Today

What a surprise, today. Stocks gaped up and went on and on. I haven't checked yet, but I think the volume is probably not strong. Considering 3 day labor day weekend, many traders take advantage of this whole week. Usually, the summer slow trading is done by Labor day. This year's summer has been pretty volatile, but the last few weeks have been very slow and choppy just like any other summer trading. As a trader, I like to see some more volatility. Anyway, whenever volume doesn't confirm its move, the move is suspicious. I'm thinking today's rally is in the same manner.

I waited 4 hours to take one trade, but the setup was invalidated at the last minute. Bummer. All I need is 1 or 2 good setups per day. I'm very confident with things I've been doing on ES, but I need to be a bit more aggressive.

On to Natural Gas. Wow. It was +0.8 (or +10%) before the report, but after the report, wow, dropped to almost -0.8 (or -10%). In order for me to get involved with NG, it has to come down to low 7 level while it's still fluctuating around 8. I have to be very patient regardless. If we have a follow-thru to the downside a few more days, I should be able to sell 6.5 for $2K-ish as I said earlier.

4 ES long at 1272

Results:

+10 ticks or
+$125 (less commissions)

Long 4 ES at 1273

Result:
+20 ticks or +$250 (less commissions)

This is something I've been working on a sim for quite some time.

Outlook

Wow, things are a lot worse than I thought. I moved my 403b money from stocks back to money markets on Monday (8/18). As soon as I saw lower high with an important trendline broken, I quickly moved. I took a stop loss on GS (-$120 loss) on '5' lots. I'm still holding AAPL since I have some cushions to work on. Techs still look great but without overall markets' help, it'll be hard.

Oil, gold, euro, grains etc all started resuming its trend to upside. I should start looking at gold or gold related stocks pretty quickly. Financials are really bad and they are weighing markets down. FNM and FRE could be gov-owned very soon. LEH might go bankrupt. As soon as one or both happen, I'll look long again. Buy the rumor, sell the news, isn't it?

I talked about possible new long term trades. Today Natural Gas shot up from inventory report. Well, my order may not get filled at all!

I exited my soybeans short at 1184 and 1272. I'll look to short the beans again if the spread gets about $35000.

Natural Gas plan

The logic behind for this trade (or Lumber I'm currently in) is as follows:


'The price of Natural Gas (NG) will never go zero.'

In order to take advantage of this opportunity, I start buying it from certain price levels (depending on aggressiveness). The simplest way is to buy futures outright and cost-average as it moves down. This type of cost-averaging is different from 'scale-in' in day trading. Because you know it will eventually go up.

A smart or safer way to get involved with NG is to sell puts. Currently NG is traded at 8.2ish and 7 Oct Put goes around 0.150 (or $1500).

http://quotes.ino.com/chart/?s=NYMEX_ON.V08.7000P&v=d12&t=l


The 7 (if assigned) would be the first leg of NG as if you are long futures outright from 7. For futures, you have to wait until price comes down to 7 and buy it. For options, you do not have to. If you think you can bring enough premium, you can sell way before it gets to the 7.

So, say, you sold the 1 contract of Oct 7 put. Two cases can happen:

Case 1. NG did up/down moves but on the option exp day, it didn't close below 7. The option you sold expired worthless, meaning you get to keep the whole premium you wrote ($1500).

Case 2. NG's closed below 7 (say 6.8), meaning you'll get an assignment very next day. In other words, in your futures account, you'll see one NG long contract from 7 (7 put option is gone) as if your option is converted into futures contract. (Since you sold 1 option, you are assigned 1 futures.) Now that the current price of NG is 6.8, you'll also see you're -$2000.

Note that in either case, you get to keep the premium anyway, so your account's balance went +$1500 more than before you wrote (or sold) the option. This also means, instead of losing -$2000, you're only down -$500 (= -$2000+$1500). If you bought futures contract outright at 7, you're -$2000, but because of option's premium you're only -$500 at the end. This is exactly why you want to utilize options. The benefit of using options don't stop here. In the case 1, you got paid $1500 by trying to get in at 7 whereas if NG didn't come down to 7, you're sitting on your hands doing nothing.

Of course, there's a catch. What if while you're holding your put option, NG drops below 7 and quickly moved higher and keep rallying to 9? The max profit from selling 7 put option is $1500 whereas if you bought futures outright at 7, your profit is $20,000. The choice is entirely up to you. I like to play on a safe side and that why I like to sell options and keep the sure thing instead of being a hero.

There are a few choices you need to make. At what price are you going to start selling? How much options premium do you like to bring? At what level are you going to start cost-averaging? What's your exit level if assigned 1, 2, 3 etc? Are you okay with margin?

If you're aggressive you can start selling 7 or 7.5 option. But since I'm not, I'll try to sell 6.5 put with $2K premium. Note that 7 or 7.5 you can bring $3-4K premium. My cost average level would be every 1 basis point. I'll throw an order to sell 5.5 put for $2K ish if NG keeps dropping. 4.5 and 3.5 the same way. The realistic downside of NG is about 5, so I would likely get filled on 2-3 levels max. For two levels, I have to go thru 10K-ish and for three levels, the drawdown would be $30Kish.

On the upside, if I get assigned on 6.5, I'll sell 7 to 7.5 call option for $4-5K premium. If the call expires worthless, I'll roll over to the next month and sell another call for $4-5K premium with the distance being at least 0.5 to 1. If I get assigned on that call, it'll offset my long (from 6.5), so I'll be flat. If price is attractive enough, I'll sell another 6.5 put for $2K. I'll do this over and over again.

Last year, NG stays around this price for a long time, so it was very very profitable (not me, but the guy I learned the way how to trade this way. Let's say at least $50K). I'm looking for at least $20-30K with this opportunity. Why is this possible? That's because unlike Lumber, NG's contract is traded every month. Lumber contract is quarterly whereas NG is monthly.

What you need to implement this strategy is:

-Pit-traded futures account (so that you can write options)
-Enough account ($50K minimum)
-Patience to go through drawdowns

New trades (potential)

I'm looking at a few new trades now and they are all long-term position trades. The strategy I'll be using is similar to my lumber trade. Basically I sell put options, and either take profits or get assigned. If assigned, I sell lower strike puts (cost-average) or sell higher-strike calls (covered call). If I don't get assigned, I sell another put at either lower or same strike price on another month.

They will eventually go up although cycles can take years.

-Orange juice
-Cotton
-Natural Gas*

*Natural Gas could be a real money maker, but it's not for new traders or small account holders. NG's margin is about $13K per contract and it can be very volatile. One should easily be able to handle $10-30K draw-downs. Rewards are very high regardless. Sell at the or slightly out-of money options could bring easily $2-4K in options premium and sell covered calls could bring $3-7K. What's good about the covered call is if the call is not assigned, your average price gets lower. If the call is assigned you would make $5-7K profits from the long position plus $3-7K options premium you wrote. If its price hangs around that level long enough with a good volatility, $20K profits are not unusual.

If none of this makes sense, I wouldn't consider selling options.

Trading psychology (revenge mode?)

I'm still working on my psychology part of trading. Yesterday, I exited my 8-month long bean-meal spread. I didn't make as much money as I would hoped for, but made some. Great. Today I got up and checked the bean-meal spread as it became my habit for the past 8 months. Guess what, after I exited, it went in my favor of $1K, but more to come.

I don't know if this is normal, but I must have a bad ego. Since I exited, I want to prove that I made a good decision, but apparently it's not!

One of critical skills to learn in trading is the ability to quickly move onto a next trade. I don't think I'm quite there yet.

Profit / Loss update

I updated my 2008 Profit / Loss. I decided to put the P/L based on liquidating value, which is more accurate instead of close-based value.

I'm up as much as the last year, but not by much. I must admit that it was more stressful this year because of the bean-meal position trades. Now that I exited that position, markets will go my direction. Isn't it what markets do any way?

The good news is I've been doing very well practicing a new strategy. My goal is to quit my day-job, by early January.

Soybeans - Soybean meal Spread summary

Soybeans/Soybean meal spread
Short 1 Mar Soybeans at 1236.25
Long 1 Mar Soybean Meal at 343.9
(entered on 1/2/08 )

-----------------

Covered 1 March S at 1391.50
Sold 1 March SM at 360.2Sold May S at 1409.4
Bought May SM at 367.5(Rolled over to May on 2/20/08)

---------------------

Short 1 May S at 1345 and Long 1 May SM at 353.7
(entered on 3/25/08)

-----------------

Sold 2 May SM at 343.10
Covered 2 May S at 1353
Long 2 Jul SM at 348.40
Short 2 Jul S at 1368.25

(Rolled over to Jul on 4/18/08)

------------------

Covered: 2 July Soybeans at avg of 1582.575
Sold back: 2 July Soymeals at 423.40
Short 2 Aug Soybeans at 1580
Long 2 Aug Soymeals at 421.2

(Rolled over to Aug on 6/27/08)

--------------------

Covered: 2 Aug Soybeans at avg of 1604.50
Sold: 2 Aug Soymeals at 428
Short 2 Nov Soybeans at 1580Long 2 Dec Soymeals at 411.4

(Rolled over on 7/1/08)

---------------------
Exited 1 spread;
Bought 1 Nov soybeans at 1180.5
Sold 1 Dec soybean meal at 313.30
(8/8/08)

-------------------
Exited 1 spread;
Sold SM at 349
Bought S at 1272.5
(8/14/2008)

Exit the last bean-meal spread

So I exited the last bean-meal spread;

Sold SM at 349
Bought S at 1272.5

I think grains are bottomed out at least temporarly. I'll look to re-enter when the spread goes back up to $35K. I was able to pull out $4000 on this trade, but still considering all the agony I had in the last 8 months, I don't know if this is worth or not.

Exit 1 bean-meal spread

So I exited one bean-meal spread (still holding one).

Bought 1 Nov soybeans at 1180.5

Sold 1 Dec soybean meal at 313.30

I made about $3K on this trade, but I really hope the 2nd leg would meet my objective, which should give me $10K or so. It's a shame that I couldn't hold on to a bit longer for what I just exited, but I went thru quite a bit of drawdowns and I do a lot better when I book some profits. 

As you see the screenshot above, the spread trading is where you buy and sell two different contract simultaneously and expect the difference becomes bigger and smaller. I am losing (the shot was taken before I booked my profit), $19K on the soymeal, but making $39.6K on the beans.

By the way, lumber is not doing anything. It may take a while.

I'm also watching natural gas to see if it drops to 7 area where I'll start selling 6 puts.

Psychology

The number one reason that 90% of traders fail is due to psychology. I've been trading for a while, but I'm still struggling with it every single day.

The biggest one I have is the soybeans-meal spread. I was going thru a significant drawdown and now it came back up. As a matter of fact, I'm making some money, more than my monthly pay-check from a computer engineer job, but the problem it's still far less than the amount I risked. We all have invested or traded in one form or another and said to ourselves, 'if this thing comes back to break-even, I'll just get out and I'll never invest/trade.' That's the exact situation I'm in.

If I get out now, the reward-risk ratio would be 1:7. (Risking $7 to make $1, which is not right!) In order to survive in trading, I need at least 1:1 ratio. But man, my target is still so far a way. I don't know if I can fight for it or not.

FOMC

So the feds held the key rate at 2% (I believe). The decision was a piece of cake because as many of you know the price of commodities easied quite a bit. For example oil was at 145 not too long ago, and today we dipped below 120. That's about 15% drop. Not to mention, gold, euro and grains, they all fell nicely. The feds had to dilemas: inflation and liquidity (jobs, money from gov to banks, etc). Since the inflation has been easied and the credit crisis is slowly recovering, there's no reason for the feds to raise.

People were heavily investing money on inflationary instruments and they've been pulling out quite a bit. Where is that money? As I said in the previous post, stocks suddenly became very attractive.

Either the worst is behind or not, markets are liking what the feds are doing. Once dollar starts breaking high out of the consolidation, we'll see more drop in commodities. This doesn't mean, of course, oil drops to $50 and stays there, but we'll not see a parabolic type up-move near soon.

I have moved all of my 403b plan back to stocks and global equities and purchased some stocks in Roth IRA a few days ago. I maybe wrong, but I think we have a good shot here.