Even a few months of observing the stock markets should be sufficient to arrive at the conclusion that markets change daily. This is a huge challenge for traders that dream of making money regularly enough to live a life of freedom, producing a habitual income. Even if one manages to generate great profits one month or one year, or even one decade, this is no guarantee that he/she will make a good profit next month, next year or in the next decade. When Tim Bourquin asked me in my trader interview when did I become comfortable with my trading, I said that If you feel comfortable with your trading, there is probably something wrong. That we must be always on our toes, looking for ways to make money consistently because what works today, may not work tomorrow. I know because my early success of the 90's trading long calls using the Elliott wave theory in the 90's came to a screeching halt in the early 2000’s. I even stopped trading for many months recognizing that I needed to adapt, not quite knowing how to do it.
For the last 7 years I have been observing the markets, evaluating and learning from books, seminars, and from others. The explosion of the internet has been of great help to me because we are reaching a golden era for the independent trader with resources such as back testing, paper trading and complex option strategy trading that were not available just a few years ago. Within seconds we are able to learn about significant news and the consequent movement in the underlying stock. We can react quickly, in ways reserved for the professionals only a few small years ago. I have been reporting to you for numerous months the results of my strategies using the PCCRC as the standard approach under diverse market conditions. When I first started doing that, Volatility was low, but by mid 2007, volatility was breaking out to new highs. When I first started putting my strategies into practice, the stock markets were rising. By late 2007, the markets were entering a crisis of confidence under sub-prime lending practices. Surely, I’d have to adapt to this new reality, either changing my strategy in some way, or modifying the PCCRC itself.
What became clear is that the PCCRC is a highly adaptable form of trading and that my rules of entry apply regardless of what the overall market trends are or the VIX is doing. It became abundantly clear that the combination of the PCCRC with my rationale for entering trades will work in a changing markets because I am able to detect the heroes of the day, even when those heroes are hard to find and the exception, rather than the rule. Finding the trades is only the first part. The second part is the management of the trade. When we enter a long call, to cite one example, we expect a single outcome: stock appreciation; and nothing else will do. Even if the stock appreciates but volatility declines, the long call may produce little or no profit or even lose value. With the PCCRC, 5 out of 6 possible outcomes turn profits.
Unlike other option strategies, the PCCRC profits from changes in Vega, Delta, Theta and Gamma, individually or in combination. Option strategy theorists would tell you that to take advantage of options, one must expose his/her cash to risk. Vega exposure, for example, means that you can make money if volatility goes up, but also means that you could make money if volatility goes down. The same applies to Delta. Fortunately, time always advances, so it makes sense to enter Theta positive trades. Most trades become profitable when they fulfill our expectations, but the PCCRC has very often worked in my hands when the unexpected occurred. This is a very unique feature of the PCCRC precisely because it is Vega, Delta, Theta and Gamma sensitive. Understanding how the Greeks work on the PCCRC is critical to the success of each PCCRC trade. I have come up with several situations in which the PCCRC is the right trade, regardless of market conditions.
Option theorists would tell you that you need a good understanding of the Greeks and a good arsenal of trading strategies and understanding of when to apply them. To me, the PCCRC is powerful enough to dominate my trading style, and risk-limited enough to substitute all and any stock positions in my portfolio. I can show you dozens of examples of how it works, many are posted in articles in this blog, many others are presented in my private discussion group blog in the form of video clips, .pdf files and discussed extensively, real time, with all participants that can bear witness to the accuracy of my statements here. Just the same, I wanted to show you a trade that produce great profits, despite of market conditions that would have scared me away at another time and place.
First, let me set the stage. The S&P500 had been declined for months starting in early October. By mid February, very few stocks were rallying, let alone jumping >10% in stock price.
Just the same, EOG came to my attention as the stock had rallied from $77/share to $98/share around earnings. It is very important that you recognize that market conditions were quite adversed to trading stocks. An important feature of the PCCRC is that you can often take profits by selling portions of your position, or by simply rolling your short options to the next month. Having cash available when markets are going down is rare unless you are skilled at calling the trend. I heard of no one that was trading bearish positions at the time, so the availability of cash is certainly a welcome feature when the markets are down. Consider that most traders would be either defending the bullish positions or licking their wounds from the bruising markets, rather than collecting profits from bearish positions. The lucky ones that were in the sidelines after collecting profits at the top of the markets, were probably staying in the sidelines, awaiting for signs of bottoming process.
Many would have thought that entering a position like this, at that particular time would be foolish. With the confidence I have developed on my style of trading, I entered this PCCRC:
Less than a month later, the stock jumped to $130/share.
Now, compare the statistics of the trade at the opening on Feb 12th, and on March 3rd, after the jump to $130/share.
At the entry, the stock was Delta positive by $105.45. This implies Delta risk if the stock goes down and reward if the stock goes up. But in addition, the trade is Vega exposed by $449.27. Because Vega usually goes up with declining markets, the loss in Delta would be tempered or even exceeded by my profits in Vega. Theta and gamma are also positive as you can see. The reason I am able to confront this large Vega exposure is the low IV in my long options. Very rarely have I seen volatility decline below 30% (although it does happen). By entering the position right after earnings, I safely assume that IV will climb from this point, so I accept this risk in the expectation that IV would stay the same or increase towards the next earnings report.
Note also that the risk estimate is $3597.22. I would only recommend that you place this much capital at risk only if you have an account with $180.000,00. But you can easily reduce the cost to 2% of your account by reducing the number of contracts, if your account has a smaller liquidation value.
By March 3rd, in addition to the jump in price, which generates Delta gains, EOG options had also jumped in volatility. I remember that the stock received a downgrade on valuation concerns. Perhaps this explained the jump in IV. Whatever the reason I had now accumulated Delta and Vega profits equivalent to 200% of my capital at risk, and 50% of the capital in the trade. At this point, I closed my trade because IV can change very quickly. Note also that the Max Risk had decreased. This is because the calculated max risk is not an accurate estimate because it assumes a constant IV. However, I have not seen any situation in which my max loss has exceeded my max risk over the last 3 years that I have been trading this way. The chart below shows the IV on March 3rd. This is my justification for leaving the trade early, as the IV was at the higher end of the 6 month range.
With the strong rally in EOG, you would think that this rally was reflective of a change in the greater the market conditions to a more favorable bullish tone.
You'd be wrong. Some of my more experienced colleagues would have urged me to exit the trade, as I well did. But IF against my better judgment I would have place my profits at risk. The expectation would either be that the stock would decline with higher IV to match the greater market's fears of the moment, or the stock price would continue to rally. In either case, profits could continue to increase.
Week after week, EOG continued to rally against market conditions, and continue to accumulate Delta gains as Vega held at first, but even after it began to decline. Some would have thought that volatility 'crush' of any sort could badly sink the position. I wanted to show you how the decline in IV did not do any harm to my position. The Delta gains far exceeded the potential loss with IV decline. Here is the volatility chart in the following weeks.
With every passing month, one could have simply rollover the shorts to the next month, thus accumulating credits by virtue of Theta decay, reducing my overall debit and converting my max risk into a min profit. In the end, I could have made almost 100% of return on capital or 350% return on risk.
The main criticisms I have heard about this form of trading usually are:
1. There isn't such a thing as a trade for all seasons.
In this article I have shown that the PCCRC comes very close to fulfilling this ideal because you can place this trade even when market conditions are not ideal, so long as the entry rules I have outlined are met. I have profited with PCCRC's in low volatility, high volatility, bearish and bullish markets, and also sideways markets as the one between mid Jan and mid April.
2. Volatility risk is too high both from the long straddle as well as the calendar components of the trade.
My experience is that the risk only materializes into a loss in one out of 5 possible outcomes: Decline of the stock price with decline volatility. When that happens, I might hold until the stock declines low enough to reduce my loss to a minimum, or the stock rebounds. I don't usually rollover to next month in such circumstances. The truth is that I have been able to minimize my losses in this way. It is reducing losses to a minimum that we assure continued profits month after month after month.
3. The PCCRC depends on one's appetite for risk.
Well, I don't much enjoy risk. What I have discovered soon after I begun to trade this strategy routinely is that risk is low, this is most easily explained with my metaphor of the Greek chariot being pulled by 4 horses (if you include Gamma as a horse) when one of the greeks falters the others pick up the slack.
Most conservative traders would play iron condors and butterflies on index options. To me this represents more of a risk because Delta can ruin your trade at any time. You only have Theta in your favor, although presumably you locked high Volatility when you enter the position. Wouldn't you rather have all greeks working for you? I do. Remember, 5 out of 6 possible outcomes would turn a profit.
The criticisms I hear seem to come from people who have not really thoroughly tested my strategies as outlined. It is important that you give it a chance! Join my group! I'd be delighted to answer any question you may have as you implement this great approach to trading. If you do, I hope that you commit yourself to "Pay it Forward"!
Do you want to participate in my personal blog? how about the discussion group around this experiment? You will receive the 3 DVD's where I explain all my secrets. You will have access to my videos past, present and future.
How much do I charge? Nothing! I make absolutely no money. You only pay for the cost of delivering this highly successful trading system education for what it costs me to produce and deliver. And, yes, there is a catch:
You MUST pay it forward by doing something equivalent to the effort I have put into sharing this system. You pay it forward by creating a chain of good will, by getting the commitment from those who you help to also pay it forward.
My goal? to create good will in the world! and I am not the only one. I am not even the inventor of this hopeful idea. Want to learn more? it is all in the book by Catherine Ryan Hyde.
Check this site:
http://tinyurl.com/2rubv2
You can also get the movie with Kevin Spacey, Helen Hunt and Haley Joel Osment
http://www.imdb.com/title/tt0223897/
13 comments:
I started PCCRC after reading the blog for 3 months. My experience is that after entering the trade; now what?
You could sense that the trade is not working as expected initially. The stock goes up and my IV goes down.
Anybody have the same kind of feeling?
Being paper trading PCCRC since January. And being as lost as i was in the first 2-3months I still made money. He is my reality of the PCCRC system. Much less stress than most options strategies....however don't expect to retire trading this system after one or two years. Maybe 5-10years! :) Vega can be your best friend or your worst enemy. I have experienced both. I allowed myself to hold a stock through earnings and got hit hard with the volatility crush. I did this intentionally for two reasons:
1. to understand the volatility crush and the effect of it on my position.
2. to understand how to manage the trade after a volatility crush.
Technical analysis is very much beneficial to manage the trade to get the most out of the trade. I personal am a big advocate of support and resistance lines and have tried to incorporate this into managing PCCRC trading.
PCCRC is not an entry level type options trading system...knowledge of the option greeks is important.
I'm a TOS user and therefore still ponder if a Platinum account with Optionetics would give me ome type of advantage.
Finding candidates is the hardest part of this system. However, the rules are pretty clear as outlined by Juan. Sticking with the big name stocks tends to lead to better returns as those stock are more predictable since they are the most heavily traded.
One of the biggest benefits is you don't have to look at your account everyday even though you will anyways.
If you are the type of trader that needs to trade daily then you will find yourself either extremely frustrated or you may simply break the trading rules and place trades out of boredom. From what i've seen so far the PCCRC follows the Pareto principle (also known as the 80-20 rule). 80% of your returns will come from 20% of your trades.
I've been papertrading for 4-5 months and i'm up about 7% on my total initial capital ($100K to $107K). Which isn't so bad since i really was learning the system for the first 3 months. I would recommend anyone to paper trade this for 6 months before committing any money so that you understand how to manage the trades during and through option expiry weeks where is most of your decision making on your current positions will take place. Again the rules are pretty clear cut so its hard to really mess this up. And yes you can lose money. But you will get better and identifying good setups once you understand what the PCCRC is attempting to do as a trading system.
Thats about it. Anyone have any questions I'm more than happy to share my experiences.
Good luck and all the best!
Well, if the stock goes up, IV most often goes down. If you think of Volatility as part fear, part uncertainty, it makes sense that when a stock rally, traders gain confidence and start exiting long puts or covered calls, as they see the stock gaining momentum.
If you entered the trade while volatility was low according to my rules, then Delta should have made you profits as IV declined. However, if you entered at high IV, then Delta has to surmount the Vega deficit in your account.
This is not uncommon when people buy plain long calls with high IV, then the stock has to claim that much more to compensate for the loss. Often times, beginners complain that even though their stocks when up, they did not see profits.
With experience, you learn to recognize the importance of IV in options trading. I have made sufficiently clear with my rules that we are looking to enter positions when IV is low. Such as right after earnings, or when IV/SV is low, or when a stock breaks out to a new 52 week high. It is up to you to follow the rules.
Unlike plain calls, the PCCRC is not just about Delta gains. You can afford to be patient until at least the next expiration. More specifically, one week before expiration. If the stock rallies at first, and you don't see profits, that is OK, because by 1 week before expiration, your short calls will begin to erode, and give you a good profit.
About 1 week to expiration is your first decision point, unless you accumulate big profits before than. By 1 week before expiration you can judge whether it is worth rolling over the position to the next month, or just exit with a small profit or a small loss.
When you say "now what?" it will depend very much on the gains (if any) that you may have accumulated, the Vega profits (if any), or even your interest in the position.
I leave it up to you to decide whether the stock has rallied sufficiently. I am assuming here that you have sufficient experience trading stocks to estimate whether a stock has reached a top. There are plenty of books for that, and different T.A. techniques. We can discuss some viable T.A. strategies to call tops, such as candlestick reversal patterns, or Bollinger bands or sell signals of one type or another. The same could be said of the bottoms.
What may be new for you and others is when to take Vega profits. With access to TOS platform, you could see a chart of I.V. and determine whether IV is at the top of its 6 month range. That would indicate that you have accumulated Vega profits, and that you could probably exit the trade, before IV begins to decline.
I have promised to write a "manual" for exiting trades that I will be posting in my private discussion group.
Please don't hesitate to ask any further questions.
SG, thanks for your comment.
I have been contemplating a demonstration of my system trading ONLY once a week, Fridays would do, since you may use the "one week before expiration" rule to evaluate your gainers and your losers. If you have Optionetic's Platinum, finding candidates would not be hard to do.
If you get bored by intraday trading, perhaps you should walk your dog because my strategies are not day trading. That should be abundantly clear. Your desire to make money no matter what, or placing your capital at play at all times, may actually work against you.
Remember, my original goal was to have the freedom to travel without checking my computer all the time. Last week, I purposely went on a vacation in which I had no access to computers. Wednesday, when I returned, volatility had declined after the FED lowered interest rates. By today, my account had recovered from the IV decline and gain additional value from the Friday before I left.
The bottom line is that with this system you don't have to be by the computer. You don't have to worry about a loss of 30-40% of the underlying of one of the positions you hold. Could you say that from any other strategy?
From the day I started placing these trades I experiences a dramatic change in my mind set. I no longer concern myself with the movement of the market, no longer do I worry that my positions are working or not. I no longer have to close my positions before going on vacation. I no longer have to go to hotels with internet connection only.
It is ironic that you mention your profit being 7% because that has been the returns on my Elliott wave paper trading account, which requires 10x the management. You will gain sufficient experience and knowledge to dominate this style of trading and any other you may consider because we deal with Vega, Theta, Delta and Gamma routinely. It is the Greeks that make options work.
Thanks for your comments.
Dear All,
What do you think of this idea?
To incorporate the following :
Post Earning, 52 week high and volatility skew as a standard search for potential trades?
I too have had very good returns on my papertrading account over the last 9 months. I started trading real money using the PCCRC after March expiration. I can tell you papertrading is not the same as the real thing. My account is positive, but real life trading can throw a wrench in the works. For example I was assigned on one of me short calls the other day. 10 days before expiration. Why? I don't know. Arbitragers I would assume. I planed to exit anyway but not today. So, now I was short stock and had to buy it back (at a loss) to get my buying power back in the green. I also had trouble exiting the rest of the position. I had to give up some profit just to get out.
I don't expect this to happen often, and perhaps this was a one off situation. Still, from now on I will look close at any position that is deep in the money.
Another limiting factor, for me at least, is I must trade small positions because of my account size. Not only does this limit my candidates but, it limits my ability to adjust the position and take profits. I have not had much luck so far rolling up one of my longs, and in retrospect I would have realized better profits by just exiting.
Still, all-in-all the benefits far out weigh the limitations and as I become more comfortable with the strategy I'm certain my profits will follow.
Tony, I agree with you that there are some management issues that show up if you are not ready to deal with them.
I have recommended how to deal with assignment and with small accounts.
I keep a $25,000 account, that I started with $15,000 last year. So I know it is possible to deal with -1,-2 contract format. I am sure that you have already experience the rolling up strategy. This is a very important skill because one day you'll be trading the GOOG's, RIMM's, GS's and AAPL's of the world, and the only recourse you'll have is to take profits by rolling up.
Being assigned can be prevented by watching the IV of your shorts. If you are deep ITM and low IV, arbitrage becomes a factor. In such cases, you can exit the trade or rollover to the next month, to anticipate assignment. If you are assigned, you could easily short next month (not same month) and when filled, buy back (or sell back) your assigned stock. If you are trading with TOS, that is not a problem. In fact you can set a conditional order to do both transactions, one after the other. Ask me if you want me to tell you how I do it.
This is indeed the most significant issue for me in terms of management. Remember, I said I want to be able to travel without having to worry about my trades. You could have a blackberry or other technology with you when you travel, but I have little experience or appetite for carrying mobile technology when I am supposed to be having fun.
My solution is to rollover to next month if you are leaving for more than 1 weeks, or exit positions that are ITM. Please ask me about this when in doubt. This is an interesting subject and your experience as well as that of others would be good for me to learn from.
BL, do you intend to use Platinum for your searches?
It sounds like you are combining 3 strategies in one because either one of those separately can yield good candidates.
Dear Juan,
Yes Sir, you are right I am combining 3 into 1 to do my searches.
I will stick your rules using either one to find good trade. Just keep it simple.
Juan,
Can you please explain the conditional order when assigned. Did you mean the OCO order?
Cheers,
Prashant
OK, suppose you have 2 long Oct. puts and 1 short June put, and these are deep in the money as the stock has dropped significantly.
Now your short put is assigned and you are long 100 shares of stock. If you want to stay in the trade, set an order to sell July puts at the same strike price. Before sending it off, in the TRADE tab, you'll see a pop up menu labelled "Advanced Order". From this menu, select "1st trgs Seq". You could then choose to sell the 100 shares of stock at the market price. Hopefully with a narrow spread between bid and ask, you won't lose much money on slippage.
Why would I do it this way? because I would like to set my sell price for the put at a limit price I decide, and the quickly exit the 100 shares. Trying to sell the put at market would probably be costly.
Thanks Juan,
Much appreciated. I'm having fun paper trading PCCRC. Its a great system with exceptional support.
I've got a question on locking profits though. If say I've got a trade on for PCCRC 1:2 at strike price of 120 and debit of 46.50. The stock moves to 135, the trade shows a profit of 120. I sell one of my long calls and buy 135 strike. The debit goes down to 3080 and profit to 80. The stock moves up further to 150. Profits show 800. I sell the 135 call and buy 150 call. Profit goes down to 750 and debit to 2000. The stock further ralies to 160 and profits show about 1200 Now I sell the 150 call and buy the 160 call. The profits goes down to 1100 but the debit becomes 1010.
After few days the stock falls and the trade shows a profit of 500.
If I exit the trade now, I've just made 500 and not the 1200 that I had at one stage. I may have reduced the debit but after so much trouble the profit is only 500.
Any hints if I'm missing something. I can post the question on your private blog as well if you wish. I've got the trade saved in platinum and can mail you.
Prashant....
I can't comment properly unless I have the name of the underlying, the strike prices and expiration of all contracts you bought and their dates, and the prices you paid.
If you have platinum, you could "share" the trade and I could downloaded for examination. That would help me a lot, rather than having to enter everything myself.
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