The "Daily Call" From Option Alpha

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#360 - What Is Capital Appreciation? Sep 17, 2018

Show notes

Hey everyone. This is Kirk here again at Option Alpha. Welcome back to the daily call. Today, we're going to answer the question, "What is capital appreciation?" This is more of a basic concept, but I thought it was interesting to just add it in here because we did get a question on this from a user who was just wondering like what's the difference between investing for income and investing for capital appreciation. Capital appreciation is nothing more than just the rise in price due to the market or the underlying factors of that security. This could mean that the general market is rising, so most stocks are rising with the market or that a particular company or ETF is doing well or something well is happening in that sector or industry and so, that causes a rise in price as well. That's one of the ways that you can obviously make money as an investor and stock and equities trader, is just to play the rise in capital appreciation.

Now, conceivably, most people and most investors in the entire investing universe, I'd say 99% of them, this is the only way that they know. There's a one-directional road to making money and it's a rise in the stock or ETF or index price of whatever they're investing in. Obviously, we know that there's another path and that is that you can generate income from selling options, you can generate income from dividends or from covered calls, you can play the decline in capital, so not capital appreciation, but capital decline where you can profit from a decline in an underlying security. I think it's an interesting concept because it's a one-directional street that most people think you have to travel down, but there's actually many different paths to generating income. Capital appreciation is one way, that's how most people play it, but it's not the only way. Hopefully this helps out. As always, if you have any questions, let me know and until next time, happy trading.

#359 - Why Money Managers Use Options To Buy Insurance Sep 16, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to discuss why money managers use options to buy insurance. I think this is an interesting discussion because like all places in the markets, we see that many money managers and many brokerage firms and portfolio managers use options to buy risk protection, hedge protection or insurance for their portfolio, but the question is – Why do they do this? If they generally know that option buying is a bad idea and generates negative expected returns over the long term, why do they still continue to buy this insurance which is a valid question? To me, I think it comes down to two possible things. The first is simply the fear of losing their job. And I say this with all honesty because I think most money managers or portfolio managers fear being cut by the board or the directors for that portfolio or that company if they find themselves in a situation where they took on too much risk. The idea here is that no one's going to get fired if they buy insurance protection because if the market crashes and you have insurance protection, you're covered, you're okay, you're not going to lose your job. I mean, these people are regular humans just like me and you.

But I think the other thing that comes into play here is that nobody ever gets fired for buying IBM. It's the classic phrase or saying, right? If you're a money manager, you're not going to get fired for buying insurance because even though it might lose a little bit of money, nobody's going to go up to the board and say, "This guy bought insurance to protect the portfolio and insurance is a negative yielding expectation, so why are we doing this? We need to fire this guy." No one's going to say that because the money manager can come right back in and say, "Look. I'm buying protection because in case something bad happens, we want to have some insurance in place." And so, what people don't understand is that this insurance comes at a cost and they recognize this. They know that this is the cost of doing business. They recognize that in many respects, it's never going to pay out for them. But it's that one time that they needed to pay out that they end up paying for this and this is why they have it, so that they have protection in case of any of these black swan events that occur in the market.

Also in many respects and I guess this gets to number two, is that many portfolios, many mutual funds based on how their structured and what their investment objectives are, require that to some degree, they have hedge or insurance in place at all times. Whether the manager or the portfolio manager doesn't want to have the hedge on or not or chooses to have the hedge on or not, it maybe a mandate of that particular investment product, that ETF, that vehicle that they maintain that hedge at all times. In many respects, even though like I said, they don't want to have it on or maybe they want to be fluid in adding it or removing it to the portfolio during different environments, the actual charter or the directive of the fund or the portfolio would require that they actually have that insurance in place which allows them then to continuously buy options. Hopefully this helps out. Hopefully it gives you a little bit more understanding potentially of this space as well. If you guys have any questions, let me know and until next time, happy trading.

#358 - What Equipment & Tools Do You Need To Start Trading Options? Sep 15, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha. Welcome back to the daily call. Today, we're going to be answering the question, "What equipment or tools do you need to start options trading?" Now, we're specifically talking about kind of physical equipment and tools that you need and I really think it just comes down to having some sort of internet connection via a computer, a tablet or a phone. Really, nothing else is required. You don't need any fancy screens or monitors or software or desktop setups, fancy desks or chairs. It really doesn't matter and ultimately, you can do this from anywhere in the world which is why I love the markets and I love options trading so much. Now, I see a lot of guys and a lot of companies out there showing pictures and ads online of desktop setups for traders that have 17 different screens and all these different chair setups and desk setups, so that you can optimize your trading. Ultimately, I think a lot of that stuff is an ego driver for whoever is ultimately going to purchase that. You don't need 17 screens. You don't even need two different screens necessarily for your trading.

My setup is actually very easy. When I'm at home, I do everything on my iMac which is just in my office downstairs which also happens to be the play room for my kids because I share the room with them, so I can watch and monitor them as I'm doing work if I'm doing it during the day. But when I'm traveling, I use just a simple MacBook Pro from Apple as well and then I also have an iPhone which I use a lot for trading additionally. For me, it's just the computer, the regular laptop and then my phone. Also, my wife has a tablet which I don't really make trades on there because I can do it pretty easily from my phone or from my computer, but you could if you want to. I know a lot of traders also use a tablet. But you can see that ultimately, it's just what you already have in place right now. You don't need to buy anything special or any special software. For me, I like using the Apple products because everything is connected among the different technologies, so what I do in one place is associated to another place and another place and so, I don't have to go back and forth or send files back and forth which makes it very easy. Again, it's not too complicated. You don't need to over-think this and please don't go out and buy one of these 17 monitor screens setups. It will be a total waste of time and a total waste of money. As always, hopefully you guys enjoy this and until next time, happy trading.

#357 - The Ultimate "Quick" Guide To Covered Calls Sep 14, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to go through my ultimate quick guide to trading covered calls. Now, covered calls are a favorite option strategy for those who are bridging the gap between being a regular stock trader and starting to convert into an options trader. And this is why I like covered calls because they truly are the bridge between the gap in equity traders and options traders. Covered calls are simply the option strategy that is designed around stock ownership. It requires that you actually own underlying shares of stock and then what you would do is sell a call option out of the money and use the proceeds from that call option to reduce the cost basis on your stock ownership. Now, it's called a covered call because the call option that you sell is covered by the underlying shares that you already own in your account and this is opposed to say a naked or a single leg call option, in which case, you would be uncovered if you do not already own the stock.

Now, covered calls are a great vehicle. They do generate returns for your account, allow you to reduce cost basis, increase the probability of success in a trade and I think that it's something that every equity investor or stock trader should be using if you have a long-term position in an account or stock or ETF. Now, we have written a couple of different reports on this. More notably, we wrote up a new guide that you can get which is called the mastering the covered call report that will be coming out on the website very soon and we also have extensive research that we've done into the covered call space where we've gone back in time and we've researched hundreds of thousands of different covered call opportunities, different settings to see what works in different market environments, different timeframes, different Deltas, different profit-taking levels and you can get that very soon on the website as well. Both of these resources will be available for those traders who are interested in learning more about covered calls and also how to optimize their covered call strategy in different market environments. As always, if you guys have any questions, let me know and until next time, happy trading.

#356 - Computer Generated Chart Patterns For Stock Trading Sep 13, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha. Welcome back to the daily call. Today, we're going to be talking about computer-generated chart patterns for stock trading. The idea behind this is that there's a lot of services that are kind of springing up all over the place that have the ability to generate chart patterns on-the-fly for particular stocks. In fact, actually, the brokerage that we use which is TD Ameritrade and Thinkorswim has this functionality built into its charting software already, so you don't actually have to buy any other software technology out there. It's built into some of these broker platforms already and the idea is that based on some preset parameters and filters that the software is looking for, it can figure out if a particular chart pattern may or may not be present in the stock that you're looking at, at the time. Now, many of you know my love-hate relationship with chart patterns. I love conceptually what they represent because I'm a visual learner, so I like the idea of seeing a chart pattern develop and I believe that there are very good traders out there who rely on chart patterns and probably do very well using chart patterns.

In my opinion, however, I think most chart pattern trading is very subjective. I think that if you look at any particular chart and you give it to 15 different traders, tell them to draw chart patterns, you will end up with conceivably 15 different examples of chart patterns. Where any computer-generated chart pattern fails in my opinion is based on the inputs of the human that ended up writing that programming software or that software to find and analyze chart patterns. Did they have any real expertise? Are they using any quantifiable or data-driven metrics that show us that at some particular range or metric or timeline, specific chart patterns work or don't work? And again, I think that's highly subjective. What looks like support to somebody else could look like resistance to another person. I think it's an interesting concept. I do think this space will evolve over time and I think right now, it's very much in its infancy. People are starting to use it a little bit more. I am much more of the opinion that a lot of our edge in the market can be driven by things that are not so subjective like chart patterns. Hopefully this helps out. As always, if you guys have any questions, let me know and until next time, happy trading.

#355 - Does Hedging A Portfolio Help Or Hurt? Sep 12, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to answer the question, "Does hedging a portfolio help or hurt?" Well, the answer to this question is it depends. It depends on what happens during the timeframe that you have the hedge in place for your portfolio. Now, of course, the idea of hedging a portfolio is the concept that we're going to take a little bit of the portfolio's account or income and purchase some sort of insurance or protection either in full or partial on the rest of the portfolio. The idea is that this hedge kicks into place when something bad happens. For example, in the insurance and housing business, this would be the homeowners insurance that you have on your house, so that if God forbid, the house were to burn down to the ground, the insurance would kick in and help repay to rebuild the house or relocate you and your family. It's the same concept with options trading and with a stock portfolio. What most people do is they do buy portfolio insurance and protection. At least most mutual funds and fund managers do this on a reoccurring basis. Whether they use individual option contracts or general broad markets contracts like VIX, VXX, UVXY to hedge, they will generally have a small hedge in place.

Now, the answer again is it depends because if the market does go down and those hedge contracts increase in value, that can help kind of shelter the portfolio to some degree from a large move down or up in the markets. If the markets do not make the large move that's required for the hedge to kick in and start generating income, then obviously it hurts the portfolio. Now, as a general rule, we prefer to be on the opposite side of a hedge trade, meaning that we prefer to be the insurance company in this analogy and to sell insurance to people, sell options contracts to other people that are looking to hedge. This means that we generate in our opinion and based on our research and lots of data, we generate higher expected returns with much more consistent income stream by being an option seller. We believe that more often than not, insurance as a purchased portfolio protection vehicle does not generate a proper hedge for a portfolio and therefore, the money that's really made in many of these instances is made by the insurance companies collecting premium and letting the markets be very calm over the course of a couple of months. Hopefully this helps out. As always, if you guys have any questions, let me know and until next time, happy trading.

#354 - The Ultimate "Quick" Guide To Paper Trading Sep 11, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, I want to go through my ultimate quick guide to paper trading. In particular, I want to walk through some of the benefits and drawbacks to paper trading. Now, paper trading is just this concept of simulated or basically, fake trading in the stock market as a means to understand how different broker platforms work, understand how the mechanics of a particular market might work and again, it's an idea that you can trade in this enclosed sandbox without putting real money at risk. Now, of course, this comes with some benefits and some drawbacks.

Now, to me, the single biggest benefit to paper trading is that again, it helps you get familiar with the mechanics of how a trade works, how to place an order, how to associate different option contracts together, setup the pricing and then actually start to execute on that pricing. It gives you the ability also to enter a lot of trades at the same time which you might not do in a real trading account. For me, it's like practice and you should treat it like practice, meaning you should take a lot of shots, you should make a lot of trades in paper trading, see what works, see what doesn't work and really hone in your skills before you have to narrow your focus to a real trading account. Now, again, you also have the ability to start and consider generating a portfolio that is now balanced and then managing the portfolio and ultimately adjusting the portfolio over the course of a couple of months and this all can happen in a paper trading account. It's a great learning tool, like I said. It really helps you understand how the markets work, how trades work and gets you going and gets the pedals moving if you will on your trading journey.

Now, some of the drawbacks to paper trading, in my opinion is that with paper trading, you're not using your own money, so for me, you don't have skin in the game. And trading with real money emotionally connects you to the market and causes you to create and generate different decisions, different than you would otherwise in a paper trading account. Now, we all know this to be true and although we can try as much as we want to believe that the paper trading account is real money, the reality is that we know subconsciously or consciously it's not real money, so we act and we behave a little bit different. Without real money in the game, you're not forced to make decisions about generating income. Your money is really at risk when you are trading real money and again, it forces you to start making serious decisions versus if you're paper trading, you might make decisions you might otherwise not make with a real account.

Now, in my opinion, I think paper trading fills and technology is a lot faster which actually generates this fake façade that the markets are very quick to fill and that doesn't actually happen in the real market. A big drawback is that when you start paper trading, you'll start entering contracts and they'll get filled very quickly, but in the real world, it might take a little bit of time to actually see that pricing filled especially if there's a lot of volatility. Now, the last drawback to paper trading in my opinion is that when people start paper trading, they often open up an account or readjust their paper trading balance to an account size that's much larger and not representative of what their true account size is. My suggestion is you should always adjust your paper trading account to the exact amount that you will be trading in the future and try to start with that level. Don't assume that you're going to make or have more money available. If you can't learn to win with a small account, having more money in your account is not necessarily going to be a quick and easy fix for generating more income.

As always, if you guys want to learn more about paper trading, just check out our post and podcast on the regular website. We did have a very nice long podcast where we talked about a lot of these different topics in-depth on show number 66 of the weekly podcast which you can get to by just going to optionalpha.com/show66. As always, hopefully you guys enjoy these. If you need anything else, let me know and until next time, happy trading.

#353 - How Many Shares Of Stock Should You Buy? Sep 10, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to answer the question, "How many shares of stock should you buy?" I'll give you my honest opinion on this and I think the answer is zero. I do not think that you should generally use stock unless you're forced to use stock in your account. Now, this is my opinion on this and I think that stock is incredibly inefficient and also requires a lot of capital. What I think you should do instead is I think you should use options to trade stocks synthetically. And so, what I mean by this is that if you are absolutely bent on owning underlying shares of a particular company, why not just trade these synthetic equivalent of long stock which would be to buy an at the money call and sell an at the money put and by doing that, you basically trade the synthetic equivalent of what would be a long stock position, but the requirement for capital would be considerably less to do this.

Now, if you're in an IRA or a retirement account, you can also replicate very similar, a stock position by buying a deep in the money call option with maybe an 80 or 90 Delta and that would again, require much less capital and be a little bit more efficient in not only replicating the upside potential of a stock, but also protecting you in case the stock actually moves lower. I think unless you are forced to do it or unless you have some underlying assumption that requires you to own stock, actually owning shares of stock is incredibly inefficient and also leaves you open and vulnerable to a lot of risk. Now, if you do decide to buy stock, the number of shares would be equivalent to the amount of risk that you're allowed to take for that position. Since we openly suggest that people should never invest more than 1% to 5% of their account in risk per ticker symbol, I would suggest that you keep the allocation really low. If you buy shares of a particular stock like Amazon or Google or Netflix or Tesla which are all higher-priced stocks, you would want to keep your share account low, so that the capital that you have at risk and in the market exposed is less than 5% of your total account balance. As always, hopefully this helps out. If you have any questions, let me know and until next time, happy trading.

#352 - Trading During Pre-Market & After Hours Sessions Sep 09, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to be talking about trading during premarket and afterhours sessions. Premarket and afterhours sessions are the times (directly like it suggests) right before the market opens regularly around 9:30 Eastern Time in New York and then directly after the market closes which is usually 4:00 PM Eastern Time in New York. Those are those premarket or afterhours sessions. Now, we typically see and hear about these premarket and afterhours sessions because of stock earnings or announcements and we hear one stock is trading higher afterhours or trading lower afterhours. This is why we typically see these environments happen. And so, what a lot of brokers are doing is now allowing many people to start trading the underlying stocks during these time periods. And so, we're specifically talking about the actual stocks themselves, not the options contracts. During these time periods, it's a good opportunity to quickly adjust a position or get in or out of a position when the regular market hours are not in session. Now, the caveat to this is that because it is premarket and afterhours, the liquidity is much lower, the spreads are much wider and it's much harder to get filled in these times. Not that you can't do it, but it's a little bit harder to do it.

Now, TD Ameritrade is the first one to really open this up and they open this up with what they call 24/7 contracts that can be traded all the time or stocks that can be traded all the time and this usually runs from Sunday at 8:00 PM Eastern Time to Friday at 8:00 PM Eastern Time. During this time period throughout the week, you have the ability to trade a lot of these highly liquid big-name securities, things like FXI, SPY, EEM, GLD, SLV, DIA, UNG, TLT, IWM, QQQ and USO. I think those are the ones that were initially rolled out. And so, with those tickers in particular, you have the ability to trade pretty much the entire time that there are available sessions for that during the week. Now, Robinhood on the other hand also opened this up for most tickers as well and extended this across a lot of other securities and individual stock names and with extended hours trading with Robinhood, what they allow you to do is trade basically the 30 minutes before the market opens and then the 120 minutes after the market closes, so about two hours after the market closes until 6:00 PM Eastern Time. Again, a very similar type of framework. It's a little bit different for each, whether you're at Robinhood or TD Ameritrade or other brokers might start rolling this out in the future, but I think this is good. I think that ultimately, more access to the markets for traders and investors like me and you is a really good thing in this market. I think it shows that we're starting to level the playing field and we're starting to open up the gates if you will to regular people. And so, we don't want just institutions and just major banks having the ability to move the market without some sort of influence from potential retail traders or the masses. I like the idea of doing. Hopefully it starts rolling out to other securities as well and definitely rolling out to options contracts in the future. As always, if you guys enjoy this, let me know and until next time, happy trading.

#351 - The Ultimate "Quick" Guide To Bull Call Spread Sep 08, 2018

Show notes

Hey everyone. This is Kirk here again from Option Alpha and welcome back to the daily call. Today, we're going to be going through the ultimate quick guide to a bull call spread strategy. Now, a bull call spread option strategy is a strategy that is defined risk where you are buying one option in the money conceivably and selling one option contract out of the money for a net debit. Now, this is like we said, a bullish strategy, so your directional assumption is that the underlying stock will make a move higher in order for this strategy to potentially profit. Now, where you place your bull call spread strikes is then reflective of how aggressive you want to trade the particular stock or how far you think the stock might move. Now, in our example, we suggest that you usually use these strategies by buying one option in the money and selling one option directly out of the money and trying to create a spread around where the stock is trading at the exact moment. Now, if you're a little bit more aggressive and you're trying to take on a little bit more risk, you think the stock might rally quickly and you want to capture a bigger profit, you would then buy one option contract out of the money and then sell another option contract out of the money as well at a higher strike price on the call side. Now, in either case, this is a net option buying strategy, so it's not a strategy that we typically suggest people use all the time. You would try to use this strategy in a low implied volatility market after a stock has made a significant move lower and there's a higher likelihood of a bounce or a rally up. As always, hopefully this helps out. If you have any questions, let me know and until next time, happy trading.

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