Position Update And Friday Q&A
Market & Position Update Hello Smart Option Sellers! Let's talk about the market and our current open positions for a minute. Although selling put options is neutral-bullish investing strategy, you can still make a profit in many different directional scenarios. You don't often come across a type of trade that works in up, down or sideways markets. But put-selling fits that bill to a T. We can walk away with our upfront payment intact if the stock moves higher, moves sideways, or even moves lower. As long as the stock doesn't finish below the strike price by expiration, we are in the clear. But in the off-chance that the stock does finish below the strike price, we will take possession of a quality stock at an attractive buy-in level. Now, of course while the trade is active, we will see the put option price fluctuate according to three main factors - how the stock fluctuates, how much time is left until expiration, and how volatility is behaving. Our best case scenario is to have the stock move immediately higher after we sell the put option, as that will make the put option price decline and put us on the path of profitability even quicker. And that happens most of the time for us, which we like! But sometimes the stocks will move lower (like now), and we'll have to endure higher price swings in the put options that can put us temporarily underwater. Totally normal and part of the process. For instance, Big Lots (BIG) released earnings this morning and the stock is down roughly $7 per share. Normally that would scare the beejeebees out of most investors. A $7 drop is huge no matter what stock we're talking about. Anyone who bought 100 shares just yesterday is not a happy camper right now. And since we've sold the put option, you would think that the option price would skyrocket since the stock has fallen so much, and put us underwater. Not so! And by the way, I think the stock is getting unfairly punished as I don't think the earnings numbers warrant such a sell-off. Anyway, with the stock down big time today, our put-sell position in the April 2018 $40 put option sits at a fair value level of $.20 per contract - even below where we sold it ($.27 per contract) back in early January when the stock was near $55 per share. The stock is now near $47.50 per share (down $7.50 since entering) and yet the put option price is still near where we entered. How is that possible? Time Decay! An option-seller's best friend. Since there is roughly one month left before expiration, the market is pricing in a very big chance that the stock will remain above our strike price of $40. That's why the option price hasn't budged - good for us! Time decay refers to the sloughing off of value from an option's price due to the passage of time. The less time until expiration day and the more it looks like the stock won't move below the strike price, the faster the option will lose value. This is also called the "rate of decay". This is one of the biggest reasons why I choose strike prices for us that are so deeply out-of-the-money. It gives us a very large cushion for movement and error. There's not many buy-side investors that can come out ahead when a stock drops $7 per share. But we can, since we price moves like that into our trades. At the moment, most of our positions are either in the black or very near breakeven. We just have to wait a wee bit longer these days before taking profits only because the market has been swinging so much, and moving to the downside a bit. As I type though, the NASDAQ has completely regained all the ground it lost in early February while the S&P500 and the DOW have gained back half to two-thirds. I think strong days are still ahead for the markets so continue to hold all trades as-is, and if you're a newer member, you can check the Current Portfolio below for instructions on taking a position. Friday Q&A Q: DITM Options: I read your blog concerning the DITM options and agree with you. I like the strategy. However; The problem is finding a stock or ETF with sufficient open interest. It seems that in order to find a candidate you have to go with market indices or or sector etfs. can you suggest some other possibilities?
A: Hi, DITM refers to "deep-in-the-money", and it's really the only option-buying strategy that I will recommend. I devote a whole chapter to it in my book and it was the subject of a recent blog post I made. As far as open-interest - that has never been a concern for me. Who cares whether anyone else holds a position in that particular option contract (that's what open-interest measures). As long as the there's a bid/ask market for the option - that's all you need. The option market-makers are obligated to provide a bid/ask quote on any option that's on the board, regardless of whether it has any open-interest. Sure, having more people invested in the option and higher volume can lead to a more liquid market, but as long as you place your bid/ask order somewhat near, or below, fair value, your order will get filled. Don't worry too much about a small or zero open interest. Q: How do you decide to choose a put price to sell? Do you look at the technicals? Monthly/Weekly/Daily charts? For example in your book you discuss a 90 or higher delta for the DITM call on a LEAP. I have noticed that a lot of the premiums are in the .20-.30 range, sometimes in the .40. A: I assume you mean how do I pick the strike price of the put option? Technical analysis is my main source of choosing which strike prices to sell. I use daily & monthly charts along with support & resistance levels, moving averages and RSI indicators. Can't give away all the secrets, but it's really not that complicated. We look for great stocks and decide where the support lies and what level would make a great buy-in point. And yes, with the system we use, and the expiration and strikes we choose, most of the premiums will fall into the $.25 - $.40 range. Q: Hi Lee, What factors lower an equity's Delta? Is it possible for the Delta to slip down below 90 after you buy in the low 90 range? A: Good question. Delta is not a static number and it fluctuates with the market. For those that don't know, Delta is one of the Greek by-products of the option pricing formula and it tells us how much an option price should move in connection with the underlying stock's movement. Every option contract has its own delta and it ranges from 0-100 (0-100%). For instance, a delta of 90 (90%), tells us that this option's price should move up or down 90% of whatever the stock does. If a stock moves $1 per share, then the option price should move roughly $.90 per contract. If you bought a call option with a 90 delta and the stock moves up $1, then the call option should go up by $.90 per contract. Now, as I said, deltas can move higher or lower too. It all depends on where the stock goes. A call option with a delta of 90 means it is very deep-in-the-money already. A call option with a strike price of $30 is DITM when the stock price is at $60 (for example). It's delta will be 90 or higher. But what if the stock drops from $60 to $30 per share? Now that call option is at-the-money (ATM), meaning its strike price is at the same level of the stock price. ATM options have a delta of 50 (50%), so yes, the delta will move according to how the stock moves. In this case, the delta has fallen from 90 to 50. Hope that helps.. Q: Hi Lee; What is the final ROM and ROI on the puts that you recommended for 2017? A: The Track Record is here and the final ROM (return-on-margin) for 2017 was 3.63% on an average 77-day hold period. If you care to annualize, the ROM was roughly 17.21%. We did not buy any options (officially) so there is no ROI (return-on-investment) to compute. That's all for now. Have a great weekend! Continue to contact me here Regards,
Lee Let's Grab That Cash!
Current Portfolio Continue to work all other trades as instructed and continue to hold all other open positions as-is. See the Current Portfolio below for current prices & instructions. Note on the Current Portfolio - if you are a new subscriber and don't have a position yet on any of our trades, make sure you enter your order at the original recommended sell prices. Do no enter any order unless the current option price is at, or higher, than the official recommendation. If you are unsure or have any questions, please ask us!