Before getting into this week’s investing topic, I want to tell you about a special free event I’m participating in next Thursday. I’m holding a LIVE options webinar on Sept. 25, and I would like to give you first dibs to sign up. We have limited number of seats available for this webinar and, as a valued reader, I want you to be able to take part.
During this live event, I’ll discuss my two basic strategies for producing income. I’ll also go over a few real-time trades, including another Apple trade – and best of all I’ll field questions from attendees.
If you’ve ever had any questions about options and option strategies or would like to talk with me personally, next week is your best opportunity.
OK, on to the topic of today’s issue.
What would you buy now?
It’s a question that we, as self-directed investors should have to answer. Yet the question is asked everyday in almost every financial media outlet. And most of the answers lack depth and sound reasoning. Moreover, the probability of choosing a successful stock is always 50/50. Why do you think monkeys throwing darts at The Wall Street Journal stock section performed as well as the professionals?
This concept underlines the success of my strategy: Most of the time, we probably shouldn’t be buying or selling anything. As investors, most of the time, the odds are stacked against us. That’s why we have to be so focused on patience – to wait for the times when the odds are stacked in our favor.
That’s my strategy.
Does that mean we won’t have losing trades? Of course not. Losing trades are part of investing. There is no holy grail when it comes to investing. It’s proper position-sizing that leads to long-term profits, but I will save that for the webinar as well.
As an example of how I use this strategy in actual practice, let’s look at a bear call spread.
A bear call spread is a credit spread composed of a short call at a lower strike and a long call at a higher strike. In essence, it is a way to protect your portfolio from any near-term decline in the market. The nature of call pricing structure tells us that the higher strike call we are buying will cost less than the money collected from the sale of a lower strike call. It is for this reason that this spread involves a cash inflow or credit to the trader/investor.
The ideal condition is for the spread to expire worthless, thus allowing you to keep the premium collected at the time of the sale of the spread. In order for this to happen, the underlying stock will have to close below the lower strike call option that you are short.
In essence, a bear call spread is an options strategy that lets me choose my own probability of success based on my risk tolerance. Yes, that’s right. I can choose my own probability of success.
Let me explain, using options on the Dow Jones (NYSE:DIA). The table below is a partial listing of some DIA call options that expire in November.
With DIA trading at $172.50, I want to choose a strike that meets my risk/return objectives.
I prefer to put a little more on the table to gain a higher probability of success, because ultimately you want a winning trade. Yes, I could bring more money in by selling a strike that is closer to the current price of DIA. But this lowers my probability of success. Don’t forget, the ultimate goal is to increase your probability of success while at the same time taking on risk that allows for a return that is suitable for your income goals.
Again, this is how one important way that I trade in the Options Advantage portfolio.
For my trading with this strategy, I prefer a win rate/probability of success in the 70%-90% range. As such, I like the 178/180 bear call spread or the 179/181 bear call spread.
Both have a high probability of success.
I like to give myself a decent margin for error, which obviously increases my probability of success. For example, the 179 strike allows for a 3.8% cushion to the upside. So DIA would have to move above 179 for the trade to start losing value. As long as DIA stays below 179 through November options expiration the trade is successful.
So basically, you can be wrong in your directional assumption and still have a winning trade.
Credit spreads are my favorite way to trade options, particularly selling vertical spreads. It’s an extremely simple strategy to learn and arguably the most powerful strategy in the professional options traders’ tool belt.
Click here to get signed up for my webinar event, and you can ask me your questions on Thursday.
Earn 10% Per Month In Extra Income: A Safe, Simple Step-by-Step Formula
My most recent webinar was another rousing success. If for some reason you weren’t able to make it to the live presentation – you’re in luck… Because the video of our entire presentation is still online. So if you missed out, here’s your chance to watch it. You can view it now by clicking here.