sellacalloption

Japan Nikkei Index drops 7.3%

sellacalloption — Thu, 23 May 2013 15:05:30 +0000

Chart below of the EWJ, the Japan ETF, the Nikkei dropped 7.3% a move of over 7 standard deviations, a fat tail event.

Dow 15000

sellacalloption — Fri, 03 May 2013 14:36:57 +0000

The Dow Jones Industrial Average goes over 15,000 for the first time on May 3rd, 2013 following a decent jobs report.

Associated Press Twitter account Hacked

sellacalloption — Wed, 24 Apr 2013 16:28:48 +0000

The chart below is a two minute chart of the SPY on 04-23-2013. The Associated Press’s Twitter account got hacked and someone tweeted that the White House had been bombed. The Dow Jones Industrial Average dropped 145 points and recovered in about 7 minutes. The SPY is shown below, on a two minute chart the down move was over 30 standard deviations as shown on the red bar. This was an excellent example of the kind of market volatility that one tweet can produce, even though it turned out to be false.

Netflix Stock Post Earnings

sellacalloption — Tue, 23 Apr 2013 14:22:10 +0000

The chart below is Netflix, NFLX, stock after their earnings report yesterday. The up move was over 7 standard deviations as shown on the red bars below the price chart. The line on the bottom is the ratio of the implied volatility to the statistical volatility which has dropped to 204.30 post earnings. We discussed NFLX on my radio show, Ken’s Bulls and Bears report with Jeffrey Dow Jones a couple of months ago.

Chart of the day IBM

sellacalloption — Fri, 19 Apr 2013 16:03:18 +0000

Today’s drop in the price of IBM following a weaker than expected earnings report. Currently the down move is over eight standard deviations as shown on the red bar. The line below is the IV/SV ratio which is up to 208.65.

Breakout in Natural Gas

sellacalloption — Thu, 18 Apr 2013 15:49:56 +0000

The chart below shows today’s breakout in natural gas. UNG is up over 30% year to date. Today’s price move shown in the red bars is over two standard deviations. The bottom line on the chart is the ratio of the implied volatility to the statistical volatility, IV/SV ratio. I have talked about nat gas on my radio show, Ken’s Bulls and Bears report quite a bit this year and have been recommending it as a long position. $UNG is a part of my ETF covered call model portfolio.

Record Drop for Price of Gold

sellacalloption — Tue, 16 Apr 2013 19:44:30 +0000

Chart showing yesterday’s drop in the price of gold. It was the largest drop in price ever in dollar terms. In percent terms the drop on 03-17-1980 was larger. Yesterday’s drop was over 9%. Measured in standard deviations it was a move of 6.62 standard deviations. With a normal probability distribution, 68% of the time price moves will be within one standard deviation, 95% of the time moves will be within two standard deviations and 99% of the time within three standard deviations. The red bars on the chart show the price moves measured in standard deviations and the lower line is the IV/SV ratio.

Skew chart showing the implied volatility of gold (GLD) options after yesterday’s record day in dollar terms.

Covered Calls ~ Managing the Trade

sellacalloption — Sun, 03 Mar 2013 20:24:55 +0000

If you’re thinking about using covered calls for income, you’ll want to consider how you’re going to manage your trades from the time you establish them until option expiration.

If you already hold the underlying stock or ETF, you’ll it’s only a matter of selecting the strike price and expiration of the call option that you wish to sell and entering your order. When you enter the order you are faced with the decision of what order type to use. When selling calls most traders will choose between a market and a limit order. You may have read elsewhere that you should only use a limit order when trading options. I don’t agree with that and have found that I get excellent executions with market orders as long as the stock is a very liquid penny pilot issue. The most liquid ETFs have excellent execution on market orders and there are times when a market order is better, such as a rapidly falling price, where you’d if your limit wasn’t going to get hit, you’d have to go through the process of canceling and replacing and if the underlying has fallen you’ll have to settle for a lower price than you would have with a market order. If the stock or ETF that you’re selling the call option on is not very liquid and has wide bid ask spreads, don’t use a market order, use a limit and place it about halfway between the bid and the ask then give it time to get filled. The thinner the trading is, the more patient you have to be with the order getting filled.

If you don’t already own the position in the underlying you have some more choices. One choice is to sell a cash secured put, then wait until you get assigned and begin the call writing process. Another choice is to use a buy write ticket. With a buy-write ticket, you enter a simultaneous order to buy the stock and sell the call option at a net debit. So, if the stock is trading at $25 and the option is selling for $1, you’d enter an order for a net debit of $24. You can also use market orders with buy-write tickets and they’ll work as long as the underlying is very liquid. If the underlying is not very liquid and has wide spreads, use a limit order for sure. If you don’t want to use a buy write, then first you purchase the underlying security, then sell the call option. If you like to trade a little bit, to try to enhance returns, you can leg into the position, by buying the stock, letting it run up, and then selling the call if the stock begins to drop.

Once you have a covered call position established two things can happen at expiration, either the price of the underlying is above or below the strike price, you either get called or the option expires worthless. If you’re option is in the money prior to expiration and you decide you want to keep the stock, you’ll have to buy the calls back, then sell more at another expiration date. If you roll the calls for a credit, that is you sell them to open for more than you bought to close, you can keep rolling them until they expire worthless and generate a profit. You’ll also need to watch out for your dividend ex-dates. If your option is in the money prior to the ex-date and the expiration date is close by, there is a very high probability that you’ll get called. If you want to hold the stock and collect the dividend, you’ll need to roll for a credit prior to the dividend ex-date instead of waiting for the expiration date. If you decide you want to sell the stock prior to the call option expiring you’ll probably want to buy the option back, and then sell the stock. Depending on your level of option approval at your brokerage, you may have to buy the call back first. If your approval level is high enough for naked calls you’ll need to consider if you want to assume the risk of an uncovered call position.

Have a follow up plan in place before you open the position. Know your dividend dates and manage your positions accordingly.

The Long Straddle and the Fiscal Cliff

sellacalloption — Fri, 28 Dec 2012 18:35:20 +0000

The long straddle is a strategy that can be employed prior to the release of a significant news announcement. One time might be when government economic reports like the GDP or unemployment numbers are about to be released.

The way the strategy works is pretty simple. We know that there is going to be some news that could affect the market. We don’t know what’s in the news or how the market will react. To be prepared for a big market move in either direction we decide to purchase a long straddle on the SPY which is the ETF that represents the S&P 500 index.

To purchase a straddle you buy an equal number of calls and puts at the same strike price which is at the money. At the time of this writing the SPY is at 140.96 so I have illustrated a 141 straddle. I am showing the Jan 19th expiration. The straddle will cost $5.00 to purchase and that is the maximum risk. If held until expiration the break even points are $146 and $136.

With the fiscal cliff talks going on congress could make an announcement anytime. Right now the house is planning to convene on Sunday, so they could have an announcement prior to the market open on Monday. A long straddle purchased before the weekend could be profitable if the market has a big gap open on Monday after congress meets.

If the straddle is held longer than a couple of days, the investor can employ a “gamma scalping” strategy to offset the option decay as measured by the position’s theta.

Below is an illustration of the P&L graph for the SPY Jan 19, 141 straddle.

Special Dividends and Option Contract Adjustments

sellacalloption — Tue, 04 Dec 2012 22:38:02 +0000

There are times when option contracts are adjusted for corporate events like stock splits or special dividends. In the case of a 2-1 stock split for example, the option contract strike price is adjusted in half and the number of contracts doubled.

There is no contract adjustment for ordinary dividends. Regular dividends that are paid on a quarterly basis are factored into the option’s price. When a stock goes ex-dividend the stock’s price is adjusted by the amount of the dividend. The call and put option’s price reflects the amount of the dividend.

Due to the ongoing fiscal cliff negotiations, many companies are opting to pay out special dividends this year before the anticipated increase in the dividend tax rate. Currently dividends get a special tax rate of 15%. That rate could go as high as 39.6% in 2013 depending on the outcome of the fiscal cliff negotiations. Campbell soup became the last major company to declare a special dividend. Over 100 companies with a market cap greater than $240 million have declared special dividends this year. The total value of all the dividends is almost $23 billion.

If you’re using a covered call or a collar strategy to collect dividends, remember that with these special dividends, the strike price will be adjusted downward to reflect the special dividend unlike the ordinary dividend.

Option Chain for Boise showing Strikes reduced by $0.72 for dividend.