Archived Blog

Posted January 30, 2012 at 8:31 PM

Heading into 2012, Gareth predicted 5 major trends.

One month in, 3 of the 5 (the money-makers) are already massively profitable.

Here's a recap of the video:

http://www.youtube.com/watch?v=kYVA695exq0&feature=related

Gold prediction for 2012 was it would rise 20%.  Within one month it's up almost 10% already, working out way better than expected.

Nifty Indian Stock Index would end its losing 2011 streak - it's up over 11% in a month.

Agrium stock would break its losing 2011 streak - it's up almost 20%.

The other predictions were for GDP growth and Apple to issue dividends...  Still 11 months to go but the key thing is the 3 money-making ideas are all HUGE winners!

Posted January 19, 2012 at 9:13 PM

Like clockwork every quarter, when earnings rolls around, an increase in implied volatility can always be relied upon to inflate option premiums.

Ahead of Microsoft earnings today, implied volatility levels were elevated, which meant share owners were provided a rare opportunity to sell expensive call premium on a stock that tends not to have frequent associated options spikes.

As we discussed earlier today, http://money.msn.com/business-news/article.aspx?feed=OBR&date=20120119&id=14709807 the move expected on Microsoft was approximately 3% and it turned out the after hours move was in fact 2.42%, meaning the call options sold at a premium would expire worthless at expiration and offered attractive reward potential prior to earnings.

This spike in implied volatility levels offers this opportunity on most optionable stocks around earnings and is an extraordinary opportunity to lower cost basis regularly.  The reason being the options price in an expected move and so if the stock rises, the trader is often not much worse off having limited profit potential and yet if the stock plummets the option premium is fully banked and the risk in the overall trade is lower than if stock alone was held.

Posted November 15, 2011 at 9:17 AM

Posted June 19, 2011 at 1:12 PM

The S&P 500 has approached similar peaks to those reached in 2000 and 2007.  In each prior case, a sharp declined followed.  On both prior occasions, the corrections came after parabolic rises in the market.  That same parabolic effect has not been so evident on this past rise which may suggest another surge is possible.  Certainly, analysts who pay attention to the put/call ratio believe the current figures are suggestive of a market bottom.

But the last two times bubbles were sector specific, in technology and real estate.  Now we have the Russians slashing their purchases of US bonds, and the Federal Reserve forced to monetize debt.  An imminent default in Greece is widely speculated upon.  A contagion to the rest of Europe is at risk and sovereignty itself is in question: Jean-Claude Trichet proposed a European finance ministry with veto power over economic decisions of nation states.  The very lifeblood of the euro itself has been called into question.

As Buffett has stated, very powerful interests stand to gain from the euro remaining in effect.  So a short-term break-up is unlikely even if its long-term future is in question.  Irrespective of the currency considerations in Europe and the US, retail investors need only look to history to realize that reward to risk ratios on monthly basis are now unfavorable. 

To mitigate risk, investors should look to their individual positions and analyze how those positions have performed when corrections do occur.  For example, in the stock market declines of 2000 and 2008, Dow Chemical and Alcoa were virtually annihilated.  In contrast, Colgate and Johnson & Johnson performed comparatively well and have continued to soar higher.

Analyze why this is the case and you will discover the key to successful long-term investing.  Think about what people need every day whether the market is rising or falling.  In spite of the fragility of currencies, business has always continued throughout the ages.  And the businesses that focus on the needs of people that must be met every day prosper over time, particularly when they have an existing foothold or competitive edge.

Sometimes it’s helpful to escape from the day to day movement and think long-term, otherwise the day-to-day fluctuations can narrow focus to the exclusion of real market and portfolio risks.

Posted June 12, 2011 at 8:13 AM

Not sure where the market is headed?  Here are some guidelines to stick on a post-it note above your trading terminal.

Most traders spend a disproportionate time looking at individual stock charts, and analyze individual positions.  But most individual positions are affected by the major trend of the market.  So, step back at least once each week and identify the major market trend.  For the past few months the Major Market Trend Indicator has been neutral as the market has oscillated within a range.  But this should not lead to a sense of complacency, you must be prepared for a breakout before it occurs so you know just how to manage risk.

In anticipation of a trend change, analyze each of your positions.  If the bias is to the downside, prepare for a breakout lower.  That means you should scan put options that could be applied in conjunction with existing stock positions.  And it means short call options should be analyzed for premium and time frames, which could reduce risk and fund the put purchase.   A collar trade is a very powerful strategy for mitigating risk in a portfolio while the rest of the trading world is panicking during a precipitous market decline.

Anticipate a worst-case outcome for the market and assign a dollar risk amount by which your portfolio will decline if and when that scenario arises.  If that amount exceeds your comfort level, consider further protection or hedging tools to lower risk. 

Don’t stop at analyzing dollar risk in the event of a decline.  Start to think about opportunity.  Where can you find profits during the decline?  How can you take advantage of a stock market correction so that even if the worst-case decline does take place you will not only be protected but wealthier as a result. 

Whatever plan you come up with, provided it’s safe and responsible and within your tolerance for risk, stick to it when the market starts to gyrate.  Prepare in the quiet period when the market is closed so that when the action is fiercest in the market you remain calm and disciplined.

Posted May 29, 2011 at 11:23 AM

It’s official, you were able to agree to purchase LinkedIn BELOW its IPO price after the IPO.  The magic of the market through which this can occur is the much maligned derivative instrument, more specifically in this case, the short put.

During the first day of options trading, LinkedIn put options were trading with implied volatility levels twice the level of equivalent call options.  The implication from the inflated prices was that the market was placing greater likelihood on LinkedIn falling in price than on it rising. 

One cause for this expectation is that limited supply of stock was available to borrow and short, leaving put instruments as the only viable alternative by which to benefit from a decline in stock price.  Another cause is that the supply of shares which can be sold following the lock-up period is over twice the current float, which should inevitably lead to downward price pressure.

But the lock-up period should be very closely examined by traders feeling comfortable that the stock has greater forces of demand than supply until that date.  The option prices provide a clue into why traders should look at the fine print to see why this is a dangerous assumption to make.

The implied volatility on the put options isn’t just high for one month or two months or even three but it remains high all the way out until February of 2012.  That suggests tremendous uncertainty in the market about when the stock might suffer from the supply of shares coming online.  The question is why is the market so uncertain?

Looking at the fine print, the decision to release further shares onto the market is at the sole discretion of the underwriter, Morgan Stanley.  They could choose to release shares earlier than the anticipated lock-up period or indeed later!  That leads to tremendous uncertainty in the market place.

It also offers traders a chance to capitalize on exceedingly high put premiums.  And not necessarily by buying them but potentially by selling them.  For example, a short put at strike 50 in Feb 2012 was selling at $5.20 on the opening day’s trading.  That meant a trader could get paid $5.20 to agree to purchase the stock at $50 next February in the event that the stock was trading below $50.  In effect, traders were agreeing to purchase the stock at a price of $44.80 ($50-$5.20), which is below the IPO price.

Often selling the premiums that soar during moments of excess can be very lucrative in the long-term.  These opportunities don’t come along often but when they do, the reward to risk ratio can prove very compelling.

Posted May 13, 2011 at 5:33 PM

Imagine I rob your house, take some of your belongings and return the next day with a promise that you will be protected from such a despicable act in the future by paying me an insurance fee.  Would you describe it as extortion or creative enterprise?

As extreme as this example sounds, it is analogous to the choice with which technology innovators are now faced.  Through innovation, they created patents which became the target of patent trolls: companies with no real operations and non-practicing entities, who would acquire patents with the sole goal of attacking the innovators and extort license fees.  Previously, the innovators had no alternative but to fight the aggressors.  But now an even more elaborate strategy has been devised to extract fees from the innovators: insurance.

Incredibly, some of the same individuals who were responsible for attacking the technology companies on the basis of patent infringement are now behind a new venture to protect technology companies and other innovators from patent trolls.  RPX, headquartered in San Francisco, offers companies the equivalent of insurance in exchange for subscription fees ranging from $60,000 to $6.6 million that are based on a company’s operating income. 

RPX, which went public earlier this month, posted revenues of almost $100 million last year with $13.9 million of profit.  And how incestuous is the relationship between the former combatants and the new protectors of the innovating, value-creating companies?  The Chief Executive of RPX was formerly a member of Intellectual Ventures, an investment firm that spent years purchasing patents and then sued a range of companies, including anti-virus firms Symantec and McAfee.

And therein lays a problem with innovation in America.  There are those who innovate and create value and those who prosper by feeding off the innovation without creating any inherent value.  The architects, who masterminded the attack of companies creating value while themselves creating none in an effort to extort fees, have conceived a method of extracting fees from the innovators of value, albeit via a different angle.  The insurance method as opposed to the litigation approach is akin to the parasite proposing to the host body that it will not bleed the host dry in one fell swoop but rather a little at a time if it agrees the parasite can feed provided it will fend off other parasites.

Budding entrepreneurs should reflect both on the opportunity and the opportunity-cost when considering a venture.  Fundamentally, a choice exists between starting a venture that creates value and one that prospers from the value created by others.  The former is the engine of economic growth while the latter bleeds the engine dry.  Choose wisely and carefully. 

Posted May 9, 2011 at 7:01 PM

Posted May 8, 2011 at 9:46 AM

Imagine it’s the final of the World Cup Soccer tournament, and you’re the goalkeeper charged with saving a penalty.  The striker starts his run to kick the ball into the net and the only thing preventing a defeat is you, how can you anticipate to which side of the net the ball will be kicked?  Should you jump to the left or the right?  It turns out the answer to that question has deep psychological roots, which may well affect your financial decisions too.

Research by Bar-Eli, Azar, Ritov, Keidar-Levin, and Schein shows that the optimal strategy for goalkeepers is to stay in the goal’s center.  Goalkeepers, however, almost always jump right or left.  The research team proposes that the sub-optimal behavior can be explained by what is called Norm Theory, pioneered by Kahneman and Miller.  Because the norm is to jump, norm theory implies that a goal scored yields worse feelings for the goalkeeper following inaction (staying in the center) than following action (jumping), leading to a bias for action.

Similarly, in the financial world, financial advisors will typically suggest a diversified basket of securities across multiple asset classes as a way to protect and grow a nest-egg.  To the new retiree, the strategy conforms to the investing norm.  But it may not be the smartest strategy, particularly if the stock market is reaching levels which suggest reward to risk ratios are poor.

For example, in 2006, Berkshire Hathaway was holding $40 billion in cash, which represented approximately 46.5% of its investable hoard.  At the time, some commentators claimed Buffett’s best days were behind him.  After all, with the market rising, everybody else was generating a higher return than the investing maestro.    But fast forward a few years when the sub-prime crash took place and major corporations, such as GE and Goldman Sachs needed funding.  At that point, Buffett could swoop in with his cash and demand high returns when virtually nobody else could.The reason he could do so is he had not fallen victim to the psychological bias towards action to which most investors succumb. 

Whether a fund manager or a retail investor, the pressure to act is fierce amid the constant drumbeat of earnings headlines and breaking news.  But maybe, when the pressure to act is greatest, the most profitable strategy is to simply do nothing until a compelling opportunity to swoop in presents itself.

Posted April 19, 2011 at 3:24 PM

Posted April 19, 2011 at 9:33 AM

What are Alpha Index Options?

Alpha Index options are an innovative new product for retail traders looking to trade relative as opposed to absolute performance and they come with the added bonus that transactions fees are lower than trading the underlying securities separately.  This is due to the fact the security on which the alpha options are based is really a coupled pair of securities.  The unintended consequence of the coupling is that brokers will see less trading and hence lower transaction revenues as traders no longer need to buy one security long and sell another short in two separate transactions in order to create the same net position.

From the retail trader's perspective, on days when the markets are down, the newly issued AVSPY which compares Apple to the SPY can trade higher intra-day despite both Apple and SPY moving lower during parts of the day.  So, traders who expected Apple to rise on a given day more than the SPY can still see the AVSPY rise even though they may have been wrong on their estimation of direction; they are profiting when Apple falls to a lesser extent than the S&P 500 SPDR

Nonetheless, retail traders should be somewhat wary still given that liquidity levels are low and bid-ask spreads are still quite wide.

Another caveat which retail traders should be aware of is that each alpha index uses a proprietary calculation so a degree of opacity exists making it hard to know with certainty how much the Alpha Index will move as each of the securities on which the index is based move.

Above all, retail traders should pay attention to the fact that alpha index options are trades based on correlation so relative as opposed to absolute performance is what counts.

Also keep in mind that the options expire worthless so not only are you trading correlation but you must predict what the movement of the alpha index will be over a certain time frame.

Guess the right direction, but wrong time frame and the long options will suffer (though short options would benefit in this case).

And from a volatility perspective, on days where the S&P 500 rises a lot but the comparison stock drops considerably, say on an earnings announcement, expect exaggerated moves in the alpha index and accompanying options.

Finally, be wary of recency bias in trading these positions.  The stocks chosen in each Alpha Index have been market leaders but just as they outperformed during the rally so too can they lead the way down during a correction.

Next up for release is the Google Versus SPY Alpha Index which begin trading on April 20^th. 

Bottom line, if you had engaged previously in pairs trading, going long Apple, short the SPY, this is a great way to enter the trade with lower transaction fees.

But dangers exist: bid-ask spread, correlation, options expiration and opacity. 

Posted April 17, 2011 at 2:18 PM

The Bureau of Labor Statistics reported on April 1, 2011 that the unemployment rate was little changed
at 8.8%. It is no secret that when factoring in underemployed and discouraged workers, the true
unemployment rate is approximately twice the headline figure currently. Politicians will try to ignore
the fact, media will try to sensationalize the fact, job-seekers will despise the fact, but one company
might just be taking a pioneering and bold step by daring to improve labor market efficiency one person
at a time.
 
An little-known company called SkillPages is threatening to become one of the most disruptive social media
companies since Facebook. Facebook knitted the social fabric of the world by connecting individuals
who share experiences. SkillPages is taking the concept of social connectivity a step further by
transforming the way individuals with skills connect to individuals seeking skills. As an example of how
SkillPages can improve labor market efficiency and put people back to work, think about the following
example.
 
Imagine a plumber in your community who is unemployed. Now it is probably fair to say that somebody
in the community needs a plumber but is unsure how to find a plumber on whom he can rely. LinkedIn
wouldn’t really be the place to search because it’s tailored more for white collar professionals. Yelp or
Yellow Pages might offer business listings but neither provide the trusted network on which you can
have confidence in your hiring decision. SkillPages solves the problem of connecting the person with
skills to the person needing those same skills in a trusted environment.
 
In so doing, SkillPages puts job-seekers back to work and creates value with each new connection that
leads to a new job or employment opportunity. On a broad scale, the company has the potential to
move the Unemployment Rate needle all by itself. Undoubtedly, a large number of unemployed job-
seekers have skills that are needed by customers and employers in their communities who simply
don’t know where to find them or how to connect with them. SkillPages solves that problem for both
employer and prospective employee/contractor.
 
With the potential to create so much value, SkillPages could become one of the most disruptive social
media sites conceived. 

Clearly, the power to create so much value in economic and social terms makes SkillPages one of the
most exciting new start-ups on the social media horizon. Hundreds of thousands of people are joining
Skillpages every month since it launched in January, making it amongst the fastest growing social
networking companies. And at a time when many economies are burdened with economic challenges,
SkillPages could not have come along at a better time for skilled job-seekers and employers seeking
them.

Posted April 15, 2011 at 5:56 PM

Special thanks to Brendan Conway at the Wall Street Journal for spotlighting Puda Coal in this article:

http://online.wsj.com/article/SB10001424052748704628404576265200987689490.html

Posted March 29, 2011 at 8:45 PM

Fast forward to the future, and to a time when Facebook has just gone public.  The public demand to own shares is overwhelming, the options trade at a premium as the stock gyrates, analysts try to establish a consensus valuation, and the cash infusion to the company will catalyze a hiring spurt from hundreds of employees to thousands of Facebook-ers.  Beyond the massive increase in employee count, what else will the cash be used for and why should online competitors and non-competitors shudder at the prospect of Facebook going public?

Facebook threatens not only its rivals, such as Bebo and MySpace.  Those companies are now regularly categorized as ‘has-beens’ – in this winner takes all market, Facebook has been declared the victor.  Seth Priebatsch of SCVNGR was so emphatic in his declaration of this point that he stated at a TED.com speech: the social layer has been built, it’s Facebook.   With five hundred million users, few would argue the point.  Having been crowned king in its own space, Facebook now poses a threat that should send a shiver down the spines of companies in which it is not an obvious competitor.

First consider the threat to Google.  When you log onto Google and enter a search term, what does Google really know about you?  The answer is not much.  Unless you sign up to its other services, Google is limited in its ability to deliver finely targeted, relevant ads to you.  While Google does a marvelous job with the information it has, think about this from the perspective of the advertiser, from whom Google makes the bulk of its revenues. 

As an advertiser, if I could tell you that you could advertise with a company that knows just a little about who is viewing the ad or a company that provides laser-like, targeted ads based on gender, age profile, interest type, group membership and so forth, which would you choose?  Facebook has all that information about its users already.  It knows demographics and psychographics far better than Google does and advertisers are quickly realizing that they can create far more targeted and relevant ads on Facebook than on Google.  It will come as no surprise to see Facebook increasingly encroach on Google’s territory.

Facebook also poses a threat to companies that, at first glance, are in a totally different business vertical.  Netflix is one such example.  The move by Facebook to contemplate streaming video was so great that Goldman believes Netflix, which in the past has beaten competition from Blockbuster and even Walmart,  considers Facebook was a credible threat.

And take the fastest growing business in the world according to recent reports, Groupon - a company that allows consumers get a great deal if they vote collectively to support the deal.  There is nothing that Groupon does that is inherently difficult from a technology standpoint, so far.  For this precise reason, we have seen competitors sprout up like wild mushrooms.  With a database of users that spans already half a billion, Facebook could certainly employ new capital from its IPO to directly compete with Groupon.  While Groupon is dominating worldwide markets currently by crushing competition with its ad spend, Facebook has the ability to go head-to-head and already has much greater reach.  Given that recent reports value Facebook at $75Bn, the cash hoard from going public could prove a formidable threat to Groupon.

Groupon, Netflix and Google operate in totally different spaces and yet all should be wary of the threat of Facebook.  A glimpse of what will emerge from the behind the doors of Facebook is revealed by employees in videos targeting job applicants.  The insiders at Facebook comment that this is just the beginning for the company that already dominates the social fabric.   What ominous thoughts for competitors of the company that has not raised even a small fraction of the capital to which it has access by going public.

Posted March 21, 2011 at 7:53 PM

Please feel free to give Gareth's latest column in the International Business Times a thumbs up!

http://www.ibtimes.com/articles/124935/20110321/options-trading.htm

Posted March 20, 2011 at 10:43 AM

What is it that separates the superstar from the almost-star?  What distinguishes amateur athletes from professional athletes?  And what separates the best in the world from those who come oh so close?  In the 1995 French Tennis Open when Jana Novotna led Chanda Rubin by one set, five games to zero and was 40-0 up in points, yet lost the match.  How did that happen?  And what can you learn about making money from seeing an athlete choke?

To answer these questions, you need to understand the realm of sports psychology because it is very applicable to stock market trading success.  I’ll hazard a guess that what Jana focused on when she was ahead was trying not to lose.  And then all of a sudden, she lost one game, and then another, and another.  And with each game that passed, the spiral downwards accelerated, and quickly losing points turned into losing games and losing games into losing sets and all of a sudden the match was lost.Now keep in mind this was the one thing she did NOT want to have happen.  And yet there she stood at the end of the match a loser.  Why?

The short answer is because she started to think about results when what she should have been thinking about is performance.  If you grasp the magnitude of that previous line, it alone could change your success rate not just in the stock market, but maybe out on the tennis court or golf course too.You see, what amateurs focus on is results.  A junior tennis player may deem a tournament a success if he wins and a failure if he loses.  But a professional judges not by the short-term outcome as much as the long-term outcome. 

Focusing on the long-term means benchmarking success not against the most recent result but against the prior performance.  Did I play better than last day?  Did I improve as a player?  It’s very possible you win but play badly.  Is that true success?  The likelihood is if you come up against a better player you will lose because your standard is declining.  But if you lose against a better player and improve in the process, you advance because your standard of play has improved.  You reach a higher plateau for future contests which will surely serve you well.  In the stock market, the amateur can ask the question:  Did I make money today or am I in red?  If you made money that must signal that you were successful, right?  But how many money managers do you know were successful during bull markets only to fall victim to bear markets.  Was it really their own skill that was the cause of the gains in the bull market or were they successful in spite of themselves?

Somebody who succeeds when everyone else succeeds and fails when everyone else fails has not differentiated himself in performance terms.  Sure, the results look good during the bull market.  But markets move in cycles and success is judged by how well you do in both.  Instead of focusing on the result, the key is to focus on performance.  This means focus on developing a strategy that works in up and down markets.  Adhere to it, apply it.  Evolve and improve upon it.  Don’t look at an up day and think you are successful.  Don’t look at a down day and think you are a failure.  Ask instead, did I stick with the system, did I do what was right?  Focus on performing well.  The results won’t always follow but over the long-term doing the right thing should mean positive results.

Posted March 15, 2011 at 8:25 PM

Posted February 10, 2011 at 9:10 PM

In the Stock Market, the bottom
would be more aptly described as a place on the chart where sellers have diminished and buyers begin to step in. The opposite would be true of resistance as demand for the stock begins to dwindle and
buyers start to lighten their positions as aggressive traders short the stock.

The question really is “How can I see these changes coming and take advantage of that knowledge?”  Well, no one has a crystal ball, but I can give you a few tips on what to look for to stay on the right side
of the market.

Look for several indicators that essentially come to the same conclusion. If you asked ten
knowledgeable people with diverse points of view to express their opinion on a specific topic
and that consensus of that collective opinion is the same, then that is an extremely powerful
indication that the consensus is correct. I call this “A Confluence of Indicators.”

The more indicators that tell us there is a level of support/resistance, the more likely it is that we have a
significant turning point that we need to heed. So what are the indicators we should pay attention to?

Trend Lines with multiple touches over an extended timeframe.
Major Moving Averages such as the 20, 50 and 200 SMA.
Several Fibonacci levels that cluster at a significant price point.
Chart Patterns that have shown past price action to stall at a particular point such a double
bottom or double top.
Gaps which act as support or resistance as the case may be.
Reversal candlestick pattern that emerge at perceived levels of support/resistance.
Oscillators such as the RSI, Stochastics and the MACD confirming the change in trend.
Volume that diminishes as the trend weakens and the investment community begins to show
their lack of desire to continue the existing direction.
When the stock bounces up in a bullish reversal or down in a bearish reversal, the new trend is
confirmed with increased volume.
Conservative traders may wait for a break and close above near term resistance with a bullish
reversal and a break and close below near term support with a bearish reversal.
Some traders will wait for a moving average crossover before taking action on a reversal.

It is not necessary to pick the exact bottom or top and those that try many times get whipsawed.
With time and experience you will become a master at the fine art of finding support and resistance.

Patience is critical in this process as it is in most aspects of trading. Good Trading, Mark

Posted February 9, 2011 at 2:03 PM

http://online.wsj.com/article/BT-CO-20110209-710486.html

  NEW YORK (Dow Jones)--Nasdaq OMX Group (NDAQ) has a green light from
regulators to list a new type of derivative that lets investors bet on the
performance of popular stocks like Apple Inc. (APPL) or Citigroup Inc. (C)
versus the broader market.
 
  The exchange got the nod to list and start trading options on the so-called
"Alpha Indexes," a Securities and Exchange Commission filing late Tuesday shows.
The indexes, co-created by the designer of the first VIX "fear gauge," track
popular stocks' performance versus a broader market benchmark. By listing
options, Nasdaq hopes to let investors generate returns even when markets are
down, with options that profit when Apple or Citigroup outperforms even a
plunging stock market.
 
  "In stock options, you're actually making two bets. You're betting that Apple
will rise relative to the market, and also that the market will go up," VIX
designer Robert Whaley, now a professor at Vanderbilt University's Owen Graduate
School of Management, told Dow Jones Newswires at the indexes' October
unveiling. "With these, you're getting a more precise investment in something
you have some knowledge about."
 
  The first batch of what are generically called "relative performance options"
compare Apple, the SPDR Gold Trust (GLD), the iShares MSCI Emerging Markets
Index Fund (EEM), and the iShares Barclays 20+ Year Treasury Bond Fund (TLT) to
the SPDR S&P 500 exchange-traded fund (SPY). Also in the first group is an index
that compares Citigroup versus the Financial Select Sector SPDR Fund (XLF).
 
  The values of the indexes, when launched in October, were set at 100. The
better or worse the stock performs versus the benchmark, the higher or lower
goes the index.
 
  Nasdaq hasn't announced a launch date for the options, though it said in
October it planned to commence trading in early 2011 on its PHLX exchange in
Philadelphia.
 
  The severe stock-market gyrations of the financial crisis and last year's
"flash crash" spurred greater interest in vehicles to track stock-market
volatility and "trade" it. Correlation also rose in those periods, prompting
Wall Street's efforts to list ever more complex volatility products on
exchanges.
 
  The options are slated to be cash-settled and European-style, meaning no
physical shares change hands and closing transactions are handled on the date of
expiry, according to the SEC filing.
 
  Nasdaq officials were not immediately available to comment.

Special thanks to Brendan Conway   Of DOW JONES NEWSWIRES

Posted January 28, 2011 at 11:28 AM

Credit spreads should be a mainstay of your trading game plan. So much of your success in this trading
strategy begins with the proper design and implementation of the trade. The following 12 tips will help
you on the road to credit spread stardom.

1. Begin with a bullish or bearish selection from the Market Timer Algorithm.
2. I favor selections that are consistent with the overall trend of the market, so if the market is
trending bullish, I will focus on bullish selections and if trending bearish, then bearish picks.
3. The “Margin of Safety” refers to the placement of the short option strike price as it relates to
where the stock is trading. I like to have the short option at least 8-10% away from price. That
kind of a margin will allow the stock to move against the trade and still produce a winner. It will
allow more room to adjust if a “shock event” occurs.
4. Associated with point #3 is the use of probabilities when considering the placement of the short
strike. I prefer a probability of at least 85% or a delta of .12 to .15. This is important to take
note of, as adjustments can be made as it relates to the change in delta which we will cover in a
future article.
5. The spread should be placed so that the short option is at or below strong support as defined
by a confluence of indicators such as trend lines, major moving averages, chart patterns such
as double and triple bottoms, Fibonacci levels and major reversal candlestick patterns. The
aforementioned criteria should be confirmed by the presence or absence volume and key
oscillators such as Stochastics and the MACD.
6. Trade only highly liquid stocks that exhibit at least one million shares of daily volume. There
should be at least 100 contracts of open interest at each of the strikes in the credit spread.
7. The stock chart should reflect a stock that trades smoothly with little or no gapping activity.
8. No fundamental events such as earnings should be present during the options cycle because
that could act as a catalyst for movement which would be counter to what the credit spread
trader would desire.
9. I stay away from Bio Tech stocks due to the unexpected nature of FDA announcements which
can quickly move a stock.
10. Check the message board on Yahoo.com on the stock you are trading for any unforeseen events
or news that you may be unaware of such as rumors of take over’s, product recalls, lawsuits
etc. All of this type of activity could be a catalyst to move the stock and subsequently hurt your
trade.
11. Consider the width of the spread as it relates to ROI and Risk. Sometimes you can get a superior
return on a smaller spread; however, you may need to increase the number of contracts in
order to generate enough of an absolute dollar return to make the trade attractive. Determine

the amount of dollars you are willing to risk as a percentage of your portfolio and let that be a
guide as to the spread width, risk and return.
12. I encourage you to consider closing the trade early when the majority of your potential return
has been achieved. If you can stay out of expiration week and collect your reward early, that is
a bonus.

Next time we will talk about the adjustments that can be initiated if the credit spread trade is
threatened. Adjustment strategies can help you mitigate loss and turn an otherwise losing trade
profitable.

Mark Espy