Options Trading - Anyone doing it ?

[anley]

Steve, don't think the 24 hour FTSE will save you because how are you going to know at 3am that the world has just ended?

Also even if you were awake watching the screen by the time the event has happened and you're trying to deal the the spread betting firm has already moved his price.

If one puts a stop in then this will get horrendous slippage (personally I think using a stop on FTSE after normal hours is a crazy thing to do) and if one uses a guaranteed stop then one has fallen hook, line and sinker for the spread betting firms marketing tricks.

Selling options short is an easy way to make money until it doesn't work and then one is likely to have real problems on their hands. For example right now if you sold strangles short AND the market made a major move down you'd be hit by the double whammy of an increase in premium due to the move of the market AND an increase in premiums due to volatility likely exploding. The likely event would be many months of profits wiped out in a day or two.

Making money in options over time (and keeping it) is in my opinion a lot harder that it looks, and remember in London they're also very expensive to trade. Good luck anyway.

 

[anley]

Qaza makes an excellent point, basically when you try and get too clever the market will make you wish you kept it simple.

I could see what Qaza says happening easily both up and down.

Steve, don't use the overnight markets and don't think that they're there to help you offset risk.

 

[qaza]

anley,

its not a case of "getting too clever". Selling premium is a recognised and widely practised strategy. I am only trying to point out some of the dangers to Steve, I am certainly not suggesting that he should'nt do it.

 

[anley]

qaza

I was referring to the fact of covering your risk in the overnight and then the market collapsing on you as being too clever. Sorry for the confusion.

 

[RogerM]

I agree with Anley and qaza - naked positions, especially "puts", are dangerous even with a stop, for all the reasons explained above. I am a little more tolerant of naked calls on an index (NOT a share - ever heard of a takeover bid?) because indices tend not to reach for the sky forever. You can normally roll out into the next month 150 FTSE points higher up for breakeven and eventually you'll get a pullback. Also there are very few reasons to expect a market to spike up 500 points and keep going, but I can think of any number of reasons why we could wake up one morning to find that the market is 500 points down and falling. Remember 19th Oct 1987? The FTSE100 fell over 12% on 2 consecutive days. That's equivalent to -540 points 2 days running on the FTSE now. Or £10,800 per contract!

Blairlogie and Steve - Whilst I can't recommend a specific strategy, a straddle works well if IV is low and you're expecting a big move in either direction. A straddle is the simultaneous purchase of a call and a put at the same strike. If you get the big move, one of the options will expire worthless, so you need a big move if it is to pay. Given that time decay accelerates over time, I would go out at least 4 months, and take the position off if you haven't got the anticipated move after (say) about 6 weeks. You would still have a loss if the price is anywhere near the strike, so why not cover this by simultaneously selling an iron butterfly in the near month (Feb) centred on the same strike to help pay for it? (iron butterfly = sell 1 x 100 put, sell 1 x 100 call, buy 1 x 105 call, buy 1 x 95 put). Time decay of this position will be faster than the far month straddle so it works in you favour.

A development of this theme is the "Flying Wrangle". This is covered in great depth here :-

http://www.elitetrader.com/vb/showthread.php?s=&threadid=24449&perpage=6&pagenumber=1

and here :-

http://www.elitetrader.com/vb/showthread.php?s=&threadid=25436

This position provides a profit if prices stay roughly the same , small loss in the event of a modest move in either direction which consolidates at that level, and unlimited profit potential in the event of a big move either way. Like most threads on elitetrader you need to wade through the cr@p to find the meat, but I think in this case it's worth it. Enjoy!

Many of these more complex positions have to be placed using an on-line brokerage like IB or Options Express because the commissions in the UK are just excessive.

 

[stevespray]

Hi Guys - Good Afternoon, not been around much this morning as I've been at customers. I can see some interesting points have been raised.

Anley - I do understand what you are saying about the potential for getting whipped after you decide to hedge using futures. It is obviously very possible for this to happen but one has to ask "how likely are the type of moves you suggest ?". Basically what I am suggesting in my somewhat simple strategy is that for writing a Call and a Put you, in effect, get paid 80 points up front for taking the bet on. You therefore have 80 points to spend defending your position should the need arise inside that 4 week peiod. It equates to around 20 odd sessions. Obviously the dream outcome is that you never need to defend your position and both Options expire at zero and therefore you pocket the maximum. The probabilities suggest that some months will be like this. The worst case is as you have outlined. ie you cover a range breakout with a future only for the market to move back into the range at which point your nett position is effectively locked with the added risk of loss if the market goes back into the range between the strikes of the Put and the Call. Until you actually trade the strategy its quite hard to get a feel as to how often the good, the bad and the downright ugly turn up.

As for the various questions on the hedges. My suggestion was to simply leave a couple of stops on CMC to cover worst case. In the case of FTSE I would suggest around 150 points above and below current market. These stops aren’t to trigger the futures positions that you’ll be using to ‘manage’ the position should the market breakout, they are there purely as an emergency incase something happens while you are away from the screens.
If something did happen to cause the FTSE to drop 200+ points in one session it is unlikely that the declines would be confined to one session. As Roger has pointed out, the 87 decline of 12% took two sessions. Should a repeat of that occasion occur our hedge would be in place nice and early. I mention CMC as a possible simply because of the shear number of hours they offer a market in FTSE. The more hours they are open then the less chance of it gapping through our stop. I also feel this type of stop placed with a spreadbetter like CMC would give you an advantage over the market especially if the stakes were larger – You’d get your position quicker and at a better price than might otherwise prevail (As Livermore points out in his Bucket Shop operations). This would hopefully stop you waking up one morning to find the market 500 points against you on your Put !

Steve.

 

[anley]

Steve, the market has a habit (espeically with option writers) of proving that well thought out theory breaks down in real-time trading. If simulations suggest that 'an event' will only happen once a year then chances are it will happen 3 times in the first 6 months of trading!

Try your ideas out with a little bit of money though and see how you get on. Nobody is trying to pick holes in what you're saying but with options very funny things can happen and it often only takes 1 event to smash months of hard won profits.

 

[BBB]

I forgot options were such fun! I really should get back into them.

 

[qaza]

Steve

Any reason for not responding to my post at 9.07 am ?

 

[stevespray]

Qaza - Sorry for not replying sooner. To a large extent I answered your question in my reply at 2.22pm yesterday.
Any further questions then fire away.

Steve.

 

[ubi]

I am a little more tolerant of naked calls on an index (NOT a share - ever heard of a takeover bid?) because indices tend not to reach for the sky forever.

Totally agree with you there, guess that's why the vol curve on single stocks is usually more curved on the upside than in Indices.

 

[osho67]

My strategy is very simple and maybe not very good. I would like to generate regular income month by month in preparation to leave my job.

I buy 100 shares mostly in Dow companies and write a covered call either at the monet or slightly in the money which gives me best percentage return for capital employed. I will write the option in the near month(march now). At the end od march expiry I will write the options again for April expiry or buy new shares if some position has been exercised. I have been doing this for only last three months and on average I have been able to generate about 20% per annum return. This is possible because with IB charges are so low.

Please tell me if I can employ any better strategy to generate a monthly income. -In options or anywhere else. I would much appreciate comments and critisims.

Thanks so much

 

[anley]

osho

Most people in this game would chop their left arm off for a plan to take a steady income out of the market.

Your strategy that's been working well over the last few months is simply because the market has been standing still to rising. But what happens when/if things start to look bad again and the indexes fall 10-20% over say a year. In that situation it will most probably take you 1-2 years just to get back to where you were before, assuming a rising market. In that situation you might noit earn anything for 12-24 months.

To me trading and investing is the opposite to a regular job. In a regular job we all know what our pay will be at the end of the month. But trading/investing for even the best people is about having excellent runs and then maybe flat runs, perhaps lasting for many months.

So the trader/investor who makes £120k a year doesn't do it by £10k a month (although that's what he wants). Maybe he has a strong first few months making £50k, then breakeven for 3 months, then a losing month or so, and finally a very profitable end to the year, so making the £120k.

Moral of the story: 95% of people in the markets should expect the rough with the smooth and realise that a steady income is just not possible unless investing in bonds.

 

[osho67]

Thanks Anley for your comments. much appreciated. At the moment I donot need regular income as I have a job. During this time I will try to build my savings and reinvest my premium income as well. I will try to build a safety net as well. I may need some income a year , may not need monthly income- that is just the ideal situation.