April 19, 2012

Maximizing Fade Plays With AAPL and Others

Do you feel like you’ve seen this movie before? Trouble in the Europe especially Spain. People in the streets; panic in the market. Is this recent wave of trouble going to last forever? Not likely. Perhaps there is an opportunity to fade this fall. But how should an option trader play the fade to maximize chances of success and maximize option-trading returns? Trade ideas like this are discussed weekly in the MTE newsletter.

The obvious starting point for a trader to fade this fall is to take a positive-delta position. This is fancy options speak for a bullish trade. There are lots of different ways to take a bullish stance given all the various types of option-trading strategies out there. So, the question really is: Which is best?

There are a few major considerations here. First, traders must strive to maximize reward by minimizing risk. In order to do so, option traders must define their expectations. Am I looking for an extreme turn around? A mild retracement? A dead-cat bounce? The more a strategy can be tailored to expectations, the more risk can be controlled and reward can be maximized.

Next traders need to consider implied volatility. This is where option traders can get an edge in their options positions. If implied volatility is high (overpriced), option traders should consider option-selling strategies. If implied volatility is low (underpriced), option traders should consider option-buying strategies.

In the current market scenario we have a situation where if the turmoil in the Europe and Spain subsides, the market should rally somewhat, but it’s not likely to go to the moon. Further, with the levels and implied volatility of individual stocks at inflated levels, it’s easy to find overpriced options. Any clever fader trader should be looking for put credit spreads to sell. Put credit spreads have positive delta and take a short position on implied volatility. Great candidates for this sort of play are AAPL, GOOG, PCLN, et. al. Traders are best off staying away from bank stocks and precious metals that might be adversely affected by European instability.

Edited by John Kmiecik

Senior Options Instructor

Market Taker Mentoring

April 12, 2012

There’s a Time for Everything: Thoughts on AAPL Option Strategies

Do you know how many different types of options strategies there are? A lot: That’s how many! But that’s not really the important question. More importantly: Do you know why there are so many different types of options strategies? Now we have something to discuss and getting a proper options education can help a trader better understand all of those strategies and when and how to use them.

Different options strategies exist because each one serves a unique purpose for a unique market condition. For example, take bullish AAPL traders. Traders who are extremely bullish on AAPL get more bang for their buck buying short-term out-of-the-money calls. Less bullish traders my buy at- or in-the-money calls. Traders bullish just to a point may buy a limited risk/limited reward bull call spread. If implied volatility is high and the trader is bullish just to a point, the trader might sell a bull put spread, and so on.

The differences in options strategies, no matter how apparently subtle, help traders exploit something slightly different each time. Traders should consider all the nuances that affect the profitability (or potential loss) of an option position and, in turn, structure a position that addresses each nuance. Traders need to consider the following criteria:

  • Directional bias
  • Degree of bullishness or bearishness
  • Conviction
  • Time horizon
  • Risk/reward
  • Implied volatility
  • Bid-ask spreads
  • Commissions
  • And more

Carefully selecting options strategies makes all the difference in a trader’s long-term success. Leaving money on the table with winners, or taking losses bigger than necessary can be unfortunate byproducts of selecting inappropriate options strategies. Be sure to spend time optimizing your options strategies over the next few weeks to build the habit.

Edited by John Kmiecik

Senior Options Instructor

Market Taker Mentoring

April 4, 2012

Naked Puts on AAPL Stock

Filed under: Options Education — Tags: , , , , , — Dan Passarelli @ 4:48 pm

The Strategy
If you want to learn to trade here’s a really useful option strategy that all traders should know. Let’s take a look at an option strategy that involves the selling of a put, often referred to as an uncovered put write or a naked put write. A naked put write is when a trader sells a put that is not part of a spread. This strategy is generally considered to be a bullish-to-neutral strategy.

The maximum profit is the premium received for the put. The maximum profit is achieved when the underlying stock is greater than or equal to the strike price of the sold put. Though this allows for a lot of room for error (The stock can be anywhere above the strike at expiration), note that the maximum loss is unlimited and occurs when the price of the underlying stock is less than the strike price of the sold put less the premium received. So, executing this trade in the right situation is essential. To calculate breakeven, subtract the premium received from the sold put’s strike price.

The Example
For our example we will use Apple (AAPL). For this example we will assume the stock is trading around $625 a share. A trader sells the April 615 put, which carries a bid price of $10.00 (rounded to make the math a bit easier). Should AAPL stock be trading above $615 a share at expiration, the April 615 contract will expire worthless and the trader will keep the premium collected. (Do not forget to take any commissions the trader may pay from the equation.) All is good, right? Well, what if the stock falls?

If AAPL falls to, say, $600 at expiration, the put would expire in-the-money and would have to be purchased back to avoid assignment. This could cost the trader a rather hefty sum. Assigning values, our investor collected $10 in premium. The 615 put expired with $15 in intrinsic value. The trader loses the $15, less the $10 premium collected results in a loss of $5, or $500 of actual cash.

Why Sell Naked Puts?
We have already discussed the profit potential of selling naked puts, but there is another reason to do so – owning the stock. Selling naked puts is a good way to purchase at a specific price by choosing a strike near said target price. Should the stock price drop below the put strike and the puts are assigned, the trader buys the stock at the strike price minus the option premium received. Again, should the put not reach the strike price, the premium is pocketed at expiration.

Edited by John Kmiecik

Senior Options Instructor

Market Taker Mentoring