Registered User
Joined: 10/7/2004
Posts: 2,126
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Hello to all. I have been away for a while consumed mostly in the studies of derivatives and doing some day trading as usual. As I have become more fluent in derivatives a lot of new ideas have surged. Initially I was interested in derivatives as an "insurance to a long term position", meaning any position held for longer than a month. That has been learned and welcome as it may encourage me to place some longer term trades, which I haven't since 1998 when I started daytrading. I am not going to get in here into the specifics of insuring a position, besides is not the topic here, but instead I like to expose to you a system which me and a trader friend are currently designing and testing. Please pay attention, and feel free to critize if you like as we are opened to any commentary in regards to pit falls, risk, rewards, etc
Here is a general description of the system.
The System has been named Boomerang.
1 - You are going to need a partner as the system will have two positions taken by two different people. The profits will always be splitted in half. One half for each of the investors exercising the system.
The Market Maker will never be able to track your intentions.
2 - You will need optionable stocks with High BETA - the Highest the better.
3 - The stock will have to be at or near a strike price of its options to enter the trade
4 - Once the stock is at that point two positions will be opened.
Investor A will buy the stock long, and will open a position on a PUT option with enough contracts to protect that position 100%
Per example - Buy 1000 shrs of F at $8, and buy 10 contracts of PUT options at strike 8 of Sept (The system will best work with a 3 or 6 month option - the longer the better althought you have to balance your cost)
Investor B will short the stock and open a position on a CALL option with enough contracts to protect the that position 100%
Per example - Short 1000 shrs of F at $8, and buy 10 contracts of Call options at strike 8 of Setp.
5 - now we have 2 positions opened allowing us to profit wether the stock goes up or down - as soon as the cost of insuring the trade which usually is 8 or 10 % the rest is profit.
If there is a profit in the long stock position, then you can sell that position, then also the short position (and exercise call option to 0 that leg)
The PUT option can be left open to profit in case that stock decides to turn back down, or you can exercise for whatever may be left ot its value.
If there is a profit in the short stock position you do viceversa of above.
There is only one weak side to the system - that is if the stock decides to move in a close range for the duration of the contracts. You will never loose more than the cost of you option for the duration of the contract anyways. YOu can also even reduce that cost by selling covered calls later into the contract to offset the cost of protection with the proceeds from selling the call. Remember that this system covers one of the greatest problems with covered calls, that is if the stock tanks, because the person position short would greatly profit there, and your long stock will aways be safe with the PUT protection.
I hope this help you folks to place safe trades with high probability of profiting.
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Registered User
Joined: 1/28/2005
Posts: 6,049
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Welcome back bigblock.
I have found that when using hedged two-sided systems.
The cure can be worse than the disease.
I would think that if this system is successful. Then a system
where you are only Investor A would be even more successful.
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Which ever side of the equation makes the profit. (long/short)
The other side is always neutral. (In theory it has no profit or
loss) However if the stock stays flat. You are losing premium
on both sides of the equation. So a situation is created where
when you are correct the hedge is invisible. When wrong it
is twice the risk.
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The argument for a two sided position is that it will profit on
an up or down move. However that is not so clear either because
profits will be split between the two traders.
Lets say on the two sided system.
Investors A and B see:
Trade#1 $500 profit long
Trade#2 $500 profit short
Trade#3 $500 profit long
Trade#4 $500 profit short
Investor A alone would have this result:
Trade#1 $500 profit long
Trade#2 $0 profit short
Trade#3 $500 profit long
Trade#4 $0 profit short
The single trader would still see a $1000 profit.
The first dual trade seems more successful. However it
is an illusion because profits must be split between two
traders.
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One last point. To fully hedge the positions. The most expensive
options have to be purchased. As close to in the money as possible.
Which of course puts the burden on the profit side of the equation.
When all is said and done. I don't think this would compare
favorably to a system of just long/short stock buying/selling.
It appears you have risk but that is compensated by the fact
that when you are correct it is free and there is a smaller
yardstick needed to measure being correct.
If the system does work. Then I would think the long only
side would work better. (for the reasons stated above)
I'm not an options expert by any stretch of the imagination
but my guess is if this type of thing were successful we would
have heard more about it.
Thanks
diceman
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Registered User
Joined: 10/7/2004
Posts: 2,181
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Hey bigblock;
I know nothing about options...just wanted to say welcome back. Hope you're around to stay.
The bottom feeders club promises to try not to be too annoying.
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Registered User
Joined: 9/21/2005
Posts: 566
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Interesting idea Bigblock. I think I am with Diceman in his analysis. I see a fairly high risk that the stock does nothing while the option's value decay over time. Here is an idea regarding options I heard about though dont know if it has any merit. You buy a convertable bond (which is really just a bond along with a long term option attached to make it more attractive). Now you buy a number of put options to cover the value of the bond. If the bond price drops, and you can convert, you do so and deliver the stock to protect most of the value of your investment. If the bond price goes up, you can convert and benefit. If the price does nothing, you lose the value of your put options but get the interest from the bond to compensate. So if the option you buy is not too expensive and the interest on the bond is reasonable, it almost can give a cost neutral way to play the bond long. The one problem with this is are the mechanics and rules about conversion - if there are too many restrictions or its too expensive it would not work.
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Registered User
Joined: 11/1/2005
Posts: 240
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bigblock, this looks like something usefull for someone not sure of their ability to judge the trend of the market and investment choice??
I was wondering if you were lurking.
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Registered User
Joined: 10/7/2004
Posts: 2,126
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Well thanks to all responses.
Diceman you have raised some interesting observations that we will be looking at in very short time, I appreciate the elaborative response.
Jcfla7 your view is well appreciated also, and eventually it will be studied as well. Althought the focus now is on options until fully assimilated. I know some folks also need help with bonds
jimstacy in response to your question - I am not sure wether this would be useful to someones ability to judge a trend. The initial idea involved a lot more than not worring about the trend. Notice that you can profit from both swings on the position, since both legs of the trade have their own position. And also the you can close the stock position at a profit while still leaving the option position open. Successfully exicuting that involves predicting both side of a swing.
Anyways, I am a daytrader - have been for over 9 yrs now, and never needed any options to verify a trend or investment choice (meaning which stock, sector, market, etc).
The reason for becoming interested in options is that many friends and relatives have been asking me often for advice on what to do in times of trouble when a trade or investment went against them. I have always known the basics of hedging with options, but not in full detail. My need for options is minimal as I scalp, or swing the intraday markets and options have never serve any purpose to me. I am in cash each and everyday regardless of the outcomes of my intraday trades.
Hope you guys are all doing well in you trading and wish you the best of luck for 2007.
I will come around on and off - certainly not as I used to due to current time limitations, and to the fact that am still unsubscribed to the TC plataform because of a browser advertising/remainder issue I had with the folks at Worden, and that they refuse, or ignore to acknowledge. I have been using Amibroker with e-signal since and it has been working very well. I still enjoy this board and the folks aboard.
good luck.
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Registered User
Joined: 10/7/2004
Posts: 2,126
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Ok Diceman, i had some more time to reflect on your reply. Indeed the system is weak as the stock may range for the duration of the option, and go nowhere. We are currently working with a third party who specializes in covered calls, as that may be the only solution to counter this flaw. It is to be noted that a requirement to the system is that stocks must be high beta (>5), and that should take care of falling into ranges for an extended period as it is 3 or 6 months.
On another note, in the instances when the stock does move one way or another it is true that a single investor being on the right side of the trade would profit greatly, but if he is not then he will not profit. The idea here was to profit (not max profit)regardless of direction with a protection in place.
Also it is to be noted that in a period of 6 months the swing may be multiple as in the following example
Lets say in a month the stock swings up over the 20% threahold then the long investor sells the stock and keeps the put option open in place (at this point there has already been a profitable trade, but still 5 month to play the remainder of the trade)
Then the stock may swing down in which case the PUT option from the long trade will start to make money past the strike, as well as the second trader short will also make money. If the stock swings 20% down then you have 20% base on Delta, plus 20% on the short trade (remember the cost of the Options was covered in the first Up swing).
At this point you can close the short trade, excercise the PUT, and still leave the CALL open in case the stock decides to swing back up one more time. Or you can exercise that CALL for the premium left minus depreciation.
The beauty of the system is that both traders will profit less but always, regardless of which way the stock swings.
A single investor can only profit on one side of the swing, and that cuts your odds 50%.
In our system the odds are 66%, and the cost can be cut down as expected by selling the covere calls if the need arises.
A single investor in the short side couldn't do that.
There are many other scenerios that could potentially happen in such a long time, but I still think that with a cap on a 10% loss is a good set up. How many are shaken in stop limits at 10 and are left cold and empty handed? Here the market maker can do a darn thing about shaking you out, and putting that cut in their pockets.
This system will benefit most in the most volatile enviroment regardless of direction - we are currently searching for those enviroments.
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Registered User
Joined: 1/28/2005
Posts: 6,049
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"A single investor can only profit on one side of the swing, and that cuts your odds 50%."
But that investor will keep all his profit.
Even though 2 investors can profit 100% they will have to split it.
Remember that if the single investor profits $4000 in 1 month.
2 investors must profit $8000 to be in the same boat.
(the $4000 is fixed and will not change. The other $4000 must be
made on the other side of the equation)
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This brings up another interesting question. Will profits be evenly
distributed between the long and short sides?
My guess would be no. Anyone who has tested systems knows the
long and short sides are not mirror images of each other.
If you trade the system and the first month the long profit is
$4000 and the short profit is $2000. The second month the long
profit is $5500 and the short profit is $3500. You have a situation
where you would have been better off devoting twice the capitol
to the long side only.
Thanks
diceman
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Registered User
Joined: 10/7/2004
Posts: 2,126
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Again the goal of the system is to increase the odds of profiting, and not to maximize profits.
The preservetion of capital open to good opportunity is the key to success in investing as well as trading.
This system already incorporates this by capping your losses to a max of 10% for lets say a 6 month period, while opening a 6 month window of opportunity.
You have to worry about nothing for 6 month because it doesn't matter where the stock goes - up or down.
In fact that is where you want the stock to go all the way up or all the way down - and then you will be in your way to the bank. Most folks that I have helped, and that I have asked - how would you like to invest have said to me - "I don't want to even look at this stuff. I just want to invest my money and forget about it". The do not want to be involved with the markets.
With this system you can basically do that. And no stress on swings, in fact you should be sheering while the stock makes great swings regardless of direction. You don't even have to worry about market direction. The so called gurus say that the markets volatility is going to increase I say to my customes "good" - bring it on and we will tame the lion. I have to laught at main stream wallstreet and the stupid media sources who comes up with such a lame reasons for any determined market action. The best thing is to keep you ear plugs from all of that garbage. Anyways, in regards to the profits - yes it is 50% split. The idea here is to profit like a said, and not to maximize profits. And most important is the preservation of capital. It doesn't matter whether the trade profits in long or short side - you never know that for sure. Both investors must come to the table clear about the 50% split in profits. If you can't keep the team togethere there is on system.
good luck.
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Registered User
Joined: 1/28/2005
Posts: 6,049
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Realize BigBlock
There is your system as it is.
Many traders will take a system or idea and adapt it to their
needs. They may be interested in ways to maximize profit.
They may be interested in a system that does not require
a partner. (and so on)
My points are to illustrate areas where there can be
possible improvement and the pros and cons of various
decisions in the process.
Every system will eventually undergo a "trial by fire" in the real
markets. I think it should be the traders goal to be the systems
harshest critic. We want to make our decisions objectively and
with out bias. We want to find every flaw we can and hope
we have not missed anything in the process.
Remember that if the system is a great success. That will take
care of itself. If the system fails. We want to hopefully spot
the flaws before real money is committed to it.
Thanks
diceman
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Registered User
Joined: 10/7/2004
Posts: 264
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Unless I am reading it wrong, sounds like a long straddle to me. Take the stock positions away because they would net out -- why tie up capital and pay commissions. You make money on the options if the stock moves significantly in one direction or the other -- doesn't really matter which. Loose if the stock stays flat. Am I missing something??
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Registered User
Joined: 3/14/2005
Posts: 20
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Rather than having two investors, why not open a second account at another brokerage?
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Registered User
Joined: 10/7/2004
Posts: 2,126
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Golfman you are absolutely right. It is good to learn something new everyday. Wouldn't it be funny if after 9 yrs daytrading equities I became a just options trader. At least Chicago is near by, may be CBOE floor is my next stop.
Thanks and good luck.
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