The "Daily Call" From Option Alpha

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#171 - Can I Still Enter Your Trades Two Or Three Days Later? Mar 12, 2018

Show notes

Hey everyone, Kirk here again at Option Alpha and welcome back to the daily call. Today, I'm going to answer a question, "Can I still enter your trades two or three days later?" As part of our pro and elite membership, I obviously published the trades that I do. These are not buy or sell recommendations obviously of any kind. It's just truly what I do in my account. And so, people always try to mimic what I do and they try to ask like, "If you entered a trade on say Monday and now it's Thursday, is that trade still valid?"

Here's what I say to people in this and that is that what you should always try to do is you should try to mimic the strategy or framework of what I was trying to do. That doesn't necessarily mean you need to mimic the exact strike prices that we did. It means that you should mimic the framework. Let's say on Monday, the stock was trading at $100 and I sold an iron condor around this stock at $100, spreads were $5 out on either end, but now on Thursday, the stock is trading at $105, well, now, you need to use $105 as the center of your trade and then start selling options maybe $5 out on either end. You're using the same strategy, the same framework, an iron condor strike about $5 out on either end as the new basis for making that trade and you just need to basically move your position with the market higher or lower.

At the same time, you also need to try to get the same general credit. If it's a couple of days later, let's say I sold my initial iron condor for say $200. You might want to sell yours for something around $200. It doesn't have to be exactly $200. Maybe it's $205 or $198, somewhere around $200. You want to still try to mimic the pricing, the framework, the strategy of what we're doing. You don't necessarily need to trip over yourself to get into the exact same trades that we're doing because ultimately, markets move, underlying securities go up and down and so, we still want to be neutral to that new market pricing, the new expected move that the stock has. A short one today, but hopefully this helps out, answers the question. As always, if you have any comments or questions, let me know. Until next time, happy trading!

#170 - The "Expected Probability Paradox" For Options Traders Mar 11, 2018

Show notes

Hey everyone, this is Kirk here again at Option Alpha and welcome come back to the daily call. Today, we are going to be talking about a very interesting topic which is the expected probability paradox for options traders. Yes, this is what I call "the expected probability paradox." I don't know why I referred to it as that, but I did recently in a coaching session and now, I'm going to start using that because I think it actually really truly represents what this means. Here's the crux of why you're listening to this podcast or if I sent you this podcast or emailed you this podcast, added a link to it or referenced it, this is what we're going to be covering. The common question in options trading (we get this literally all the time) is – "If I'm trading at a 70% chance of success level and our max profit opportunity per trade is $100 and our max risk if we lose is say $300…" Again, showing that it's not a 1:1 relationship when trading options. If you could make $100, when you lose, you couldn't make or lose substantially more than that, maybe two or three times. I'm just using $300 in this case because it's a good round number. If we're trading at the 70% chance of success level, when we win, we make $100, when we lose, we lose $300. Then 7 out of 10 trades, we win, so we win $700, but 3 out of 10 trades, we lose and lose $900. It appears that it's either at least a zero-sum game or not. It's actually worse than a zero-sum game and at the end of 10 trades, even though we have a high probability of success, we end up losing $200. Really, what are the missing keys? Hopefully you're saying to yourself right now like, "Yes! Finally, Kirk! I want to understand this." Or if you're listening to this, you've maybe had this question pop up in your head before.

I think there's a couple of things that are missing from this whole equation that people just don't see and it becomes this iceberg effect. What I mean by this is that this paradox is like an iceberg. You see on the top level of the surface just the tip of what really goes on in the entire trading environment. And so, the top level tip looks like an iceberg. Everything below the surface though is really the mass of the iceberg. And so, in trading, people see this, they never take it beyond the entry which I think is where it starts. Everyone's missing if you ask this question. What you're missing is everything that happens post-entry. Even if you get into a trade like this and let's say I said this is a good trade to get into, still people ask, "Well, why did you get into this trade? The expected outcome is negative. It's –200 or –100 or zero. Why do you still get into this?" Well, there's a couple of things that happen beyond the trade entry that not only just happen in the environment, but also that we have control of that can tilt this thing into our favor and tilt this around from a negative expected return or a zero-sum game at the best into a positive expected return going forward.

The first thing that you have to understand is that implied volatility is always over-expecting the market to move and that implied volatility edge doesn't present itself until the end of expiration. What do I mean by this? I mean that if we have a 70% chance of success trade on trade entry, if we were actually to enter that trade over and over and over again and enter it every single time at exactly the 70% probability of success level, what we would find is that trade actually would win a margin that's higher than 70% chance of success. Call it 75%, 76%, 77% of the time. That differential is the fact that implied volatility at the time of trade entry is expecting the stock to move maybe 20%. But as you go through the actual expiration month, maybe the stock only moves 10% or 15%. It's that over-expectation of implied volatility that doesn't reveal itself, doesn't mature until the end of expiration. That's never present in the beginning. Now, we don't know what that edge is going to be. If often does change for some stocks. It's usually maybe a consistent five or six and some months, it's four and some months, it's seven, but that edge is present in the market. And so, that in and of itself means that instead of winning 70%, maybe we win 75% of the time. Okay. Now, we're starting to chip away at this. Now, we're starting to see that we're winning 7.5 times, maybe 8 times out of 10 and that starts chipping away at this potential loss. It starts chipping away at this negative expected outcome.

The second thing that you don't see in this is managing trades early for profits. What people commonly think is that if we manage trades early and say take 50% off the table early which is a common exiting plan, is taking trades off early at say 50% or 25% or 75% of profit, then what we're doing is we're actually cutting ourselves short. And to some degree, yeah, you call yourself short from the max potential profit, but what you also do is you take a trade that could've been at expiration, a massive, massive loss and because you took the trade off early, you don't experience that massive loss. Now, you increase your win rate just that much further and not only just increase your win rate, but you also cut out major losers. I could probably use a chart and point to a million examples of this happening during an expiration month. Literally, probably a million examples. It would take me a couple of days to do it, but I could point out a million examples of where trades would actually be profitable, you could take profits and if you took profits, you avoided massive losses before expiration. You've kind of cut or curved this tail end risk by managing trades early. And so, that's again, another way that you can do this. You've now start coupling these together, a little bit of over-expectation, a little bit of profit-taking, great. Now, you're starting to again, just kind of cut down this net loss.

The third thing that you can do that people always forget about after the trade gets entered is you can adjust and roll for duration. These are probably the two craziest things that you ever think about doing and people don't understand them. But once you understand that you can cut losses down dramatically by making adjustments, smart adjustments and you can roll for durations, so you can take a trade that might be a loser now, but roll that out to the next month or the next month or the next month going forward in the future and have the ability to profit further out in the future. If we have a trade right now that's like a framework of trades like the one we went through in this example where we're going to lose 30% of the time, well, what if instead of just doing nothing and taking that $300 loss, what if we were able to make a smart adjustment to that trade that cut that loss every single time that we had a loss from $300 to $200? Now, just doing that, just making that trade adjustment, now also turns us into a positive expected outcome. That's what we try to teach at Option Alpha and we got lots of examples of how to do that where you can make smart adjustments to trades without adding risk, without increasing position size that cut losses down dramatically. That's I think what makes the difference between a real trader and like a wannabe newbie trader, is this ability to take a loss and know that like, "Look. I'm going to take a loss on this trade, I've accepted the loss, but I'm not going to accept how big it is. I'm going to use what skills I have, what knowledge I have to be able to cut that loss from $300 to $200 or $300 to $150." In some cases, we've been able to cut losses by 90% just by making smart adjustments along the way. Look. If we're going to lose and the markets going to go against us, I can't control that. You can't control that. What we can control is we can control how much money we lose by making smart adjustments.

The other thing that we can do is we can roll for duration. We recently saw this back in February of this year where we had a position on in IWM that we got into November of last year and literally, we got into this IWM position at the worst possible time, right before the market started to go up on this huge run-up in November and December and into January. Every single expiration month, I rolled the iron butterfly that we had in IWM, I rolled it for a credit. Now look. We were able to roll it for a credit which is the power of using options, of being able to do this thing the smart and a logical way. But I rolled the trade from one month to the next, to the next, to the next. Three times, we rolled this thing out into the future and had to hold this trade three times. But the ability to roll that trade gave us an opportunity that when the market fell back down in February, we were able to close the position for a profit. This is a trade that would have been a loser had you just let it expire at the end of the first month and definitely would've fed into this initial topic or framework that we talked about in the beginning of the show, this massive loss where the trade doesn't go against you. But when we were able to roll the trade out into the future for credits that reduced risk as we were going out into the future, but also extended our timeline, so that we just waited for the market to come back into our range, it helped turn this thing totally around. You can't factor that in. There's no logical way to factor that into the initial assumptions that we had and presented in the beginning of this podcast.

Those are the things that I think that people are missing with this whole zero-sum, even negative expected return that you see on the front. You're only seeing just the tip of the iceberg. The paradox for options traders is that there's a lot of things that happen post-entry that you can control to help turn things around in your favor. Now, do we want to enter trades initially that have great expected returns? Absolutely. But do we need to factor these things in that we talked about on this show? 100%. You need to think about the over-expectation and implied volatility. You need to think about managing trades early and cutting losses or adjusting trades and rolling trades and cutting losses. That is a big part of doing this and that's what we try to do here at Option Alpha. Hopefully this helps out. Hopefully this answers the question. If you've been sent this and you like it or think that this was helpful, please share this online. Help spread the word about what we're trying to do here at Option Alpha or just leave us a review. I think this is one of probably the better daily podcast that we've actually done in answering a huge question in the trading community. If you thought this was helpful, please let us know. Give us a rating and a review on iTunes. It definitely helps spread the word. Until next time, happy trading!

#169 - You Don't Recognize The Power Of This Compounding Force Mar 10, 2018

Show notes

Hey everyone, Kirk here again and welcome back to the daily call. On today's daily call, we are going to talk about why you don't recognize the power of this one tremendously good compounding force not only in your life, but maybe in your relationships, your business life, investing life, anything. Really, I think it comes down to it. But this huge thing that you don't recognize the power of, I think is good will. I think people don't recognize the power in this day. I'm talking generally. I'm actually not talking necessarily about a lot of people in the Option Alpha community because this is a really good community of people, very nice, very genuine people. There's a lot of smart people in this community and I respect that and I'm truly humble to be a part of it, obviously. But I think generally, people don't recognize the power of goodwill because they have to give a lot of it away before they ever see it come back around. You can call it karma. You can call it whatever you want. But I think that you've got to overwhelm people with goodwill, with like good intentions, with value and then eventually in the future, you might see that come back around.

One of the reasons why I think that we started Option Alpha and basically have grown Option Alpha the way that we have is by giving a lot of stuff away for free. First, education, then we started giving away software tools. Now, in the very near future, we're going to start giving away some of these auto-trading technology to everybody, so everyone can have the ability to trade, a couple of bots totally for free on us. Yes, it cost us money to have you guys do that, but I think it's good. It's like giving away this goodwill, so you could learn how to do it and use it and execute it as much as you want. But you have to give a lot of that away initially before you see some small results and people just don't understand that. I still get people who email in and they ask things like, "Well, why do you give all this stuff away for free? You could charge for this." I'm like, "Yup, I could, no doubt. I could charge a lot of money for the trading that we have." As we're releasing this auto-trading software, we could charge a lot of money for the ability to trade using our auto-trading software, but we're making the conscious effort, the deliberate effort and decision to give a lot of the stuff away for free, so that people have the ability to make better decisions and then tell five of their friends about us. And so, we have the ability to grow and reach more people and impact more lives by giving something away for free, having a little bit of goodwill and hoping that it comes back tenfold in return later on. That's really the goal of what we're doing.

On the auto-trading side, because we're getting closer to the launch of the auto-trading software, what we are going to be doing is we are going to be having a basically at the free level, the ability for people to trade and use our auto-trading software, but it is going to be limited to the number of bots that you can use or create. We wanted to have this ability and this was a big part for me in releasing this whole thing, is having some sort of small way that you can start trading auto-bots and auto-trading technology inside of your account at Option Alpha without having to pay anything. Now look. So that the record is clear, it does cost us money for every single bot that people create. It costs server times and server maintenance and systems and data feeds and everything. It costs us money to let people run this even for free. We don't have to let everyone run it for free. We are deliberately choosing to give a couple of bots away to everybody for free, recognizing that once you start doing this, you can do this by yourself with a couple of bots if that's just what you want to do. But once you start doing this and you get the hang of it with a couple of bots, you will want to start doing more and then of course, hopefully you upgrade and you choose to go to a higher level which pays for itself as far as value and what you get in profits and community as part of Option Alpha.

We want to do that because I think that that shows the goodwill that we have in presenting this to the community, presenting this to the trading investors that are out there and giving you guys the ability to auto-trade by yourselves and rent out a room in our house on us to get your bearings and get your feet wet in this. And then if it is a good fit, then you can start going to the next level and if it's not, then you can just keep the couple of free bots that we'll give you and you can use those as long as you want on us and we'll still continue to pay all of the server cost on our end and no fees to you. But if you want to start scaling this up and starting to build this into a real business or a real income generation stream, then you just have to help us cover the cost a little bit which definitely is going to be nominal to you guys. Hopefully this helps out. Again, I think I just want to talk about this today because I just… I don't know. Sometimes I find that people just don't understand why we do things. Again, this daily call podcast is just a good avenue for me to tell everyone what we're doing and why we're doing it and the thought process behind it. Hopefully this helps out. As always, if you guys have any questions or comments, let me know. Until next time, happy trading!

#168 - What To Do When One Leg of Bull Call Spread Is Assigned? Mar 09, 2018

Show notes

Hey everyone, Kirk here again from optionalpha.com and welcome back to the daily call. Today, we are going to answer the question, "What do you do when one leg of a bull call spread is assigned?" First of all, let's go over what a bull call spread is. A bull call spread is an option buying strategy where you are buying one call option and then selling one call option at a higher strike price. Let's assume that a stock is trading for $100. You might buy a 105 call option and sell a 106 call option to help cut down the cost of buying that 105 option. It is an option strategy where you are bullish on the underlying security, you want the underlying security to go higher and you are a net buyer of options. You're actually not a net seller in this case. You're a net buyer.

What happens when one of these legs is assigned? Well, the first thing is that the only leg that would ever be assigned to you (traditionally assigned if you want to use the technical term) is the option contract that you sold. In our example, if we bought the 105 call option, we would only have the choice as the option buyer to assign or use that option contract as we wish at expiration. That's our choice, that's our right as an option buyer. The 106 call leg that we sold to help finance the purchase of the 105, that is the option contract that as an option seller in this case, as the little option seller in this case of part of the strategy, that we might get assigned to us. It would only really be assigned to us if the stock was dramatically higher than where the stock is trading or where that strike price is. If the stock rallied from say $100 all the way up to $110, then yes, the 106 option that you sold might be assigned at that point and you might have to cover those shares.

What do you do in this case? Well, the first thing you can do… There's really two things you can do, I guess. The first thing that you can do if you want is you can exercise your long option contract at 105. Now, this is what people traditionally would do, is they would exercise their contract because that contract is covering and is meant to help protect against that type of scenario happening where one contract gets assigned and the other contract can help cover that assignment. In the case of this example, if we were assigned stock at 106 and basically short stock at 106, we could then use our long 105 call options, we could exercise those, be long stock at 105, it would cancel out the short stock at 106 and we would be left with the difference as profit in this case.

The other thing that you can do though and the reason I say that this is probably the better alternative to go, is you can just simply buy back the underlying shares that you're short. If you get assigned on the 106 call options, just go in the open market and buy back those shares. Yes, you can do that. Yes, the brokers know that you are assigned stock and so, you have to cover that stock. You can buy back those shares in the open market and then at the same time that you do that, just sell the option contract that you are still long at 105. Just sell back that option contract. This is a difference in how you do it. It's not the same thing. It does accomplish the same mission, but it's different because you don't have to go through the exercise and assignment of the 105 call option.

And what that typically means for most brokers is that you have dramatically less commissions the second way of doing it versus the first. Most brokers charge actually pretty much an arm and a leg for you to go through an assign or exercise an option contract and they charge you a pretty hefty commission to do this. I'm saying avoid that and just do the pieces individually and that would probably be in most brokerage accounts, probably be less costly as far as commission goes to buy back the underlying shares in the open market that would basically take care of the 106 call option assignment and then just sell back the option contract that you're long at 105 in the open market, just like we would typically close an option contract position and reverse that very quickly.

You could probably get this all done for like $2 or $3 in commissions, depending on what brokerage you have versus going through assignment which might be $15, $10, $15 per option contract that's assigned. If could be a little bit cheaper alternative if one side is assigned. In either case though, since you're doing a spread, you should be pretty much risk defined, profit defined here, so you should make or lose about the same amount of money no matter what happens, depending on when you got into it and where the options are relative to the stock, etcetera. Hopefully this helps out. As always, if you guys have any questions, let me know. Until next time, happy trading!

#167 - Are Index Options More Profitable or Stock Options? Mar 08, 2018

Show notes

Hey everyone, Kirk here again and welcome back to the daily call. Today, I want to answer a question that somebody submitted which was, "Are index options more profitable or are stock options more profitable?" The simple answer to this is – Neither is more profitable than the other. There's no definable difference between trading index options and trading stock options one, in and of itself. Just using an underlying product is not more profitable than the other. It always comes down to strategy and the way that you either buy or sell options and the way you manage your portfolio. I think the only real big difference between these two is that index options just carry a lot more value and weight, meaning you should trade them more with higher denomination accounts, so larger accounts, find that it's easy to start trading index options because they have a higher contract value, you don't have to sell as many contracts or buy as many contracts as opposed to regular traditional stock options on a stock or ETF which might have a lower denominational value and you might have to buy say five or six for every one index option that you buy. I think that's the real difference just from a scalability or leverage point.

The other thing that you will do run into with index options is you run into the fact that there are not as many index options to choose from, therefore, your universe or your pool of trading becomes much smaller. In fact, you can't diversify out of index options that quickly. There's no currency index options right now, for example. If you want to trade a currency like FXE or FXY, like the Yen or the Euro, you've got to choose one of those ETF products because there's no indexable, optionable security out there right now that you can trade versus opposed to say the S&P 500, you can choose the SPY which is more of the ETF type route versus the SPX which is an index option route. There's two different choices there. You can choose which one you want to go with. That's probably another big… I don't want to say downside to index options, but just something you need to be aware of, is that if you need to get diversity in say the oil markets or you need to get diversity in the currency or the semiconductor markets or retail, there's probably not a huge index that you can trade. You're probably better off going with an ETF.

I've often said when I coach clients who've got larger accounts that it becomes more and more difficult actually as your account balance grows to still have the capacity to get all of your trades in because as you start trading significantly higher capital sizes, you have to allocate those and it becomes more tough because if you have an ETF that's a low value ETF, you might have to place 20 contracts at a time or 30 contracts at a time. It's not as efficient as being able to place just two or three index options. There is that scalability, that leverage side of index options which again, doesn't make it more or less profitable, just something to be aware of. Hopefully this helps out. As always, if you guys have any questions or comments, let me know. Until next time, happy trading!

#166 - Practice Paper Trading Like Scotty Roberts Plays Basketball Mar 07, 2018

Show notes

Hey everyone, Kirk here again and welcome back to the daily call from Option Alpha. In today's call, we are going to be talking about why you should practice paper trading like Scotty Roberts plays basketball. And so, you're probably first wondering to yourself, "Who in the world is Scotty Roberts?" Well, that's not his real name. I changed his name to protect his identity and just changed his last name. His first name was Scotty, but he was a guy that went to high school with us. He was a couple of years younger than me, but was a ridiculously good basketball player. Since this kid ever came into high school, he started playing basically varsity basketball as a freshmen and played all the way through his senior year and then went on to actually get a full ride scholarship and play for Division One school. He was really, really good. Now, he was not the tallest kid which was actually kind of interesting, but he was a great shooter. I mean, like really good shooter. I think in high school, I don't know what his actual stats are because I actually tried to look them up on the old high school website from a long time ago, but couldn't find anything on him. But I think his high school free-throw percentage was record-breaking. It broke records not only for our school, but also for the entire district and the region. The guy was automatic when he got to the free-throw line basically.

Why I think that this is interesting and why I bring this up is because I remember coming into school all the time in the morning and I would come in early. I'm just a natural early-riser. I've been from day one. I've been up always early and trying to get things done early in the morning. That's just the best time for me. I remember coming into school because I used to live just very not too far away from our high school, so I used to walk in some cases or drive over and I would come into school and it'd be early in the morning and Scotty would be in the gym, shooting free-throws. This kid would be in the gym literally for hours, shooting free-throws in the morning, two hours before school, an hour before school every single day like clockwork. I thought that was interesting because I saw nobody else in the gym ever. And so, those of you who… Anybody who's listening to this podcast that goes to high school, I actually do know that some people from high school still listen to this podcast and trade actually in the Option Alpha community which is cool. But if you guys remember, Scotty would be in there every single day. What was cool about Scotty is that nobody else was in there. It was literally him and then you wonder why he's the best player on the team, why he got the full ride scholarship and nobody else did because he put in the time and put in the effort to practice.

Now, here's how this applies to options trading. In options trading, especially in paper trading, whenever you get started, people try to use paper trading like it's the real account. But it's not. There's certain things that are going to change when you start real live money trading that you cannot simulate in paper trading. You can simulate a lot of things, but you can't simulate emotion, you can't simulate the real feeling of making money or losing money, you can't simulate real market environments. It's really hard to do. It's very similar in basketball or in any sport. You can simulate what a game is like, but game speed and practice speed are two completely different things. What Scotty knew is that he knew that he had to take a lot of shots in practice, so that when it came time to take shots in the game, he was automatic. He would take in the morning, thousands of free-throws or hundreds of thousands maybe over the course of a couple of months or a year, so that when he actually played a real game, when it actually came down to the wire and he needed to make just two shots or just four shots at the end of the game that he could be able to make those shots.

I think it's really interesting. I always remember this. Literally, I've always thought about this in the back of my mind, is that paper trading for me should be just lots and lots of shots. When you start paper trading, instead of not taking as many trades and not doing as many trades because you want to simulate what it's going to be like in the real world, why not go into a paper trading account and make 100 iron condor trades? Now, I'm not going to say that you're going to make 100 iron condor trades in the real world because you're not. But in a paper trading account, you have unlimited capacity to do anything you want, so why not use that paper trading account to make 100 iron condor trades over the course of a month and then you really get a feel for iron condor trades, how to get into them, what good pricing looks like, what a good fill looks like, how to manage them. If you've got 100 iron condor trades in one single month and that's probably overkill, but it proves the point of saying that you probably have a good portion of those that you're going to have to adjust. What do you do in that case? How do you adjust those? Now, you've got to make adjustments on say 30 trades. Well, now, you get really good at making adjustments.

This self-fulfilling prophecy when you start using your paper trading account like you're shooting free-throws or practicing basketball, so that you learn how to do it, so that when the time comes that you need to make just one adjustment, that you have the capacity and the knowledge to do it because you've already done it 30 or 40 or 50 times. It becomes so mechanical that you don't even think about it. That's how I think you should use paper trading. Hopefully this helps out. Like I said, I think it was an interesting concept and hopefully it relates it to options trading because it can sometimes be vague how you can use paper trading or a practice account, but I think it can be sometimes like I said, vague in how you can use paper trading or a practice trading account and how you should really use it. Like I said, I think you should use it for the sake of making lots of attempts really, like throw up a lot of stuff on there, so you see how everything works really, really quickly and then when you get into the real market and you only need to use a trade one or two times, you have the ability to do it and you've got this whole back history of being able to do it which helps out. As always, hopefully this helps. Until next time, happy trading!

#165 - Want To Quit Your Job To Trade Options? Do These 4 Things First Mar 06, 2018

Show notes

Hey everyone, Kirk here again from optionalpha.com and welcome come back to the daily call. Today, we are going to talk about quitting your job to trade options. Really, I think there's four things that you need to do first if you want to quit your job and trade options. I think this is an interesting topic because people are really interested in quitting their job for some reason and wanting to quit their job and just trade full-time. Just for the record, I don't think you need to quit your job to trade and make a living trading. I think that it takes very little time actually to trade and trade successfully. In fact, you do not have to be glued to the computer screen all day. I would be a totally different person if I had to be glued to this computer screen all day. I tell people often that the reason I can run Option Alpha and watch my girls at home and stay at home with my wife and trade is because trading frankly does not take all of my time during the day. It's maybe 30 minutes in the morning, 30 minutes in the afternoon. If I just did that, I would literally spend probably about an hour every day doing trading type activities and nothing else. I think that you can obviously filter or weave in options trading to your regular job, your regular schedule that you already have. And as we get closer to launching our auto-trading software, that will become even less of a burden on you, is this time commitment for trading options because our auto-trading software and platform gives you the ability to use bots which will automatically look for exit, manage the whole deal, an entire options trading strategy for you. Again, we're going to be the only people that has ever released this type of software and again, the reason that we're doing it is because we realize you can trade and maybe you have more time commitments than maybe I do and you need something to help out to manage those expectations.

Now, if you want to get to the point where I think you want to quit your job for whatever reason, I think there's a couple of things you have to do and these are in order. I did think about these and say, "Okay. What would I do differently or the same as what I've done before, starting to trade full-time?" The first one is you've got to have reasonable expectations. I think this one goes without saying, but it actually has to be said again and again because I consistently get emails from people saying, "Hey. Do you think it's reasonable for me to generate 10% per month?" And I'm like, "That's 120% a year. No, that's not reasonable, not even close. That is not a reasonable expectation." I think you've got to have really reasonable expectations of how much money you can draw from your account and really not dilute the value of that account, so that it can still maintain its buying power, its option-selling power to continue to generate income in the future. A common rule or guideline (not to say that I totally agree with it or totally disagree with it, I think there's positives and negatives to this) is a 3% or 4% rule. You can basically draw 3% or 4% from your trading account every single year and then really never deplete it. Now, of course, if you're generating returns that are higher than that, then yeah, of course, you can always draw say 5%, 6%, 7%, 8%, 9%, 10%. You can draw that from your trading account. But if you draw more money from your account, you run into the risk of at some point, having maybe a drawdown that lasts a year or two and depleting a significant value of your account. I say you air on the side of caution and go with the lower end of the range, say sub 5% as a reasonable expectation of where you should be able to draw money for income.

Now, after you do that… That's number one. After you do that, the second thing that you should do is you should start to withdraw an income now. I say this often on the webinars with pro and elite members as we're getting onboarding every other week, is if you wanted to take money from your trading account, start right now with some small account or some small amount. If you have a trading account say of $10,000 or $15,000, take $100 out of that account every month and literally pay one bill with that money. Whatever, say your cable bill or your electric or heat bill. Take something out of your account right now and pay one bill and then as you get closer to your target exit date of your job, so say you say, "Hey. I want to quit my job in one year and I want to setup everything to do in a year." Okay, great. The first couple of months, pay a bill, then the next couple of months, pay two bills, then the next couple of months, pay three bills and you start slowly weaning yourself off of using your regular job income to pay your regular bills and start using your trading account to pay your regular bills. This is good because it also teaches you to draw salary from your account, not just to draw always profits. But I think it makes the transition slowly and helps you recognize how important it is to have a large amount of money, unfortunately, already saved up and already used before you start drawing that income because you will start whittling down that account very quickly if you don't have enough money saved up or if you're not trading enough of an income strategy that's generating money in that account.

The third thing that you have to do though is you have to pay off some of the debt. I don't ever really talk about this aspect of trading, but when me and my wife started doing this and I came to her and I said, "Look. I want to do this full time." She was working as a teacher at that time, so that absolutely helped out, like we had an advantage there. She was still working as a teacher for many years as we started to trade at home and do this full-time. But what we did is we paid off all of our debt. We didn't have that much debt to begin with, but any student loans that we had, car payments, like we've never had any of that stuff because we paid it all off and we've remained pretty much debt-free except for real estate leverage I guess for investment properties. But we've remained debt-free through this entire experience. Now look. That meant that we had to sacrifice on a lot of stuff early on in our relationship. When we were living outside of DC, we didn't have fancy cars, we didn't go out to dinner all the time, we didn't have this huge apartment complex or townhouse or house like all of our friends had. We decided to live in a very small condo, just the two of us and then we had our daughter, Molly eventually in that condo, but we lived in a very small area, like very cheap because we wanted to pay off all of our debt and basically set ourselves up for success. I think you have to do that. If you've got this mountain of debt, use your job right now to help snowball that debt payoff, so that you're better set up and you don't make irrational decisions later on.

The fourth thing I think you have to do is reduce expenses. Now look. This one gets hard for sure. It's easy to say, "Oh yeah. You can cut expenses." But I'm talking about a drastic reduction in expenses. If you really want to do this… I've told people this before and I get some people who just like after they hear me say this, they say, "You know what, Kirk? I actually don't really want to do this. I like where I live and all that stuff." But if you really want to cut your expenses and you really want to trade for a living, you have to understand that it doesn't matter where you live. If you live in a high cost area or an area that's very, very expensive, you should probably move. Again, now, look. Some people are going to say, "Okay. Wait, wait, wait. Stop right there. I don't want to move. I love where I live. My family is here. My kid's here." I know. Okay, look. I know that there's extenuating circumstances, but you could probably downsize where you live. You could probably move further out of town. Maybe it's a little bit cheaper. You don't have to be right in the city. But you could do a lot of things that really reduce your expenses. Get rid of your nice new car that maybe has a car payment and buy something a couple of years older that has no car payment. There's a lot of things that you can do if you truly, truly want to be successful doing this.

What me and my wife did after we had our first child, Molly is we moved from DC to Pennsylvania. Now, there's a lot of stuff that goes into that. It wasn't just that we wanted to reduce our expenses. But that was a major draw for us, is that we could as we're building a family, basically live in Pennsylvania, closer to my wife's family for about a fifth of the cost of living in DC and raising a family in DC. For us, it made really a lot of sense to do that move at the time because we could reduce our expenses, we get closer to the family, at that time, we were able to buy a bigger house that was basically half the cost of the condo that we were living in at the time in DC or outside of DC. I think it's something that you have to think about. Again, I'm not going to say you have to do it, but you've got to figure out a way to reduce expenses, so that you don't feel like you have this huge hill to climb every single month to pay your bills. And that means that maybe you sacrifice short-term and then have the ability to basically generate profits much, much longer in perpetuity going out in the future because you're able to sacrifice early on. Hopefully that helps out. Like I said, just want to talk through these things or rethink about aspects that I would've maybe thought about a little bit more heading into this. But if this helps out, let me know or if you guys have any questions, hit us up on Facebook or on Twitter, social media. Let me know what you think about today's show. Until next time, happy trading!

#164 - My Short Stint As A REIT Research Analyst & What I Learned Mar 05, 2018

Show notes

Hey everyone, Kirk here again from Option Alpha and welcome back to the daily call. Today, we are going to be going down memory lane here a little bit for me and I want to talk about my short stint as a research analyst, a REIT research analyst and what I learned in that capacity, in that role. And so, I don't know if there's any major takeaways. I didn't write down here my top three things that I learned. But I just want to talk through this because I think it might help shed some light on not only that industry, at least from my perspective and my opinion, but also just how I fell into the capacity that I'm in right now. After I worked in New York, I worked for Deutsche Bank in New York in mergers and acquisitions, also had a rotation on the trading desk, so that's where I got I guess you could say my official start in the business, is actually in New York. I moved back down to DC where my family and my wife now (previously was girlfriend at the time and fiancé) was living and had a short stint as a research analyst for BB&T Capital Markets. It was a local regional bank. It's not a huge multinational bank by any means, but it's a very big bank in the area and across the eastern seaboard.

And so, when I was working in REITs, I wanted to do something a little bit different. When I was in New York, I was on one side of what's called the Chinese wall where I was on the private side or the non-public side, so I had technically, insider information. You can't trade-off of it, you can't do anything and I wanted to see what the other side looks like. That's basically why I wanted to go down the research side and become an analyst. And I thought, "Okay, great. I like the market, I like stocks, I love real estate. I've always had an interest in real estate. And so, I want to see what the research side looked like. I wanted to see what the professional research side looks like with regard to real estate." And so, I figured REITs were a really good fit for that. And so, I got placed into a group. Initially, there were four of us and then it whittled down to just three of us that was in this group and we covered all kinds of REITs. REITs again are real estate investment trust. And so, we covered multi-family and hotel and hospitality. We covered specialty REITs, so like ski resorts and water parks and amusement parks which is actually kind of cool that you didn't know that most of those are actually owned by REITs or a lot of them are owned by REITs. And then we cover things like triple net REITs which I found a real love for and interest in which those are real estate investment trust that basically buy up assets and then lease them back to the lease source like Walgreens or CVS or shopping centers. It's actually kind of crazy how that whole business worked. You would never really know it. But it's very, very interesting.

I did learn this and I guess the reason I'm telling you guys all this back story is because I did learn a lot about just like how that side of the business work. I think in sitting down with… All the time, we would sit down with the CFO or the COO or the CEO and talk about the business and talk about the future and how they looked at asset allocation and how they looked at use of debt and leverage. What I think I found in this environment was a real understanding of how leverage works in regard to people and then profit. What I mean by that is that most of these REITs are actually run by fairly small teams. The cool thing about REITs, especially triple net REITs which are ones that just basically buy land and lease it back to the leaser or like a Walgreens or CVS, is that those companies have thousands and thousands and thousands of properties and what they end up doing is they end up running all of this basically remote and they run everything with a very small team, sometimes eight or 10 people. It's really not that big of a team. And the reason that they can do this is because they've set themselves up with systems and leverage and basically, the capacity to play in their space, in their own little sandbox and be masters of that universe. I honestly don't know what other way to say it other than that.

They have a very simple business model. It's actually not complex at all. What I've tried to take away from that is everything I do with Option Alpha and everything I do personally with trading and investing, is just to really have a simple business model. Most of the REITs are basically a spread business. Not all of them, but most of them are spread business. They have the capacity to borrow millions of dollars at 3% or 4%. They re-lease that money back out too using real estate. They re-lease that property that they purchase back out to a tenant at 6% or 7% and they make that spread difference. And so, it's truly an edge business. It's no different than options trading in the sense that there's a definable edge, but you don't realize that edge until you've actually gone through the process. You have to borrow the money, you have to lease it out and then you've got to hold the property for four or five to 10 years before you actually really start realizing some massive gains.

I learned that side of the business that's really just important that'd be leveraged in the right areas I guess. We're not talking debt leverage. We're talking about use of time and funds and allocations and capital. And then also just to realize that the spread business takes a little bit of time, but generates a lot of income. A lot of these REITs are just so fascinating because they generate so, so much income and they have such a good track record of paying out their dividends. Something they're required to by keeping the REIT status. But they still pay out dividends. They have really low leverage rates, really high payout rates, just a fascinating business. And so, I try to take everything that I learn in that capacity and try to apply it to what I do now with real estate, with what me and my wife do with our real estate properties that we hold, also with what I do with Option Alpha and how I trade. I try to think about options trading because it is very much a spread business. There's a definable edge, there's a definable margin that you can capture as an option seller and it just takes time and repetition before you get into it, before you can really realize that and really solidify that edge. I think that's probably one of the biggest takeaways I had.

The other thing I learned in that business and not necessarily on the good side per se. I loved the people in the business. I loved talking with the CEOs and CFOs of these companies and really picking their brain about how they saw the markets and capital allocation, the whole deal. What I didn't really like about the business is where the research analyst like me would fall into place in the grand scheme of things at a company. It's not any knock on my company that I was at. I think it was just the whole industry thing. Where we fell into place is that like our goal in the company or basically, our mission in the company was to write research and to publish that research, buy, sell, recommendations for a company, but then we were supposed to be used, like our research was supposed to be used as a frontline of… Not defense, but as a front line of engagement for clients in the banking community. The next level down or the next level out from us would be somebody who was like a sales guy for the company and would call prospective clients and say, "Hey. Did you see this research report that our analyst wrote about XYZ company?" If the research report was you should sell that stock, well, there's not any reason to call that client. Our salespeople would not really ever have a reason to call somebody if we had a sell recommendation.

I'm not saying that they ever told me or forced me by any stretch to deliberately make a buy recommendation on a company, but there was this underlying tone I felt throughout everything that we did, that we should basically produce research that would then generate commissions and generate banking revenue for clients, so bring clients in. If it was a hold recommendation, why was it a hold and could there be upside potential in the future? Yes, it might be a hold now, but maybe there's upside potential in the future. If it was a buy recommendation like talk about how great the buy was, like how great the buy recommendation was and how much upside there is and where is the stock really going… I think it was just this underlying tone that I just honestly hate it. It drove me crazy. I loved everything about the business except actually publishing the research because in research and any investment research, there are so many factors that go out into the future that you just can't possibly know. There's growth rates, there's expense rates, there's taxes, discount rates, like where are interest rates going to be in the future or where are taxes going to be in the future. You just can't predict all of that stuff so accurately enough to then publish a piece of research that says like, "Yes. This is the buy or sell recommendation."

Now, I know that this still goes on and I'm not saying that I don't agree with people and I don't think that they're smart people when they publish their guess. But frankly, it's just a guess and in literally instance, two instances like two minutes of a trading day, that could be totally changed with a new law that's passed or new interest rates that are subjective to the market, new market pricing, like the whole market could just drop 5%. And so, you find yourself really in just this huge cat and mouse game all the time of having to redo research and republish and reanalyze on a forward 10 or 15 year business. It's just totally unrealistic to think that you can predict that far out into the future and then make like really actionable, reliable signals off of that. That's the business I really didn't like at all. Honesty, it's just one of the main reasons that drugged me out of the business, was that side that just seemed unrealistic. I guess it's really what it comes down to. Again, I'm not knocking people who do that. I think that there's really wicked smart people who are in that industry, but it just wasn't for me. It wasn't a good fit for where I wanted to be and what I wanted to ultimately do.

During that whole time though, I was able to… Since I was on the public side and I didn't have private information or inside Information, I was able to then start trading options and start continuing to do what I had learned how to do in New York or refining what I was doing and started to trade options and day-trade a little bit. I started to I guess try to day-trade a little bit at the time and realize that wasn't a good idea very quickly and then started to really hone in on this option strategy that I've been using basically for the last couple of years. Anyways, it was a blessing in disguise for sure. It was a great industry to be in, at least for the short time that I was in it back in the early 2000s. Yeah, so we're here. Hopefully that helps out. I know it was a little bit longer of an episode today, but I wanted to share my thoughts on what I did there and what I learned. Obviously, if you've been in that industry, I'd love to hear from you or if you thought this was helpful, let me know. Hopefully this helps out. As always, until next time, happy trading!

#163 - Trading Options With The Bollinger Bands Indicator Mar 04, 2018

Show notes

Hey everyone, Kirk here again at Option Alpha and welcome back to the daily call. Today, we're going to be talking about how to trade options with the Bollinger Bands indicator. If you get started trading options or if you get started trading stocks, even Bollinger Bands is going to be one of those key technical indicators or technical analysis studies that you might run across early on. And so, I want to describe not only what Bollinger Bands are and what happens, I guess and what they are and how they work, but also how we might use them in options trading. First thing, Bollinger Bands were obviously developed by a famous technical trader. His name was John Bollinger and basically, what he did is he plotted a simple moving average alongside of a stock which is nothing new, but then he used standard deviation levels, so sometimes two or three standard deviation levels above and beyond that simple moving average using volatility. It was a very simple concept and that's why I think it's actually relevant to options traders because you can get a good idea of how far or what the expected move might be for a stock going forward in the future using implied volatility. But what he basically did is he created three bands or three lines on the chart. If you pull up a Bollinger Bands chart with a stock, you'll see three lines. You'll see a line in the middle which is the moving average and then from that, you'll see these two lines on the outsides which are the standard deviation lines. Again, you can move and adjust these and make these wider or more constricted based on whatever settings you like. A common one is just to use two standard deviations as a benchmark. Really, use three standard deviations, but it might be a little bit too far out.

What happens is that there's a couple of different ways that you can use Bollinger Bands of I guess how it's classically used. The first one is just to look at how far the Bollinger Bands, so the expected moves are from the central moving average. When those Bollinger Bands start to come in and start to become constricted, it's commonly referred to as a squeeze. And so, when a squeeze happens, it just means that there's low volatility, nobody's really expecting anything and that's when you might actually be in the opposite opinion, meaning that if nobody's expecting anything and volatility is pretty low, it could be just the time that volatility starts picking up. We do commonly see that. When volatility becomes low, we know that some sort of breakout might happen, a breakout higher or a breakout lower. We also see when the bands get extended or really, really wide, so they start flaring out. I think of it like two hands starting to really move apart. We start to see the Bollinger Bands start pointing in the opposite direction. This usually comes after a huge volatility move, meaning a huge move in the underlying stock. And so, when this happens, also, that does mean that sometimes, that volatility move that just happened is maybe too much for the market to handle and it's already gone too far and might start to calm down, so volatility might start to contract. Again, when you start to see these Bollinger Bands start to fan out basically, that means that it might start to revert back to the mean and volatility might start to decrease.

The way that we use Bollinger Bands at Option Alpha is a little bit different because we've done a lot of back-testing on Bollinger Bands and we only used it for one direction trade types. Inside of our research which you can find at optionalpha.com/signals where we back-tested a bunch of different technical analysis indicators, we found that Bollinger Bands actually works okay for basically about like one type of environment. When we tested if the stock moves outside of these expected ranges or it hits these bands or goes beyond these bands, does that create a trading signal and is that trading signal relevant? Is it reliable? Does it accurately predict reversal or continuation of the stock? And so, we only found probably like one environment where it actually works pretty well. Again, you can check that out at optionalpha.com/signals. When we find that we get this signal using Bollinger Bands and a combination of some other technicals, we do end up trading based on credit spreads. We will use credit spreads to make directional trades and the beautiful thing about using credit spreads with technical analysis is that you don't have to be exactly right in your stock prediction. It still gives you a margin of error if you use a credit spread versus just using say a simple long option strategy or long puts, long calls or even trading the stock individually. That's how we use options with Bollinger Bands and some of these other technicals, is just to recognize that the technicals may not be 100% accurate obviously. I guess we should always recognize that technicals are never 100% accurate. And to use credit spreads and far out of the money option selling strategies as a means to then increase our probability of success and give ourselves a margin for error. Hopefully that helps out. As always, if you have any questions or comments, let me know in the comment section. Until next time, happy trading!

#162 - How Many Different Options Strategies Should You Trade At One Time? Mar 03, 2018

Show notes

Hey everyone, Kirk here again at Option Alpha and welcome back to the daily call. Today, we are going to answer the question, "How many different option strategies should you trade at one-time?" I think this is an interesting question because people often start trading and they think that because there's so many different option strategies that they need to be a master of all. But we've all heard the saying, "Jack of all trades, master of none." That's exactly what I feel like options trading is. I feel like you should be a master of a couple of key strategies, maybe a couple of key option selling strategies, maybe one or two option buying strategies and from there, it's just deciding which options strategy to use in each particular environment.

For what trading that we do at Option Alpha and specifically on the pro and elite side for our membership, what we find is that we really actually focus on probably about two main strategies. If you really break it down and look at the two strategies that we trade, there's two main strategies and with probably a couple of different variations. In nearly all cases, we are short premium or option selling. We're doing some sort of net credit or taking in a net credit on a trade. The two main strategies that I would say that we do are straddles and strangles. Those consistently become the most profitable strategies, they back-test the best, they're always high cagier, high growth rate, high income type generation strategies. And then from there, we'll use variations of those two strategies and do iron butterflies, iron condors and then sometimes feather in some credit spreads. Really, I think that you only need to trade a couple of different strategies to be successful. I think you can master those and then just really forget about the rest. We don't do really, really complex like eight different ratio spread type things, like all these different triple calendars, triple double diagonals. We don't do any of that stuff. We keep it very, very simple, keep it very mechanical, very regimented with how we trade options and just focus on a couple of different strategies.

The one thing I'll also mention here is that very soon in the near future, probably about 30 to 45 days from today when this show goes out, we're going to be releasing our auto-trading software and it really could be at any time. It's just a matter of testing and getting it out. But once we released our auto-trading software, then what we can do is you guys will have the ability inside of the Option Alpha platform itself to start actually executing an entire strategy by itself using our auto-trading bots. If you wanted to do an iron condor strategy where you're consistently selling an iron condor once a week or once a month and managing it and taking out profits, looking for opportunities and getting it totally automatically, so entries, exits, management, the whole deal, then that's what we are going to be able to do very, very soon inside of the Option Alpha platform. It's very cool because now, for us, what we can do is we can take what we learn about option strategies from research and back-testing and just our own experience over the last 10 plus years and start building out these trading bots that you guys can copy and clone and start automatically executing these trades without having any interference or human emotion involved which is very, very cool.

Again, we'll be talking more about this here in the coming days and weeks as we get closer to launch, but I think that this was timely to start bringing it up again as we talk about this concept of trading different strategies and really, how do we spread out our time. Time is going to become more and more valuable of an asset and something that we'd like to give back to you guys by releasing this auto-trading software. As always, hopefully this helps out. Until next time, happy trading!

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