OPTIONS (PUTS)- great info (easy to understand) from THE VET and others

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terri5125
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OPTIONS (PUTS)- great info (easy to understand) from THE VET and others

From THE VET-- If you believe that SVM is way undervalued here (as I do) then take the shorts on...

Sell as many of the September $7 strike  puts for 45 cents as you are prepared to buy SVM stock.

If the price is below $7 in 16 days then you have bought SVM for $6.55 a share a huge discount from the present price of $8.40..  If it doesn't drop below $7 then you have .45 share pure profit for zero outlay ($45 a contract less commissions)  I'm loaded with them but the shorts are still giving the money away!

From THE VET- I sold into all the 50 cents offers of the SVM Sep 7 strikes and picked up a total of 88 contracts.  I doubt that I will be assigned but even if I do I will have 8,800 SVM at $6.50 a share.   Most likely I will just end up with the consolation prize of $4,400 cash (which of course I have already collected into my accounts). 

If anyone is prepared to wait a little longer and take a little more risk the October 7 strikes are in demand at $1.15...   51 days to wait and you either make $1.15 a share with no outlay or you buy SVM on October 22 for $5.85 a share.   I don't know if something bad is going to happen to SVM before then that would cause it to crash below that, but the charts don't seem to show anything like that as likely.

However  rule No. 1 is ONLY SELL PUTS on stocks that you are prepared to buy! 

From TOM L- I am prepared to close my long calls that have any value left in Sept. by early next week (Tues. close at the latest) and taking my lumps and moving on.  Play with a Black-Scholes calculator long enough and you can see how time works against you.  It's not rocket science.

I've linked it before, but it's worth linking again.  This will solve for you the value of your option from a number of different perspectives... the most important one is time.

http://www.optionistics.com/f/option_calculator

I didn't buy my first call until I had found one of these. H/T to my good friend DX who just finished his MBA and explained to me how important that equation is to the entire derivatives market.

Ta,

From THE VET- The high volatility in SVM is one of the major reasons the option premiums are so high, and it also means that the premiums will remain high right up until very close to expiry, when they will collapse very rapidly for the current month. 

If you are short puts or calls, then hold them right to the bitter end and don't try to close them out early even as they seem to be not responding as you expect.  For sellers of options time is on your side.

If you are long calls, be prepared to close out your position well before expiry as those positions will rapidly drop to the intrinsic value as expiry approaches. 

I both case simply subtract the stock price from the strike price and compare that figure (which is the time + volatility premium) with the bid or ask respectively (depending on whether you are buying or selling to close). 

From THE VET in answer to DarkPurpleHaze question-  Am I wrong that I would never have to worry about covering the shares in my puts if I held them out a bit further in time and kept rebalancing my positions out in time?

Does holding the puts out in time go you peace of mind and not really having to keep all of that capital on standby just in case they were called in? What"s the likelihood of going 3 months out and getting your shares called in? Does it just depend on what the share price is and the volatility at the time?

Properly managed short puts rarely get "put" unless you want to be assigned the stock.

Selling puts is a bullish strategy.  While you are short the put you are actually bullish and make most of your money in bull markets.

Always monitor the time value of every open short put position to calculate the odds of being assigned the stock early.  If it goes to zero or is negative then look to roll the position (or close it).  I have some short positions which I have rolled forward for years.  They are in the money and in theory could be assigned to me at any time, but it doesn't happen because they have positive time value.   This is simply because the buyer of that position on the other side of the trade can close the option position in the market for a better profit than he can make by assigning me the stock.  Simple really!

Rolling forward to future months generates more income as it can almost always be done for a credit.   I always do this as a two legged combo order either a straight roll to the next month at the same strike, or a diagonal to a different strike price (may be higher or lower depending on my view of the stock and the market).

I tend to hold a lot of small positions in as many different stocks as I can manage comfortably.  I have 130 options positions open at the present time, mostly short puts but some long calls which I get for free by using synthetic positions explained earlier. 

Selling puts makes good money, but you don't get multibaggers.  You can run a portfolio completely with naked puts but I prefer to hold some solid marginable dividend paying stocks as well to provide support.   Always keep track of your exposure to ensure you have an escape strategy in a really bad market crash.

and don't forget rule No 1.  Only sell puts on stocks you would be happy to buy at the strike (less premium) price.

From ERIC-  Here's a little something about the strategy that I think the The Vet is talking about.  I've been kicking this one around in my head as well.  I've sold puts, and I've bought calls, but haven't as yet done them as a pair for a particular "strategy".  I think the strategy is sound.

http://www.theoptionsguide.com/synthetic-long-stock-split-strikes.aspx

From THE VET-  So, if I understand this right. I should sell 5 puts at $0.50 and be prepared on 9/16 to have $3500 available to buy 500 sh @ $7.00/each. These are realistic numbers given my acct. balance and potential allocation. This only happens if the stock closes below $7.00 on 9/16.

  • You have that right.   If you have a little more time up your sleeve, the Oct $6.00 strikes are still bid at .80 cents and need an extra $1 drop before you will be assigned.
  • With those, you sell your 5 contracts for .80 (  $400 total credit)  and make sure you have $3,000 available to buy on October 22  should SVM be below $6 at that time.  Your net cost would be $5.20 a share, or alternatively just keep the $400 if SVM expires higher than $6
  • Am I wrong that I would never have to worry about covering the shares in my puts if I held them out a bit further in time and kept rebalancing my positions out in time?
  • Does holding the puts out in time go you peace of mind and not really having to keep all of that capital on standby just in case they were called in? What"s the likelihood of going 3 months out and getting your shares called in? Does it just depend on what the share price is and the volatility at the time?
  • Properly managed short puts rarely get "put" unless you want to be assigned the stock.
  • Selling puts is a bullish strategy.  While you are short the put you are actually bullish and make most of your money in bull markets.
  • Always monitor the time value of every open short put position to calculate the odds of being assigned the stock early.  If it goes to zero or is negative then look to roll the position (or close it).  I have some short positions which I have rolled forward for years.  They are in the money and in theory could be assigned to me at any time, but it doesn't happen because they have positive time value.   This is simply because the buyer of that position on the other side of the trade can close the option position in the market for a better profit than he can make by assigning me the stock.  Simple really!
  • Rolling forward to future months generates more income as it can almost always be done for a credit.   I always do this as a two legged combo order either a straight roll to the next month at the same strike, or a diagonal to a different strike price (may be higher or lower depending on my view of the stock and the market).
  • I tend to hold a lot of small positions in as many different stocks as I can manage comfortably.  I have 130 options positions open at the present time, mostly short puts but some long calls which I get for free by using synthetic positions explained earlier. 
  • Selling puts makes good money, but you don't get multibaggers.  You can run a portfolio completely with naked puts but I prefer to hold some solid marginable dividend paying stocks as well to provide support.   Always keep track of your exposure to ensure you have an escape strategy in a really bad market crash.
  • and don't forget rule No 1.  Only sell puts on stocks you would be happy to buy at the strike (less premium) price

From INBETWEEN IS PAIN- Someone mentioned the old saw that you shouldn't sell puts on a stock unless you're willing to own it.  I'm not sure where this piece of "wisdom" came from, but it really doesn't make sense.  While, yes it should be a company that you would be willing to own, it doesn't make sense to have it put to you if the price drops unfavorably.  Why should you have to buy it?  If you're an option player this just unnecessarily ties up capital and increases transaction costs (slightly).  The better solution, if you still believe in the stock, is to roll over the options to the next or a more distant month. Unless the stock goes to zero, you can almost be certain to at least break even eventually.  The main thing when selling puts is not to over-leverage yourself (i.e., don't sell too many), as I've discovered from painful experience.

From THE VET- the old saw that you shouldn't sell puts on a stock unless you're willing to own it...

It's good advice for new options traders, but the rule is never sell a put on a stock that you are not PREPARED to own...  That doesn't mean you should expect to own the stock or even that you intend to own it; it just means that if you are selling the put in a stock you should do the same DD as you would if you were buying it.

You are correct in that very few put options ever result in assignment and in a properly manged short put portfolio unexpected assignment should be a very rare event.  I have had many thousands of short put positions open for considerable periods (often multi - year leaps) and have been assigned just 3 times.  One of those 3 was for a single contract in a 100 contract positions and one I intended to get assigned as a cheap way to buy into the stock.

From INBETWEEN PAIN-  By the way, something few people realize is that the risk and reward characteristics of selling naked puts is exactly the same as selling covered calls.  You heard that right.  People always think that selling naked puts are risky but it's no more risky than a covered call strategy.  The risk involves being over-leveraged.

From BACKSEATDRIVER-  I can tell you that money management is the key to any trading system. Identifying your initial Risk and share sizing it for the stop is part of it. Ex: $100 risk, .15 cent stop equals a rounded up figure of 700 shares. If the stop is .20 then share size is reduced to 500 shares to stay with same risk amount. I can tell you that good traders know their systems stats. They know their avgs (winners, losers) and how many R's (return on risk)they net on a winner vs a loser. The share sizing above keeps a constant (R)isk of $100. If my losers are -.5 R then I lose $50 on a loser. If I net 2R's on winners then I get $200. If my avg is .500 then my expectancy is: 5 losers x $50= -250 5 winners x $200 = 1000, 1000-250 = $750 is my expectancy every 10 trades. Good traders know these numbers and have tested their system so they can feel confident and execute their plan and not place too much emphasis on any one trade but know on the whole that their system will net the expected results. I can also tell you that the elite traders always start with small positions and build a bigger one as the trade goes their way. They lock in small profits along the trend and look to add on pullbacks while keeping their AVG price below the stop point (long trade). This way if the stop is hit, the remaining profits get locked in.

Most traders fail because they put on too much risk for too little return or they keep adding to losers and get run over by the trend that won't quit. The good traders start small and once they know they caught the trend they start building it up. The key is knowing where current price is, your avg cost, and where your stop is and making those adjustments along the trend. 

I got all of my advice from a former college baseball team mate of mine. I think everyone who trades should try to find a mentor. It makes things so much easier. That is why Turd is a legend already. There a many mentors and people much smarter than I on this site and I continue to learn from them!

From KC-  Don't have time for a long post....I think that one of the least appreciated and understood component of options is the "hidden" expenses.  If you transact a lot, the hidden expenses will kill you.  For example, if you are looking at an options quote that is .15-.25 (the bid is 15 cents and the offer is 25 cents), you can ballpark that the theoretical value of the option is somewhere in the middle.  Let's say 20 cents.  If you use a market order and sell this option at 15 cents, you have sold something for 15 cents that is worth 20 cents.  The "true" value of the option has to decline by 5 cents (25%) just for you to break even.  Add on your commissions, and these numbers will eat you alive.

Right now the SVM sep. 7 put is .40 bid .50 offer, while the december 7 put is 1.6 bid 1.7 offer.  The longer time horizon reduces the "vig" that you pay.  I much prefer to seek out lower bid/ask spreads and ALWAYS use limit orders.  If you are new, it is definitely in your best interest to transact as little as possible.  The Dec SVM is a good opportunity.  A limit order at 1.65 for 3 contracts would give you almost exactly $500 in premium.  Your total risk capital would be $2100 for the 300 shares.  That's a pretty sweet return for 3.5 months.  Worst case scenario is that your cost basis in SVM is about $5.45 per share.  Ciao

From THE VET- When I refer to time value I'm using a simplified approach that options purists will decry.  The traditional option pricing and valuation models involve some complex math, which actually doesn't mean much to traders, but is essential for the market makers to allow them to set prices. 

The intrinsic value is the difference between the present stock price and the strike price.  It can be positive or negative depending whether the option is in or out of the money. If it is exactly at the money (ie. the strike price and the underlying stock price is the same then intrinsic value is zero and the option price is the time value.)

The time value is the difference between the intrinsic value and the option price.  For all out of the money options all of the option price is time value, and negative intrinsic values are ignored.   For in the money options the time value is the option price less the intrinsic value. 

Hope that helps a little...

From THE VET--Always use limit orders for all options trades.  Don't just take the bid or ask especially if the spread is wide.  Try something in the middle and if you don't get filled just walk away.

If you are prepared to hold until expiry then the spread and commissions are not much of an issue but it is if you want to close a position early.

Also if you want to trade options a lot, check out a high volume popular stocks with options at 1 cent steps rather than those denominated in 5 and 10 cent steps.  The difference can be very significant.

From  TOM L--That's what I thought you said earlier, thank you for clarifying it.  So, as a concrete example.  I'm looking at SVM.

Current price = $8.53.

Strike price, for example, = $7.00

Intrinsic Value = $1.53 ($8.53-$7.00)

Option Price For Sept $7 Put = $0.45

So Option Time Value = $1.08 ($1.53-$0.45)

As long as that value is positive hold the naked put.  If it approaches zero, cover and move out in time to avoid being 'assigned' unless that is your plan.

Ta,

Edited by admin on 11/08/2014 - 06:16
Eric Original
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thanks terri

thanks terri for stepping up and organizing this.  It's good stuff, and someone had to do it, and you did!

I lurk.  cool

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Thanks Terri, just got back

Thanks Terri, just got back to the computer

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My AUQ calls

As noted on other threads, I bought my AUQ calls a few hours early and got immediately underwater.  Today I sold some OTM puts on AUQ.  Just enough to get me some cash back to cover that initial loss.  The additional risk that I've taken on is the risk of AUQ being under 11 at expiration in mid December.  Fat Chance.

Here's all the raw detail for those who care:

Monday bought 10 Dec 14 calls at 1.00 for a total of $1,017.49

They almost immediately went underwater on me, currently .55 bid, .65 ask.

Today sold 6 Dec 11 puts at .90.  Put $537.49 in my pocket to ease the pain.

Worst case scenario is that the stock dives, my calls go to crap, and in December I get exercised on my puts at 11.  Net cost would be 11-.90= 10.10/share (not counting commish).  This is my #1 favorite stock so I'm just not too worried about a meltdown.

Good luck everybody, this stuff just makes me nervous!  I'm actually much happier just being long a shitload of miner shares (which I am).  yes

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thanks terri, eric AUQ should do well

I went long AUQ 031712 10 c @ 2.75 yesterday high3.00/low/2.90 today. Your dec 14 will move back up mid sept in mho.

If you feel daring dollar cost with more if they go in the tank, risky but consider trends first. Stink bids during raids have served up some of my biggest winners.

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Thanks Terri

That could be useful...  I am posting another strategy here in general form now.  I'll leave it to you to either add it or link it in some way.  I am happy to do a few of these while people are interested and I will check back time to time to answer questions if necessary.  I may post actual trade opportunities using various strategies as I find them and I would be happy to look at any stocks that others may feel would suit the various strategies.  It may also be useful to follow a few positions placed on these strategies so all can see the process.  Some my win, some may fail, but it's all education, and education costs something I'm afraid.

The Vet..

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Options – synthetic long positions...

For reasonable margin, moderate risk and zero cash outlay it is possible to place matched positions to simulate the ownership of a stock without actually ever buying the stock.

These positions are variously called synthetic longs or risk reversal positions and involve the selling of a put to generate the funds to buy a call on the same underlying stock.  It is bullish strategy and depending on the selected strike prices it can match the gains (and the losses) of a real long stock position.   Because there are some expenses due to the bid ask spreads and commissions the return may be slightly lower than stock ownership but this small drawback is outweighed by the fact that your position can be established without any cash outlay and often with a small credit.

The basic synthetic is a 2 legged order that sells a put and buys a call to the same strike as close to the money as possible.  Depending on the price of the underlying, that may result in a small credit or small debit.  You must have sufficient margin to cover the put but there is no margin involved in the long call leg.   As the underlying goes up the put loses value (so it becomes profitable) and the call gains value (so it is in profit as well).  Generally puts and calls close to the money change in value roughly half of the amount the underlying moves, so half your profit comes from the reduced buy back price of the put and half comes from the increase in the value of the call.  As the underlying continues to move up the put tends to move less and the call increases more rapidly.  In effect the total value of the pair moves in parallel with the underlying.

There are two variations of this strategy.  The first involves selling a lower strike put and buying a higher strike call; both out of the money.  This still creates a bullish position but with a “flat spot” around the initial underlying price.  This position only works for stocks that increase dramatically in price and will generate a small loss if the stock fails to rise.  There is no profit until the underlying exceeds the call strike price. The advantage is that the put is deep in the money and is less likely to be assigned and the lower cost means that margin requirements for the open put are much less.

The second variation is the reverse of the first in that you sell an in the money put and an in the money call for much higher prices but still making sure that the total outlay is zero or in credit. This structure will generate profits immediately if the stock moves up and does not require a large move in the underlying.  Of course it generates the same loss as owning the stock if the stock moves down. The advantage of this strategy is that because the call is deep in the money it does not decay in value as much with time.  Often it is possible to sell the put with significant time value on it and buy a call with much less, or even none.   Deep in the money calls often have little time value and in these cases buy the call as far out in time as possible.  The call and the put are usually at the same expiry, but that is not essential.  If you can find a put with sufficient premium to cover the call, then a shorter expiry is quite good.  You can always roll the put leg forward for a profit, but not the call.

All of these positions must have sufficient time on them to allow a decent movement of the underlying.  If it moves up quickly it is often possible to close out the put early for little cost and allow the “free” call to run as long as it can, always remembering that the time value will erode the closer it gets to expiry.  Once the call gets deep in the money there is little time value so this isn’t a factor and is rarely an issue with the second variation I outlined.

The Vet....          

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Synthetic long position - Variation 2

Here are the details of the position I placed on the 26th August.. (20 contracts)

Bought:  SVM Mar 16 2012 $7 Call for  $2.26

Sold: SVM Mar 16 2012 $9 Put for $2.72

Net Credit:  $0.46

Price now:

Call $3.60   Up $1.34

Put $2.80  Down $0.08

Bottom line. 

$0.46 initial credit in cash and combined present value of the two positions is up $1.26.

Total unrealized profit now :  $1.72 on each pair.

Edit: Estimated margin required (depends on broker) $9,900.

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@The Vet, Thank you sir.

@The Vet,

Thank you sir. Please post all you deem to be worthwhile as we are learning much from your generosity.

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wrong calculation on intrinsic value

the last calculation is incorrect. The current value is $8.53 which means the puts has no intrinsic value, or negative intrinsic value. The puts are currently useless, why would anyone accept $7 for a share it he/she can get $8.53 in the open market.

Therefore, the time value of the put is intrinsic value, in this case, -1.53, plus the time premium, which is what you get when you sell the put, $0.45; so the total time value of the put is 1.53 + 0.45 = $1.98

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info from Tom L

Plug in the current price and the option you are looking at.  It'll solve for what the price should be at the historic volatility of the stock.  SVM is trading well above that.  Set the implied volatility field to  match the last price on the option at the current price and that will tell you how it will trade in the current environment (to a good approximation).  Then change the price and see how it changes and how it decays with time.

I wouldn't consider putting a short on without first running through that exercise.  Learn this tool, it will help you figure out what your potential gains/losses are through time.

I've linked it before, but it's worth linking again.  This will solve for you the value of your option from a number of different perspectives... the most important one is time.

http://www.optionistics.com/f/option_calculator

terri5125
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from silverfoil hat-- may want to play this

from wb again...

and if anyone is wondering, I will swear under any oath you want I am NOT affiliated with that group... just very interested 'follower'.

Here you go...

Re: Update on September deliveries     16 minutes ago    

The following reply to the question of what to do with the miners come from a few traders within our group. It is not the advice from The Leader or the group in general.

These traders believe that that best way to play the miners is to 'go for the kill'. For example, the SVM Dec11 strike 12 is going for 80 cents. The 52 week high on SVM is 16.32. If SVM returns to its 52 week high than these contracts should be worth at least $4.50. Similar option plays can be had for Paas currently $32+ with a 52 week high of 43, and similarly with CDE and other mining stocks. You should wait until the HUI index breaks 610 on strong volume and put on these trades.

The difficulty lies in the fact that even if silver breaks $50, these miners may not be at their 52 week highs. But worry not, once silver breaks $50, The Leader has something special to demonstrate to Blythe and the Morgue. Of that you can be sure. So the advice is to buy OTM options for December or later with a price target of at least 52 week highs on the miners.

 
here's the link I use to search those messages...
 
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Vet et al

Thanks for sharing your discussion on options.

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terri5125
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see learning all the time-
advice from flex727 responding to my option info...
 
I have 2 puts Oct 11 $7
stock price $7.27 (averaging around there)
strike price $7
intrinsic value-  .27
option price for sept $7 put - .90 ask 
option time value-  -.63 so in negative territory
</quote>
 
terri5125,
 
I'm assuming that rather than "having" 2 SVM PUT options, you have SOLD them. The value of a stock option is the sum of "intrinsic" value and "time" value. Intrinsic value for a PUT option is the strike price minus the current stock price. For a CALL option it's the current stock price minus the strike price. The time value is the option price minus the intrinsic value. If the intrinsic value calculation is less than zero, use zero. In your example, the intrinsic value is ZERO and the time value is POSITIVE 90 cents (on second look I see you say you sold Oct PUTS, but are quoting the price for Sept PUTS - is that a typo?).
 
A buyer of a PUT option has the right to sell the stock at the strike price to the seller of the PUT option. You can see that, in your case, the buyer is not interested in selling you shares of SVM at $7 when he can sell them on the open market at a higher price. However, if the price of SVM were to drop to, say, $6.50, he can make a tidy profit by buying shares on the open market at $6.50 and selling them to you at $7.00. Why aren't options exercised immediately as soon as the stock price drops to $6.99? Because the option still has time value (assuming there is still at least a few days until expiration). The owner of the PUT option would lose that time value if he exercised the option prior to expiration day. Other factors do exist such as ex-dividend date (important for CALL options) and if the option is very deep in the money - those can possibly increase the value of exercising, or reduce the time value sufficently that you might need to worry about early exercise.
 
A $7 PUT option does not have any intrinsic value until the underlying stock drops to BELOW $7. You don't really need to worry about your option being exercised until a day or two before expiration (if then) unless the stock is deep in the money (meaning very high intrinsic value).
 
If you want to roll an option you've sold, wait until the time value is nearly gone (less than 5-10 cents), then buy it back (buy to close) and sell the next month out. You can select an appropriate strike price depending on where you think the underlying stock will move to. There is no reason to buy back the option unless the stock price is near or below the strike price on the day of expiration (or perhaps the day before), unless you think the stock is about to move rapidly against your position. You can often make the roll out transaction (buy to close your short puts and sell to open the next month out) all in one transaction if your broker will let you. It's called an option calendar SPREAD trade and you place the order for the difference in price between the two trades. That allows the broker to negotiate a deal that might be a few cents more favorable to you.
 
There are many, many sites on the web that will explain simply and fully what options trading is all about. I strongly recommend perusing them.
 
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Hi Terri

I see that Flex has very carefully and clearly answered your query and provided some useful additional information as well.  As it turns out I had also written a short basic post on selling puts that covered the same material in a slightly different manner.  It doesn't add much to Flex's well rounded explanation but I will post it here anyway as it is even more basic than anything else here. 

While there are many sites which explain options, I found when I was learning that they often started simply but then "went off the deep end" with a lot of math, funny terms and while accurate, were hard to translate into actual trading strategies...

The Vet...

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The SHORT PUT; basics, time value and rolling strategies.

One option contract is for 100 shares and prices are always quoted per share, not per contract.  In other words what you pay is the quoted price by 100.  Commissions are usually charged per contract plus a minimum fee.  The buyer is buying at the ask price the seller is selling at the bid.  The difference between the bid and ask is the spread, and is an important consideration in the costs of trading options.  That difference is in effect the market makers profit.

A put is a contract that gives the buyer the option to sell a stock at a set price (the strike price) to the seller of the put contract. The buyer is said to be long the put.  He may or may not actually own the underlying stock.  His loss is limited to the price he pays for the put option plus commissions.   A buyer can close his position at any time prior to expiry by selling the put in the option market. Most puts expire worthless. Buying a put is a bearish strategy and the buyer only gains if the underlying stock drops in price more than the premium he paid for the contract.

The seller of the put is obligated to buy the stock at the strike price if the buyer assigns (puts) the stock to him.  The seller gets a cash premium paid when he sells the put contract.  The put seller must accept stock put to him and pay the strike price regardless of the market price. The seller is said to be short the put or has sold a “naked put”.  Being short a put has the opposite effect to being short a stock.  It is a bullish, not bearish strategy.

The seller’s loss can be as high as the strike price less the premium already received, in the event that the stock price goes to zero.  In practice, a put sellers risk is exactly the same as that of a regular buyer of any stock that loses value, minus the premium received.  The sellers profit is limited to the premium regardless of how high the stock goes over the term of the contract. A seller can close a position at any time prior to expiry by buying back the put from the option market.

The buyer of a put option is buying insurance against the fall in the value of a stock he holds or a speculator making a short bet that a stock he doesn’t hold will decline in price.  The seller is the insurer and he gets paid a premium for accepting the risk.

If the strike price of the put is higher than the current price of the underlying stock the put is “In The Money” (ITM).

If the strike price of the put is lower than the current price of the underlying stock the put is “Out of The Money” (OTM).

If the strike price is the same or very close to the price of the underlying stock then the put is “At The Money” (ATM).

The rest of this discussion refers to the sellers of puts who have open short put contracts.

Obviously the buyer of the put will not assign stock he owns to the seller if the put is OTM.  He would do better simply selling the stock on the market. Even if it is ATM it is usually cheaper to sell on the open market than it is to assign the stock.

When a put is ITM it may be advantageous for the buyer to “put” the stock to the seller in some cases, but in other cases it is not to his advantage.   This usually depends on the time value remaining on the ITM put.   If there is positive time value (the normal situation) then the buyer of the put gets a better return by selling the stock on the market (at lower than the strike price) and selling his put contract on the option market.  This means he gets extra return from the time value remaining over what he would have received by assigning the stock to the option seller.

While you should never sell a put in a stock you are not prepared to own, being assigned a stock unexpectedly can lock up funds and at times trigger a margin call.  This should never occur in a well managed account as your puts should be “cash covered” by sufficient cash or margin at all times to avoid this possibility.

One management strategy to minimise this risk is to monitor the time value of all ITM puts and take action if they become close to zero or negative.  As explained above puts with positive time values prior to expiry are rarely assigned, because it is better for the buyer of the put to sell the option and the stock on the market for a higher total return.   OTM puts are never at risk of assignment and if the seller was assigned the stock against an OTM put the stock could be sold immediately for a profit.

The intrinsic value of a put is the strike price minus the stock price.  It is the additional  profit a buyer would get by exercising his option to put the stock to the seller, over what he would get by selling it on the open market at the going price. If a put is ATM or OTM the intrinsic value is zero and all of the premium of the put option is time value.  Negative intrinsic values are ignored as they cannot occur in ITM contracts.

The time value for ITM stocks is the option price minus the intrinsic value.  If the time value is close to zero or negative, your put contract is at risk of getting the stock assigned to it as the buyer of the put gains more by assigning the stock to you than selling it and the option in the market.   This situation generally occurs with deep ITM puts often showing significant losses.

If the position is in profit and you are no longer bullish on the stock, the simplest solution is to buy back the put and book the profit.  However it may be that you are still bullish and need more time for the stock to get to your target price.  In such a case rolling the stock to a later expiry month is the best option and it should generates additional premium without much margin increase.  In some stocks you can consider rolling out and down, ie. To a later expiry and a lower strike price.  This reduces your margin requirement and your risk and can still be done for a net credit in many cases.  In stocks with high premiums rolling out when the prices are favourable is a good way to get a continual income steam and avoiding the crap shoot of expiry Fridays for ATM positions.

Rolling out should be done as a two legged single limit order for a net credit.  Buy back the near month and sell a further out month at a higher price.  Even if the option only trades in 5 or 10 cent intervals multi-legged orders can be placed in 1 cent intervals.  Most options trading platforms allow this kind of order, and it avoids the situation that may occur with separate orders where one leg fills and the other doesn’t.

Many platforms will give you a mid-price for the total trade which is calculated as midway between the buy and the ask of each leg.  I find that dropping the price a cent or two below that mid price almost guarantees a fill and if the market is rising even the midpoint price itself usually fills.  It isn’t usually worth fiddling around for odd cents on these rolling orders.  Both legs are moving together so the difference even when the underlying is volatile isn’t usually very much.  Always check the prices of different months and other close strikes to see if rolling further out, or up or down is advantageous.

Rolling out and up can be a good strategy in a strongly trending bull market as it increases your return and risk, of course.  Time premiums are highest when the put is ATM so once a position is well OTM either close it or roll it up. There is little to gain in keeping a deep OTM option for months using margin, just to avoid paying 5 cents to close it out.  Some brokerages provide cheaper commissions for multi-legged orders so there can be a slight advantage of rolling rather than closing one position and opening a new position with two single orders.

The Vet.

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Thanks to Terri and the Vet

Thanks to Terri and the Vet for the thread and to Eric O for the link! Just putting in a placemarker for this thread.

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Vet can I say "I LOVE YOU"

Vet can I say "I LOVE YOU" and it not come off wrong?! cheeky Flex was very thorough but my brain begins to blur with all the tech terms and math. I am sure there are many who completely got it as he went through it but with me it was moresurprise I re-read your explanations several times and I think MAYBE I get it. Below, within your words, are my questions. It was just easier to ask them this way. And THANK YOU THANK YOU for teaching me- you have no idea what it means to me!!

"The difference between the bid and ask is the spread, and is an important consideration in the costs of trading options.  That difference is in effect the market makers profit.

who is the market maker (do you mean the one setting up the trade?)

The seller of the put is obligated to buy the stock at the strike price if the buyer assigns (puts) the stock to him.  The seller gets a cash premium paid when he sells the put contract.  The put seller must accept stock put to him and pay the strike price regardless of the market price. The seller is said to be short the put or has sold a “naked put”.  Being short a put has the opposite effect to being short a stock.  It is a bullish, not bearish strategy.

So I SOLD a naked put of 2 SVM Oct 11 $7 strike price...ok

The seller’s loss can be as high as the strike price less the premium already received, in the event that the stock price goes to zero.  So in other words worst case scenario if stock goes to zero is I essentially lost $1400 based on 200 shares of SVM at $7. minus the premium that I got at the beginning. ok got it.   In practice, a put sellers risk is exactly the same as that of a regular buyer of any stock that loses value, minus the premium received.  The sellers profit is limited to the premium regardless of how high the stock goes over the term of the contract. A seller can close a position at any time prior to expiry by buying back the put from the option market. So if I want to get out of my position in case I want to free up cash or don't trust the situation any more then I can prior to October expiry go onto market and BUY THE SAME PUT that I originally sold ,correct?

The buyer of a put option is buying insurance against the fall in the value of a stock he holds or a speculator making a short bet that a stock he doesn’t hold will decline in price.  The seller is the insurer and he gets paid a premium for accepting the risk. SO lets say in the situation of SVM, if I was unsure what the next several weeks were going to hold for this stock and I wanted to buy some insurance for my put that I sold (so that I don't lose too much on it if the stock keeps dropping), I would BUY a put. Would I BUY the same $7 Oct11 put or would I buy a lower price than the put I sold? and would I still keep it in the Oct11 timeframe?  

If the strike price of the put is higher than the current price of the underlying stock the put is “In The Money” (ITM).

If the strike price of the put is lower than the current price of the underlying stock the put is “Out of The Money” (OTM).    So this is why you said I was OTM even though it was getting real close to my $7 strike price, got it.

If the strike price is the same or very close to the price of the underlying stock then the put is “At The Money” (ATM). But my strike price was $7 and the stock went down to $7.04 at one point today- isn't that what you would consider close and ATM??

While you should never sell a put in a stock you are not prepared to own, being assigned a stock unexpectedly can lock up funds and at times trigger a margin call.  This should never occur in a well managed account as your puts should be “cash covered” by sufficient cash or margin at all times to avoid this possibility.

One management strategy to minimise this risk is to monitor the time value of all ITM puts and take action if they become close to zero or negative.  Is there a program that one can use that will keep track of the time values?   As explained above puts with positive time values prior to expiry are rarely assigned, because it is better for the buyer of the put to sell the option and the stock on the market for a higher total return.   OTM puts are never at risk of assignment and if the seller was assigned the stock against an OTM put the stock could be sold immediately for a profit. I guess maybe this would explain why I was safe even at stock dropping to $7.04 today because I was still slightly negative intrinsic value?

The intrinsic value of a put is the strike price minus the stock price.  It is the additional  profit a buyer would get by exercising his option to put the stock to the seller, over what he would get by selling it on the open market at the going price. If a put is ATM or OTM the intrinsic value is zero and all of the premium of the put option is time value.  Negative intrinsic values are ignored as they cannot occur in ITM contracts.

The time value for ITM stocks is the option price minus the intrinsic value.  If the time value is close to zero or negative, your put contract is at risk of getting the stock assigned to it as the buyer of the put gains more by assigning the stock to you than selling it and the option in the market.   This situation generally occurs with deep ITM puts often showing significant losses.

If the position is in profit and you are no longer bullish on the stock, the simplest solution is to buy back the put and book the profit.  However it may be that you are still bullish and need more time for the stock to get to your target price.  In such a case rolling the stock to a later expiry month is the best option and it should generates additional premium without much margin increase.  In some stocks you can consider rolling out and down, ie. To a later expiry and a lower strike price. Don't normally these later expiry/lower strike prices cost more to sell? Reading it I guess you are saying that the additional premium will offset the increased margin increase. Ok I think I understand.   This reduces your margin requirement and your risk and can still be done for a net credit in many cases.  The net credit coming from the premium you just got paid, correct?   In stocks with high premiums rolling out when the prices are favourable is a good way to get a continual income steam and avoiding the crap shoot of expiry Fridays for ATM positions. I LOVE THIS PART!!

Rolling out should be done as a two legged single limit order for a net credit.  Buy back the near month (if talking about my SVM Oct11 $7 are you saying to buy back November11 or staying with the Oct11??) and sell a further out month at a higher price.    Ok here you lost me....I think we are still talking about IF I am still bullish on this stock but need more time but maybe it is dropping at the interim, correct? then why am I selling a further out month at a higher price when prices are dropping?- this question even as I type I know is going to be considered stupid.     Even if the option only trades in 5 or 10 cent intervals multi-legged orders can be placed in 1 cent intervals.  Most options trading platforms allow this kind of order, and it avoids the situation that may occur with separate orders where one leg fills and the other doesn’tI did see that Optionshouse allows for this.

Many platforms will give you a mid-price for the total trade which is calculated as midway between the buy and the ask of each leg.  I find that dropping the price a cent or two below that mid price (are you talking about where I place the limit?)   almost guarantees a fill and if the market is rising even the midpoint price itself usually fills.  It isn’t usually worth fiddling around for odd cents on these rolling orders.  Both legs are moving together so the difference even when the underlying is volatile isn’t usually very much.  Always check the prices of different months and other close strikes to see if rolling further out, or up or down is advantageous. Is there a calculator or something I can use to do this?

Rolling out and up can be a good strategy in a strongly trending bull market as it increases your return and risk, of course.  Time premiums are highest when the put is ATM so once a position is well OTM (are you talking about a position that I have rolled already where the stock price has moved significantly higher?)  either close it or roll it up. There is little to gain in keeping a deep OTM option for months using margin, just to avoid paying 5 cents to close it out.  Some brokerages provide cheaper commissions for multi-legged orders so there can be a slight advantage of rolling rather than closing one position and opening a new position with two single orders.

The Vet

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Flex- I did not give due
Flex- I did not give due justice to your discourse-- You had some great points which I clearly skimmed and therefore did not follow as I should have. After re-reading your first paragraph and the rest of it again, I now understand why someone would want to go ahead and "PUT" the shares on me and why they would not.
 
A $7 PUT option does not have any intrinsic value until the underlying stock drops to BELOW $7. You don't really need to worry about your option being exercised until a day or two before expiration (if then) unless the stock is deep in the money (meaning very high intrinsic value). So I really don't need to worry about it getting close to $7 until the month of October- even if if hits $7 right now?? Maybe this is what I don't get.
 
If you want to roll an option you've sold, wait until the time value is nearly gone (less than 5-10 cents), then buy it back (buy to close) and sell the next month out.  As I mentioned to The Vet, I thought I was essentially .05-.10 of time value being nearly gone- SVM hit $7.04 at one point today- so was I wrong on this because my put was in October not September or was I wrong because I was not BELOW $7 strike price so it was not worth it for the owner of the stock to put it on me?  You can select an appropriate strike price depending on where you think the underlying stock will move to. There is no reason to buy back the option unless the stock price is near or below the strike price on the day of expiration (or perhaps the day before), unless you think the stock is about to move rapidly against your position. You can often make the roll out transaction (buy to close your short puts and sell to open the next month out) all in one transaction if your broker will let you. It's called an option calendar SPREAD trade and you place the order for the difference in price between the two trades. That allows the broker to negotiate a deal that might be a few cents more favorable to you.
 
There are many, many sites on the web that will explain simply and fully what options trading is all about. I strongly recommend perusing them. THANKS AGAIN FOR THE TIME YOU ARE TAKING TO TEACH!!
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Most excellent thread

Thanks to terri and the Vet and all of you who are contributing such helpful info.  Someone mentioned already and I found to be true that many of the options training sites give very basic info but they don't flesh out all the detail the way ya'll are doing.  Now it is making some sense!!

Will get my coffee in the am and come back to school here!

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trading setup and strategy for daytraders from Jim-M
 
Hat Tip!
15

Howdy!  I got 15 hat tips in Pailin's Trading Corner and was urged to repost my comment here.  It's kinda quiet now, so hopefully how LOOONNNGGGG it is won't upset anybody.  Maybe it will help...

My desktop "window" is Schwab web or Streetsmart.com trading platform.  I have the StreetSmart Pro application, but with my day jail status (job), I can't use it much.  I watch netdania hidden in the corner of 1/2 monitors to see changes.  Android phone with Schwab's app, browser (netdania mobile page) for monitoring and quick trades.  More about setup after I explain my trading philosophy.

You quoted and said:

"'...most of the time, I'm not trading' and I'm just looking for opportunities.. saying that a big mistake of amateur traders is that they feel like they always have to be in a trade.. that's bounced around my head a lot."

I've read that a lot.  I have about three years experience with advanced options trading, so I'm neither newbie nor expert.  Silver is new to me since January 2011.  Before May, I traded ever more often and ever more aggressively to BTFD.  Got lucky in that I was 80% out 1st week of May on vacation with kids at Disneyworld.  Can't trade silver and play like that, even with a good smart phone.  Lost my entire $30k SLV call options that expired in May worthless ($50 calls).  Made me think... and read...

The "frequency you trade" discussions come up a few times a week.  I've watched and noted who tends to to what from that.  Two things I got from it (with my experiences):

1. If you trade a lot, you HAVE to be at the keyboard ready to pounce at any time you have skin in the game.  I watch Atlee for this type of trading.  It may not be really what he's doing, but he's the closest to it that I perceive as successful.  And he's humble as hell, not to mention funny when he chooses to be.

EDIT: I'm only watching Atlee and others for confirmation, not trading signals.  I'm usually already twitching when they post what I thought might be true.  Kind of a confidence boost that I'm not misreading things.

2. You HAVE to remain disciplined and not chase the rally.  You must not fight the medium-term trend, and you need to make money at the buy point.  Pailin is the man for this. 

EDIT: What I mean is he's my hero, as far as patience waiting for his entry point.  I want to mimic his discipline, not his trade.  But like most, I have a tendency to not wait for the trade if it takes longer than I want it to.  Pailin doesn't do that; he waits.

I'd add another caveat I believe is key: you must not trade a lot of different markets and vehicles.  Concentrate and become familiar of the nuances of a particular market (PM's *or* equities, not both) unless you are really good.  Atlee mentioned this before.

I can predict with pretty good accuracy the med- and long-term market direction.  But I suck big-time and picking the turn within even 1-2 months.  That leads to a third thing I got:

3. If you trade leveraged vehicles (options, etc.), buy time.  Buy 2-3X more than you think if you're not day/swing trading.  And buy only with the medium- or long-term trend.  This will keep timing mistakes from eating  your children's inheritance.  And you'll sleep better.  Profits are slower and smaller, but they're still good.

OK, back to my setup.  I created alerts on Schwab for SLV and GLD for 5% or greater drops from prior day close.  They're sent to my pager, email and home and work, and texted to my phone.  I can't miss it.  I then look to see if it's a waterfall... let it come back inside the BB's, then buy double-long ETF's UGL and/or AGQ or call options 3-4 months out ATM.  And I wait.  It's a crude trading strategy, but it fits my situation and is in line with PM's long-term up trend.

To execute trades, I prefer the Schwab trading website (StreetSmart.com) b/c I can memorize trades for each account.  (I have 5 accounts with drastically different amounts of money in them and different trading constraints. Two accounts are education IRA's w/o margin and no options. Two are no-margin roth IRA's with options.  One is a margin account with options and a lot more money in it.) That makes it very quick to execute, which is important for the smaller bounces and capturing profits on lesser moves (which I don't do anymore).  I have sold all of my positions a couple of times, which can require 20-30 trades across all accounts, within 60-90 seconds.  Seriously.  But that's a rare need if you're not day trading.

Once I'm up 10% or so, I start looking to sell into strength with an eye to risk of a new waterfall eroding the profits.  If I get to 45-50% profit on calls, which happens half the time or so, I become more aggressive in the selling into strength.  And I won't under any circumstances let profits fall below 30% (except for the long-term core position - "always in").  The only exception is the gap down overnight, which you can't always anticipate.  But you can feel it might be coming from reading this forum...

I'm buying in 20-25% increments, selling the same way.  For now, never out fully... 25-30% in for the buying season.  Maybe 4-5 trades a week, give or take.  In April, I was trading 4-5 a day trying to grab 20-50 cents. Stressful.  And without the parabolic rise, a losing strategy in my situation.

OK, TMI... sorry.  - Jim M.

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