Reading Market Direction 1/27/13

It is hard to argue with the market direction when it rips upwards for several days in a row and despite bad news continues to push ahead. But how does one confirm direction earlier before the big part of the move takes hold? I use another method using the T2100 advance/decline line to confirm direction.

The advance/decline line is calculated by subtracting the number of declining stocks for the day from the number of advancing stocks for the day. It is a cumulative indicator meaning that each day’s calculation is added (or subtracted) from the previous day’s indicator value. I use data from Worden Bros T2100 advance/decline line into Metastock

Link to the Worden site for more details of the indicator and some of the verbiage I wrote below is as follows:

http://www.worden.com/legacy/TeleChartHelp/Content/Indicators/Worden_s_Market_Indicators_T2s.htm

"The advance/decline line represents a great improvement over the common one. It is calculated only from NYSE common stocks (omitting preferred stocks, warrants, etc., which have a markedly distorting influence). It is calculated from the percentage of advancing stocks minus the percentage of declining stocks, rather than using raw numbers. For example, if 55% of the NYSE was up today and 30% were down, the net change today would be 25 (55% - 30%). 

When the advance/decline line rises in lock step with a broad average such as the SP-500, it is an indication that a majority of stocks are in agreement with the strength shown by average. This is called "strong breadth." When the advance/decline line and the broad average decline together, breadth is weak. When the two lines disagree, it is called a divergence, and the advance/decline line is more apt to be correct, although it is by no means a certainty."

Charts of the advance/decline line along with the S&P 500 (SPY) show consistent direction upwards. Now the million dollar question is what is next? No one really knows, but after such a strong move, there is likely to be consolidation before the roller coaster keeps going up

The T2100 advance/decline line shows a long signal on 11/28/12 in the chart below

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SPY confirms the move up.

How to Generate Income Trading Credit Spreads – 1/19/13

Lately my mind has been whirring with the idea of doing more credit spreads to generate income in my portfolio every month. Kind of like a part time job; that requires minimum work. I think the one day session with OptionsANIMAL and Emilu and Jon had something to do with it. I have taken options classes quite a few years back with Optionetics and understand the concepts quite well. I have also traded credit spreads – but not in a planned strategic manner.

The basic idea in credit spreads is to sell a Bear Call spread in the near month, when the market is expected to be neutral or go down or sell a Bull Put spread when we have a positive or neutral bias in the markets. The income generated from the trade, immediately goes into your account. This is certainly not a method for a beginner although the risk many say is limited. Firstly it is a little misleading to say the risk is limited.

How would we like to make $900 in a trade with a 90% chance of winning? Great, right? Now what if I told you the risk of losing is 10% but the loss could be $9,000 that is not much fun. If you had a $10,000 account, the first trade, if it went bad, could almost annihilate the account. Not so good… but years back I was excited with this method and picked up Don Fishback’s method with ODDS. It is a little fuzzy to me now but essentially the method used options on an index like the S&P and sold spreads on both sides of the index at about a 90% chance of winning. During one Superbowl game, I sat down and while watching the game, back tested the strategy by working month after month of transactions on paper to see how it would go. At first the account grew with win after win. As the markets climbed, the volatility shrunk and the credits received grew smaller and smaller and with the difference in bid and ask, it was smaller wins. In fact the temptation was to increase the number of positions. Finally a couple of bad trades hit the account and months of profits disappeared “poof” in a flash. That is the part most companies selling you “how to trade credit spreads” don’t tell you. I will get back to that later now that I have warned the readers and myself. Clearly there is a need to control the loss and conduct a "Repair". Such a “Credit Spread Repair Strategy” would reduce the impact of the large losses and  contain it. Here is how it would go.

EXAMPLE OF CREDIT SPREAD:
Step 1. In a bearish trend, you have sold a call credit spread. ABC stock is at $100.
SOLD ABC July 120/125 Call Spread@ 0.80. Net Credit $80

Typically you would sell the near month expiration or less than 30 days to expiration. That would enable you to take maximum advantage of time decay on the Greek theta.

If the stock moved sideways or went down, or even went up slightly and ended the time period below 120, you collect the $80. If you traded 10 spreads, that was a cool $800 income in your account. Not bad.

Let us consider a credit repair strategy…

Step 2. The trend reverses, and the stock hits $120 rather quickly because Helicopter Ben flew in and printed more money and the markets loved it. Trade a repair as follows:
BUY ABC July 120/125 Call Spread@1.50. Net Debit $150
Sell XYZ July 135/140 Call Spread@0.80 Net Credit $80
RESULT: Total Credit (from both trades) = $160; Total Debit (from buy back)=$150. Total Net = $10

More details can be found at the website I used this example from 

http://www.swing-trading-options.com/trades.html

Using a timing tool would be nice to increase my edge to be on the right side of the trend.

I will trade this strategy with my QQQ system that I have written about previously as well as with CAT. Attaching a simple chart of CAT with my swing trade timing signals. If I had a down signal, I would sell a Bearish Call spread. If after a few days I got an up signal, I would buy back the spread, close it and sell a Bull Put spread. I will also avoid ex-dividend dates and earnings dates. Best to keep a calendar with those dates marked.

Attaching a chart of CAT dated 1/18/13 as an example. For some reason the blogger does not allow me to upload a current chart on Internet Explorer. Guess I have to use Google Chrome...

Trading Trio Review - IBD/OptionsANIMAL/Trade Monster 1/13/13

I attended a free all day class hosted by OptionsANIMAL, IBD and Trade Monster this weekend. Presentations were made by Jon and Emilu from OptionsANIMAL and Tim from IBD. It was an excellent refresher for me and reminder of what I should be doing to improve my returns while keeping risk under control.

Jon started by giving us an overview and how institutions made the markets and how we can track what they are doing with some of the tools in OptionsANIMAL.

See a YouTube review by Emilu on Combining Options with IBD. She has completed her learning through taking an array of classes with OptionsANIMAL and learned new strategies that she had not necessarily used in the past.

http://www.youtube.com/watch?v=19ggqHAdN0Q

The Cost of signing up for the OptionsANIMAL Foundations Course was $300. That also gave you a year’s subscription to IBD and if you opened an account at Trade Monster, then the $300 was reimbursed. Essentially this was a “free” deal to learn and get on board trading. Good deal? I would say yes; but I did not sign up. Don’t mean to sound negative because I think there was a lot offered and it would be right for many people. I have just got a lot more cautious about writing a check to anybody who wants my money, and mostly I was not keen on signing up for another brokerage account – I have too many as it is and had not heard of Trade Monster before. See a review of Trade Monster at the link below. Later I looked up OptionsANIMAL and found their classes are offered with various packages from $1500 - $10,000. Quite pricey. It did not help that I also got a call from a sales person from OptionsANIMAL who was very pushy and how would I best describe his tone - condescending? cocky? rude? I had to hang up on himas I did not want to lose my evening. Still, I think Emilu represents the good side of the company, the sales person represented the dark side...

http://www.brokerage-review.com/stock-broker-reviews/tradeMONSTER-review.aspx

Looking up the review, I was not impressed. $300 up front is hardly a good reason to sign up for a brokerage account and their options trading prices were too high. TOS (Thinkorswim) would be much better for options based strategy brokerage account – it would be a lot cheaper and also more credible as it is now owned by TD Ameritrade.

What did I learn from the day?

Firstly, I think what Jon and Emilu presented was very good. In order to trade well you have to spend time learning. And it will cost you, one way or other. Is OptionsANIMAL the best way to go? I don’t really know but certainly worth a detailed look for those interested. Using Covered Calls in an upward sloping market is certainly a good strategy and Jon also presented the shortcomings of the strategy, something many presenters don’t do. I have done covered calls and each time I found I brought in some money without a huge hit on my stock, as it has always been in upward sloping markets. In some cases I got called away, which gets you the most return. In others the stock stayed sideways and I kept the commission.

First refresher point for me – continue to do covered calls.

How much return can we expect? My conservative read would be 15-25% per year.

Next strategy presented was selling and buying vertical spreads with options. I like that as well, except I don’t do enough of them. I need to expand using that as a tool. There was a book recommended on Spreads, “Spread Trading” by Greg Jensen. I will get that book – might try to see if it is available on my Nook that my son bought me for Christmas last year.

Second refresher point for me – do more selling of vertical spreads and read the book by Greg Jensen.

Emilu and Jon also presented trade adjustments to make losing trades turn into winners. They were mainly results and not the how and whys. I suppose you have to take the course through OptionsANIMAL to find out. I felt quite a bit of that was selling and I was not that impressed. Still, they hooked me enough for me to check it out in the future. Never assume you know too much, I say. There are always tools to learn and incorporate into one’s methodology. Emilu started with a trade on a vertical spread that went bad. Think she had a bull put spread and the stock went South on her immediately. She purchased two high priced puts that salvaged her position. Not sure what the ratio of the long spreads were against the long puts; but let me leave it as – perhaps I need to see what they teach in trade adjustments before mouthing off a strong opinion against the strategy. the notion of trade adjustments is good and I will investigate it.

Third point – investigate doing the Trading adjustments course by OptionsANIMAL

Tim presented IBD and he was passionate and slightly long winded; but very good anyway. IBD’s philosophy of buying strong stocks that are reaching highs, and selling them as they go higher is a good strategy. Also coupled with buy strong stocks, in strong industry sectors, when the market pulse on upwards, is a good strategy. I think my own trading systems are sufficient to tell me market direction. I think IBD’s system is more sensitive and correspondingly gets whip sawed more than mine. Emilu has been using IBD for 20 years and combining the options strategies we mentioned above, is able to reduce her risk and still capture a decent reward. It is a good combination. I plan to spend time 1/week at the library looking at the IBD newspaper. Agreed that their software access for subscribers to Leaderboard is the best way to go; but I find $699 a steep price to pay for one year. Still, it is easy to lose many times that by going with weak stocks. Tim did a great job answering the question from someone in the audience who asked why Nokia that was a weak rated stock on Leaderboard was climbing up so fast. Tim put Nokia in the same category as stocks like RIMM and went through the three Leaderboard criteria he considers key – Stock Composite rating (85 or higher), Industry Group (50 or better – top 50%) and ROE greater than 17% (Yes, Tim demands that he wants 17% or more ROE). Nokia grossly failed those. I liked what Tim said – he was right on the money.

Fourth leaning point – Visit the library 1/week and read the IBD.  Develop a selection of strong stocks in strong industry sectors. Trade them long using vertical spreads if they are optionable and at decent volumes, when the overall market is long.

All in all, a good day of learning, refresher and exposure to some solid trading tools.

401K Monthly Analysis 1/6/12

The markets are still pointing long. When I look at the chart on SPY I see that it is coming up on a strong resistance level. It is likely that we should see a pullback soon. The next question will be how large a pullback and will it turn into a larger drop. The 401K analysis remains biased long.

Looking at the 401K analysis on my current company portfolio, the top three recommendations are WFA SPL Midcap VL, Royce Opportunity, Fidelity Div Intl.

The 401K Analysis on my previous employer’s 401K shows TRowe Price Intl Disc, Fidelity Invst Div Intl, and Vanguard Explorer Admiral as the top choices.