silver price collapses.
Most of the stocks move directly with the metal. So you need only to find a few fundamental sound companies and trade accordingly.
But my favourite PM stock is Silver Wheaton ( SLW).
Silver is a lot more volatile that gold. If gold goes up, silver will outperform gold and vice versa.
Lets begin by stating the reason why I like silver more than gold. Based on historical ratio with price of gold >$1000, silver price was around $62. Today, silver is trading around $17 or about 60 times gold to silver ratio. This ratio will return to around 20 if there is a monetary crisis. In early 1970 when Nixon abandoned the gold standard and during the world war one, gold to silver ratio dropped to 17. As the dollar falls eventually, silver will return to around this ratio.
I use SLW as a proxy to trade silver. For juniors, I hold some stocks on SQI ( or Silver Quest ) traded on Canadian Venture exchange.
Silver Wheaton has a great business model. I bought tons of SLW at the peak of the credit crisis under $3 and today it is trading around $15. This is one stock that I hold long term. I use my “dynamic collar” strategy to manage the trades.
SLW is the largest silver streamer in the world. It is essentially the purchase of silver by product from base-metal miners who do not want the hassle of smelting and dealing with the silver from their mines. SLW has 12 long term agreements with companies like Gold Corp, Glencore Mining, Lundin mining etc which will produce 17 to 19 million ounces of silver equivalent ( the company gets some gold too ) in 2010. It is a win-win agreement. The miners get guaranteed income and SLW gets guaranteed supply of silver.
Some of the agreements are producing big profits. For example, SLW had an agreement with Luismin mine in Oct 2004 to get silver at $4.2 per ounce for 25 years. In the next few years, Luismin mine had produced 29.3 m of silver with a gross sales of $335m. Average price of silver over this time was $11.5 and thus SLW made $7.3 per ounce for 4 years during the agreement.
SLW fundamentals are more than what you can ask for. The $2.5 billion company has zero debt, almost 600 m ounces of silver reserves, a 63% operating profit and a secure cash flow from mines in seven countries.
A rise in silver price will give SLW more juice in operating profit and income. Today silver sells for more than $17 per ounce. A fair price of SLW should be around $16.00. The stock will fluctuates with silver prices. So as long as you believe silver price will rise, this is a good stock.
Again, stay hedged and manage it accordingly with a dynamic collar. It could drop drastically if silver price collapses.
WMT – A double diagonal - March 22nd
I did a double diagonal on Wal-Mart on Monday, 2010-03-22
BTO 2012 Jan 35 Call = 21
BTO 2012 Jan 70 Put = 16.35
Total = 37.35
Extrinsic value = 37.35 – (70-35) = 2.35
STO May 57.5 SC = .67
STO April 55 SC = .58
Total = 1.25
PE: Continue to sell short options until > 20% annual ROI. Roll up the shorts if ITM.
I have 22 months to sell short options to make money.
If WMT suddenly gaps up or down, the volatility will allow me to exit on my Jan 25 C and Jan 70 put as this is a long term strangle.
Note that within the first 2 months, I am already able to pay back more than 50% of my extrinsic. I expect to have a risk free trade by third or 4th month.
Thereafter, my target is to have about $0.9 per month. Assuming that I broke even on the 4th month, I should make 0.9 x 14 = 12.6 by the end of this trade or 22 % annual ROI.
If I can exceed 20% on my annual ROI at anytime, I will get out of this trade and search for a new one.
This trade is almost risk free. It takes a little bit of trade management but able to get 15-20% returns of your capital comfortably.
BTO 2012 Jan 35 Call = 21
BTO 2012 Jan 70 Put = 16.35
Total = 37.35
Extrinsic value = 37.35 – (70-35) = 2.35
STO May 57.5 SC = .67
STO April 55 SC = .58
Total = 1.25
PE: Continue to sell short options until > 20% annual ROI. Roll up the shorts if ITM.
I have 22 months to sell short options to make money.
If WMT suddenly gaps up or down, the volatility will allow me to exit on my Jan 25 C and Jan 70 put as this is a long term strangle.
Note that within the first 2 months, I am already able to pay back more than 50% of my extrinsic. I expect to have a risk free trade by third or 4th month.
Thereafter, my target is to have about $0.9 per month. Assuming that I broke even on the 4th month, I should make 0.9 x 14 = 12.6 by the end of this trade or 22 % annual ROI.
If I can exceed 20% on my annual ROI at anytime, I will get out of this trade and search for a new one.
This trade is almost risk free. It takes a little bit of trade management but able to get 15-20% returns of your capital comfortably.
Assessment of market directions for 2010
The market has hit its high for the last 12 months. S&P is up 70% from its March lows. The Russell 2000 index is up >100%.
There are conflicting outlook on its direction going forward.
Some believes that it will go down and have a double dip recession. The bullish camp believes the market will continue to go up.
Both camps have their sound and logical arguments. The bearish camp points to the foreclosures continue to hit market at record pace, high deficits of US$1.4 trillion this year which is > 10% of GDP, unemployment > 10%, potential bankruptcy of many big states like California, New York, etc, bleak European situation with the pending bailout of Greece and possibly Portugal, Italy, Ireland and Spain. 25% of US homeowners owe more on their loans than their homes are worth. Fund managers like Jim Chanos believes that China is in a bubble 1000 times worst than Dubai. Many Elliot waves practitioners have been predicting the next wave down since beginning of Q4 2009.
The bullish camp argues that the largest 500 companies ( excluding financial companies ) hold almost $1.2 Trillion in cash or > 10% of assets – the largest since 1960s. These cash can be used for increased dividends or acquiring weaker competitors if the market pulls back. Interest rates are record low. Companies can borrow at next to nothing and invest in cheap assets. The government still have 2/3 of its $787 billion stimulus money to spend over the next 18 months. The employed are working hard than ever. People are scared of getting laid off. So they work more hours for no additional pay. These have resulted in higher output, fixed costs and increased productivity. Inventory levels are low. Since the overbuilding of inventory in 2007 and 2008, inventory levels fell by 70% for some companies.
Now that is what I think. Short term the market WILL pull back. As of Tuesday, the market was higher 27 out of the last 30 days. The probability is that market will resume its growth for another 2-3 quarters short of another worldwide crisis that could trigger another avalanche or market hurricane. You only need a small tipping even to trigger a big crisis. It could be another big corporate or sovereign debt default, war broke out in Iran and Israel, the China bubble bursts etc.
The critical thing is how you react to the crisis. I react to the crisis using the strategies outlined in my post on “Dynamics of managing a collar trade”. Because of the uncertainties in the market, I keep my portfolio hedged and protected.
My fundamentals are clear. The huge printing of money will create a moving away from paper currency. So I will bet on US$ continue to decline, strengthening of CD$ and AUS$, rise in gold price and commodities and rise in interest rates. We may see commodities price going down if China bubble bursts in the short term. We may see a deflation cycle before inflation. We may see a sudden fear of the commercial housing and residential Real Estate because of mortgage reset
My option strategies will allow me to thread through these periods of volatility, greed and fear. It will allow time for my fundamental to work. I will continue to trade collars on oil, gold, commodity stocks, good fundamentals tech companies that has a worldwide market and TBT. All these stocks will move up eventually. I have also a list of stocks of companies with high debt leverages, poor fundamental business models and low cash generation that I trade with reversed collars.
With the help of the bullish market, I have achieved > 70% ROI for 2009. Sticking with these strategies, I believe I will still hit my target of 30% ROI for 2010.
There are conflicting outlook on its direction going forward.
Some believes that it will go down and have a double dip recession. The bullish camp believes the market will continue to go up.
Both camps have their sound and logical arguments. The bearish camp points to the foreclosures continue to hit market at record pace, high deficits of US$1.4 trillion this year which is > 10% of GDP, unemployment > 10%, potential bankruptcy of many big states like California, New York, etc, bleak European situation with the pending bailout of Greece and possibly Portugal, Italy, Ireland and Spain. 25% of US homeowners owe more on their loans than their homes are worth. Fund managers like Jim Chanos believes that China is in a bubble 1000 times worst than Dubai. Many Elliot waves practitioners have been predicting the next wave down since beginning of Q4 2009.
The bullish camp argues that the largest 500 companies ( excluding financial companies ) hold almost $1.2 Trillion in cash or > 10% of assets – the largest since 1960s. These cash can be used for increased dividends or acquiring weaker competitors if the market pulls back. Interest rates are record low. Companies can borrow at next to nothing and invest in cheap assets. The government still have 2/3 of its $787 billion stimulus money to spend over the next 18 months. The employed are working hard than ever. People are scared of getting laid off. So they work more hours for no additional pay. These have resulted in higher output, fixed costs and increased productivity. Inventory levels are low. Since the overbuilding of inventory in 2007 and 2008, inventory levels fell by 70% for some companies.
Now that is what I think. Short term the market WILL pull back. As of Tuesday, the market was higher 27 out of the last 30 days. The probability is that market will resume its growth for another 2-3 quarters short of another worldwide crisis that could trigger another avalanche or market hurricane. You only need a small tipping even to trigger a big crisis. It could be another big corporate or sovereign debt default, war broke out in Iran and Israel, the China bubble bursts etc.
The critical thing is how you react to the crisis. I react to the crisis using the strategies outlined in my post on “Dynamics of managing a collar trade”. Because of the uncertainties in the market, I keep my portfolio hedged and protected.
My fundamentals are clear. The huge printing of money will create a moving away from paper currency. So I will bet on US$ continue to decline, strengthening of CD$ and AUS$, rise in gold price and commodities and rise in interest rates. We may see commodities price going down if China bubble bursts in the short term. We may see a deflation cycle before inflation. We may see a sudden fear of the commercial housing and residential Real Estate because of mortgage reset
My option strategies will allow me to thread through these periods of volatility, greed and fear. It will allow time for my fundamental to work. I will continue to trade collars on oil, gold, commodity stocks, good fundamentals tech companies that has a worldwide market and TBT. All these stocks will move up eventually. I have also a list of stocks of companies with high debt leverages, poor fundamental business models and low cash generation that I trade with reversed collars.
With the help of the bullish market, I have achieved > 70% ROI for 2009. Sticking with these strategies, I believe I will still hit my target of 30% ROI for 2010.
Dynamics of managing a collar trade
It has been some time since I put up my last post. Blame it on my Hawaii trip with my family and the winter and para Olympics held in Vancouver!
Last 2 months I have gathered a number of ideas and a few valuable lessons.
The market broke down in end Jan and threatened to break down further in the beginning of February. Now it has rebounded to a new high.
Such volatility is a test of the robustness of my trading system.
I have found out that I did very well with calendars during the last quarter of 2009. I made a lot of money only to lose >50% of my gains during the break down in end Jan to mid Feb. I do not have the emotional fortitude or the technical skills ( understanding of the effects of volatility and gamma ) to handle such trades consistently. There are lessons I need to learn.
However, I have found that my collar trades did well. It withstood the volatility and end up positive. 90% of my portfolio are collar trades and it held up well.
I manage my collar trades dynamically.
The keys factors to success of this strategy are:
- It allows time for the trade to latch with the fundamentals of the stock
- It effectively tames the volatility of the stock and the market removing emotions of fear and greed.
Normally, I start a trade with the stock or a covered call if I am bullish. Remember, a collar is ultimately a BULLISH trade. Due diligence must be completed on the stock and I am happy with the bullish fundamentals. Technical signals also confirm the bullish entry.
If I start with a stock, I will add a SC pretty soon if the stock does not move in the direction I accept that there is an increased probability that I will be wrong.
Once the stock moves below my cost basis ( stock price – SC credit ), I will add a put for protection. If the stock is deemed to be very bearish, I will add the put slightly ITM and out in time ( up to 6 months or more ). The collar is extremely flexible and there are numerous way to twit it to suit the market conditions.
Once the stock shows signs of stagnancy, I will add a short call or short put depending whether it is stagnating at support or resistance. Effectively, I am paying for the extrinsic value of my long puts with my short options.
Interestingly, I am ending up with a “synthetic double diagonal”. I am not sure there is such a term defined in the theory of options but it contains:
- Long stock ( act as a call )
- Long put out in time
- Short term SC
- Short term SP.
Effectively, it is a covered call and a put calendar.
From here I adjust the trade dynamically.
On bullish signal, roll up the SC. If very bullish, sell the put and let the trade run. Be ready to add back the put if the direction is wrong.
Do not forget also to roll the SC down if the stock becomes very bearish . You need to continue to gain credits from the short calls.
There are times when the trend is very bullish and I will have to allow the SC to be assigned. Most trades with OTM covered call will allow me to exit with my target of more than >30% annual ROI.
In a covered call compared to a calendar, there is minimum gamma effect as you have a stock and not a long call. So you do not need to worry about the SC going ITM. You are assured of a profit even if the SC goes ITM in a covered call. In a calendar, if the SC goes deep ITM, your trade is in trouble.
Often the bullish trend fails, the price falls back to below your SC strike price. You get to keep the credit upon SC expiration and allow further SCs to be executed. I do not need to be very technically competent to manage the volatility and gamma effect but a basic understanding of the Greeks certainly helps.
I must also say that I do not get all my adjustments correct. At times the market surprises me. However, overall the results are positive. Even if the stock price drops 20%, my options trades often more than compensate the drop in value. If the stock goes back up in alignment with my fundamental analysis, it will be pure profits for me again. It allows time for the stock to work in my direction. If the drop is >20%, I will normally add more shares with the profit from my puts if I believe the stock price has bottomed.
I know the above explanation is still very vague and it is difficult to understand exactly how the above strategies are executed without examples. There are many variables but the principles behind the application are the same. Perhaps I will find time later to add some examples to this blog for illustration.
Part of the success depends on the technical system used to activate bullish and bearish signals. No technical system is 100% accurate. But it can give good guidance on your directions and if you are wrong. Your mistakes are mitigated by the option strategies.
Note that the reversed is true for bearish bias stock. Similar principles are applied. You can use a reversed collar, which comprises:
- short a stock
- Buy a protective call
- Sell a put to reduce cost
- If stagnant and faces resistance, sell a call
There are some disadvantages with this strategy. You have to pay the dividend. So I will hesitate to use this strategy on high dividend stocks unless I am very bearish. Secondly, you may have to pay interest for stocks that you borrowed from the broker.
But I have made good money during bearish trends during the Asia crisis in 1997, dot com bust in 2001 and the credit crisis in 2008. These short strategies had allowed me to make some good money on a bearish trend. Instead of merely protecting my position in a bearish trend, I should ride on it to make some money too.
Last 2 months I have gathered a number of ideas and a few valuable lessons.
The market broke down in end Jan and threatened to break down further in the beginning of February. Now it has rebounded to a new high.
Such volatility is a test of the robustness of my trading system.
I have found out that I did very well with calendars during the last quarter of 2009. I made a lot of money only to lose >50% of my gains during the break down in end Jan to mid Feb. I do not have the emotional fortitude or the technical skills ( understanding of the effects of volatility and gamma ) to handle such trades consistently. There are lessons I need to learn.
However, I have found that my collar trades did well. It withstood the volatility and end up positive. 90% of my portfolio are collar trades and it held up well.
I manage my collar trades dynamically.
The keys factors to success of this strategy are:
- It allows time for the trade to latch with the fundamentals of the stock
- It effectively tames the volatility of the stock and the market removing emotions of fear and greed.
Normally, I start a trade with the stock or a covered call if I am bullish. Remember, a collar is ultimately a BULLISH trade. Due diligence must be completed on the stock and I am happy with the bullish fundamentals. Technical signals also confirm the bullish entry.
If I start with a stock, I will add a SC pretty soon if the stock does not move in the direction I accept that there is an increased probability that I will be wrong.
Once the stock moves below my cost basis ( stock price – SC credit ), I will add a put for protection. If the stock is deemed to be very bearish, I will add the put slightly ITM and out in time ( up to 6 months or more ). The collar is extremely flexible and there are numerous way to twit it to suit the market conditions.
Once the stock shows signs of stagnancy, I will add a short call or short put depending whether it is stagnating at support or resistance. Effectively, I am paying for the extrinsic value of my long puts with my short options.
Interestingly, I am ending up with a “synthetic double diagonal”. I am not sure there is such a term defined in the theory of options but it contains:
- Long stock ( act as a call )
- Long put out in time
- Short term SC
- Short term SP.
Effectively, it is a covered call and a put calendar.
From here I adjust the trade dynamically.
On bullish signal, roll up the SC. If very bullish, sell the put and let the trade run. Be ready to add back the put if the direction is wrong.
Do not forget also to roll the SC down if the stock becomes very bearish . You need to continue to gain credits from the short calls.
There are times when the trend is very bullish and I will have to allow the SC to be assigned. Most trades with OTM covered call will allow me to exit with my target of more than >30% annual ROI.
In a covered call compared to a calendar, there is minimum gamma effect as you have a stock and not a long call. So you do not need to worry about the SC going ITM. You are assured of a profit even if the SC goes ITM in a covered call. In a calendar, if the SC goes deep ITM, your trade is in trouble.
Often the bullish trend fails, the price falls back to below your SC strike price. You get to keep the credit upon SC expiration and allow further SCs to be executed. I do not need to be very technically competent to manage the volatility and gamma effect but a basic understanding of the Greeks certainly helps.
I must also say that I do not get all my adjustments correct. At times the market surprises me. However, overall the results are positive. Even if the stock price drops 20%, my options trades often more than compensate the drop in value. If the stock goes back up in alignment with my fundamental analysis, it will be pure profits for me again. It allows time for the stock to work in my direction. If the drop is >20%, I will normally add more shares with the profit from my puts if I believe the stock price has bottomed.
I know the above explanation is still very vague and it is difficult to understand exactly how the above strategies are executed without examples. There are many variables but the principles behind the application are the same. Perhaps I will find time later to add some examples to this blog for illustration.
Part of the success depends on the technical system used to activate bullish and bearish signals. No technical system is 100% accurate. But it can give good guidance on your directions and if you are wrong. Your mistakes are mitigated by the option strategies.
Note that the reversed is true for bearish bias stock. Similar principles are applied. You can use a reversed collar, which comprises:
- short a stock
- Buy a protective call
- Sell a put to reduce cost
- If stagnant and faces resistance, sell a call
There are some disadvantages with this strategy. You have to pay the dividend. So I will hesitate to use this strategy on high dividend stocks unless I am very bearish. Secondly, you may have to pay interest for stocks that you borrowed from the broker.
But I have made good money during bearish trends during the Asia crisis in 1997, dot com bust in 2001 and the credit crisis in 2008. These short strategies had allowed me to make some good money on a bearish trend. Instead of merely protecting my position in a bearish trend, I should ride on it to make some money too.
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