All that Glitters is not $GLD

Before I begin, I want to clarify that I am no “Gold Bug” nor am I in Mark Faber camp to expect Gold to outperform every other asset class in 2015. I simply study Charts and when they are trying to tell me something I listen. So what are they saying to me now.....read on.

The daily chart of $GLD, below, is showcasing a classic inverse head and shoulders pattern with the neck line at $118. On 12^th Jan, $GLD prices were flirting with the neckline level for 3 days with a final blowout happening on 15^th Jan on above average volume – triggering a buy signal.

I didn’t like the long tail on the daily candle @ close on 15^th Jan which is why I waited another day. 16^th Jan was no different & my skepticism had not completely vanished. Today, I finally pulled the trigger knowing that there is strong momentum behind this breakout with further still room to the upside. The upside target for an inverse head and shoulders pattern is to look at the distance between the head and the baseline ($10 in this case) and add that to the neckline. So the approximate target for $GLD is $118 + $10 = $128.

TRADE

Bought $116 Calls for Feb 20^th Expiration @ $8 each ($GLD @ 123.7)

Profit Target: $GLD @ $128

Stop Loss: $GLD below $121 (I will keep moving my Stop Loss up if stock keeps rallying)

WARNING: One reason why I am not in love with this pattern is because it’s contrarian to the strong downtrend in $GLD, see weekly chart below, that has been in play for a long time now. Absent this pattern, this would be an excellent short point for $GLD – which speaks to the complexity in interpreting charts. In order to address this risk, I have the stop loss in play & I will not interfere with it.

One thing I’ve learned over the years is that it’s not good chart skills that make you money, but it’s applying proper risk management “all the time without any exceptions”. Good traders should never be judged purely on their returns (sadly the industry looks at Sharpe Ratio as the key performance indicator) but instead look at “Risk Adjusted Returns” that take into account the extend & duration of maximum drawdown with respect to the returns (also known as Calmar Ratio). My next article will focus more on Risk Management Principles.

If you found this article useful & have experience in technical analysis (chart study) then please give me 5 min of your time by clicking here to fill out a short survey that will help me in designing a stock video game that focuses on identifying bad trading habits & fixing them through playing games.

Happy Trading!!

$TSLA - SIDEWAYS CAR?

The tale of many momo stocks (like $NFLX) is literally a carbon copy of each other considering their most recent peak in March to their aggressive fall in May now leading to re-tests of those highs. History often teaches us that when a stock experiences a re-test of it’s previous high from an aggressive sell-off then the first reaction to that re-test is either a period of consolidation or perhaps a brief period of pullback. The reason is simple – people who bought at previous highs are happy to get their money back so they become sellers, whereas others who completely missed the rally are waiting to get in so they buy on pullbacks. This push and pull scenario is ideal for a sideways consolidation until there is a resolution to one side or another – and usually (not always) this requires some sort of a catalyst.

If you overlay all this information on $TSLA, you know exactly what I’m talking about. Take a look at $TSLA’s weekly chart below, the “pink” line shows you the mirror image of the fall and the re-test of $260 level.

Look at the October timeframe when a very similar thing happened (red line) – the stock plunged 40% from $194 level in 8 weeks, and then recovered all of it in another 11 weeks. That’s very symmetrical. However, when the stock re-tested $194 level in Feb, my thesis above didn’t quite play out as one would expect as there was minimal consolidation (around 3 weeks) and almost no pullback until the stock made a new high of $265 and the interestingly pulled back to re-test that level 2 months later.

Why did the stock not react to the overhead supply at $194 and not consolidate before going higher? Well, that’s exactly why technical analysis is a probability based model – it’s never 100%. One could argue that the overall market was very bullish during that timeframe, or perhaps the momo fever was full on when the previous buyers didn’t want to get out…..whatever the reason might be, I personally think it was a bit of an exception than the rule. I chose to point this out so that readers are fully aware of past situations and use everything to make the best decisions.

If and when the stock re-tests the 250 to 260 range (it’s almost there), my analysis says that the stock will respond by either (at least) some consolidation or a mild pull back just in time to get ready for the next big catalyst which is earnings on 4^th August. Hence I want to sell an Iron Condor 3 weeks out (July Expiration) so that the consolidation results in premium erosion that would benefit the structure. Here’s the trade:

TSLA ($243 Currently) July Expiration Sell 200/235/235/270 Iron Condor for a credit of $16

• Buy 1 $200 Put for $0.32
• Sell 1 $235 Put for $5
• Sell 1 $235 Call for $12.7
• Buy 1 $270 Call for $1.35

To Protect my structure of any wild moves in either direction, I like to buy some hedge (protection) by buying a strangle.

TSLA ($243 Currently) July Expiration Buy 1 205/260 Strangle for a debit of $2.4

• Buy 1 $205 Put for $0.3
• Sell 1 $260 Call for $2.1

Total Structure Cost: $2.4 Credit (Strangle) minus $16 Debit (IC) = $13.6 Debit

NOTE: I have not put this trade on yet, but if the stock enters the $250 area (over next few days) I want to sell this Iron Condor for about $17.5

If by July Expiration the stock remains between $218 and $252 then the trade makes money. Max Profit Potential is 100% which happens if the stock expires at $235 (although I plan on not keeping it till expiration)

Profit Target: 20%

Loss Target: 25%

RISKS – The main risk for this structure is if the stock continues to grind higher post the $250 resistance area – which is possible but seems not that likely based on my work (above) which is why my Strangle protection should help. I will certain keep a lookout for any breakout signs in which case might consider closing the trade early. As always, the most important risk mitigation in any option strategy is “Position Sizing” – so I will commit a  small portion of my portfolio to this trade (just as any other trade).

I do think $TSLA is in a good spot to move sideways until the next (earnings) catalyst shows it’s hand…which should result in rapid premium erosion since this structure is only 3 weeks out. Follow me @KingsHedge to stay updated on the trade’s execution alert & it’s management. Cheers!

Better to be a "Profitable" trader or a "Good" one?

It’s one and the same thing right? What’s the difference? There is a massive difference between the two...lets look at each of them separately.

Being profitable is very straight forward - If the sum total of all winning trades is greater than the sum total of all losing trades in a given time frame, then the trader is profitable. Simple.

Defining a "Good" trader is much more complex as everyone sees it differently. While I’m not attempting to provide a definition that ends up in meridian dictionary – my intention is to take a step back and look at the forest rather than focusing on the trees. In my mind, the 2 essential elements of good trading boil down to having a comprehensive trading process or method that is time tested and accounts for good risk management….and a rock solid discipline to execute on the trading process. The zillion different characteristics of good trading that come to mind can ultimately be rolled up into 1 of these 2 elements.

That sure sounds simple and easily doable, doesn't it? It’s not. Think about the infinite versions you have read about majority of stock traders losing money over time….and apply it to my equation above and think where the problem might be. Is it really that difficult to come up with a proper trading process? Or is it really that impossible to follows your own plan? Well, the answer is not that simple. 

It can take years for traders to identify the lack of a proper trading process. The first 4 years of my trading, I thought I had the process nailed - but it wasn't nearly as comprehensive - and didn't have proper risk controls baked into it. Most traders are smart people…combine that with the wealth of information available out there – sooner or later most will figure out the gap....just the time it takes to get there would vary. However, “knowing” and “doing” are 2 very different things. Isn't ‘knowing’ and ‘doing’ one of the key differentiators between people who succeed and those who don’t?

The 2^nd element of the equation, Discipline, is the hardest to master…and this will end up being the “decision-maker” on how much a trader will grow eventually. It can be challenging to comprehend why it is so difficult for most traders to achieve the level of discipline required in executing their trade plan in spite of trying so hard….the answer lies somewhere in the understanding of human psychology.  Everyone knows that emotion is a big driver in trading and controlling the strongest emotions of ‘Greed’ and ‘Fear’ takes a lot of self-awareness, practice & constant re-designing of the process so it can complement the way the Trader's mind works without disturbing its harmony.

An institutional or hedge fund trader will have some aspects of “risk controls” or the “discipline factor” baked into the trading platform. For example, the trading platform inhibits a pro trader from putting more than x% of $ in a single trade -or- having more than a certain loss on a single position. 

For the retail trader, the "discipline factor" is entirely internal & all in their mind. Nobody is watching over their shoulders to ensure they don’t deviate from their trade plan (assuming they have one). The only thing standing between their plan and it’s flawless execution is their mind and the tsunami of emotions going through it based on multiple factors. Acquiring this discipline is an extremely challenging task and many traders would end their careers before they are able to solve this mystery. Discipline is one of the biggest areas where a pro trader has a significant edge over retail traders.

Now if a trader has mastered their 'Discipline to execute' but they don't have a solid trade plan - then that's also a problem because there is no plan to follow. So there must be a handshake of both elements in order for it to work.

So the million dollar question is, does mastering both these elements guarantee success? Well, nothing is guaranteed in life...but I do think that if someone has gone so far to master these 2 elements then over time the odds of success are heavily skewed in their favor and eventually they will achieve success.

To sum it up, a trader's profitability doesn't tell the whole story as they might have just had a good run. A good trader, on the other hand, has the right methodology, risk controls, mental attitude & discipline that might not bring success in certain pockets of time, but in the long haul it surely will.

If you found this article useful & have some experience with technical analysis (chart study) then please give me 5 min of your time by clicking here to fill out a short survey that will help me in designing a stock video game that focuses on identifying bad trading habits & fixing them through playing games.

Follow me @KingsHedge and always strive to be a "Good Trader". 
Cheers!!

Netflix: House of Consolidation?

Update On July 08, 2014 at 9:12 AM
Ok with NFLX pulled back so significantly today I'm closing my IC today for $32.6 each. Yesterday I had closed the hedge for $12.3.

IC Closed at $32.6 (today)
Strangle (hedge) closed at $12.3 (yesterday)
NET STRUCTURE SALE PRICE = $20.3
COST PRICE = $31.35 

OVERALL PROFIT = 30.8%

Update On July 07, 2014 at 11:20 AM
Looks like NFLX might be pulling back a bit as the "weak hands" are taking profits before the earning season begins. That doesn't mean this thing cant pop right back, but I do expect a bit more selling, so for now i'm going to sell my Strangle (hedge) for $4.1 each (bought for $1.75 each) for a total of $12.3. Will continue to hold the IC and sell it on any pullback.

Update On July 01, 2014 at 08:34 AM
The timing of our Strangle hedge yesterday turned out to be really good - but in hindsight we just got lucky. 
The IC is currently down around 30%, however the Strangle that we purchased for $1.75 each (see yesterdays comment below) is worth $6.5 each which is a gain of 27.5% on the overall portfolio, hence making the whole structure down around 2.5%. I will continue to hold the position for now.
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Update On June 30, 2014 at 11:41 AM
One of the ways I like to hedge my IC's is by buying a strangle (a long call and a long put) for 15% value of the IC. This minimizes my loses in case the stock has a sudden move in either direction as the loss in IC could be (to some extent) negated by the gain in the strangle. I put the hedge on usually at the same time as the IC since I sell 3 weeks out - but in this case I chose to wait until today since I sold 5 weeks prior.

Now that my trade is up 5%, I want to spend 15% of the value of IC to buy a $340/$480 Strangle for $1.75 each
If I had 1 contract of the IC, then I would buy 3 contracts of the Strangle.

Buy 3 $340 put for $0.15
Buy 3 $480 call for $1.6

Credit from IC = $36.6
Debit from Strangle =  $5.25 
NEW COST OF STRUCTURE = $31.35 Credit

If NFLX remains range bound, the IC will gain value but the Strangle (hedge) will lose value which is exactly what we want. We give up a little bit of profits using this method to buy protection from any unexpected moves.
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Update On June 26, 2014 at 10:24 AM
Up one day, Down the next day...this is what consolidation looks like. While it's frustrating for long premium plays - it's great if you have sold premium and betting that market makers are right this time. 

So far, the stock is acting as per the original thesis I laid out.....consolidating and pulling back slightly in response to the overhead supply. If the stock continues to come it, it will greatly help the trade. For now, I continue to hold. 
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Update On June 19, 2014 at 12:38 PM
Update: Still holding the trade. The real risk would be a big gap up above $360 because that might cause a short squeeze and push the stock even higher. Typically if a stock has climbed an almost straight line of 50% in such a short amount of time...it needs time to refresh itself before it regains it's mojo. So I still think sideways to slightly downward is my bias and i continue to play with the IC outlined above. 
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Update On June 13, 2014 at 9:50 AM
2 days after I put on the trade, it is working as expected. There has been a $5 pull back in the stock and my Iron Condor structure is up by $2.3 which equals 6.2% in profits. 
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NFLX never fails to entertain – whether it’s the streaming service or the stock itself. It plunged from it’s all time high of $458 to $300 (35%) only to jump right back to 430 (43%) – all in a span of just 3 months. While it would take a classic tarot reader to predict the stocks next 40% move….the charts do leave us with some clues. If you look at NFLX weekly chart and draw a vertical line around end of April timeframe – the stocks fall and recent rise looks like a complete mirror image – and I think therein lies the important clue to the stocks next move.

The stock’s recent straight line move from $300 to $430 has been nothing less than excessive leaving most technical indicators in overbought territory. The whale has had a big meal and needs time to digest it. People who bought it at this level 3 months back (prior to the big plunge) are happy to take their money and run. The more lucky ones who picked it up at lower levels are sitting on a nice profit & will get out on the first signs of a pullback. On the flip side, new buyers are hoping for a sell off so they can get in and ride the next wave higher. This situation creates a perfect dead-lock between the bulls and the bears – which should keep the stock mostly range bound for the next few weeks.

Selling options has been one of my favorite strategies since I started trading options 10 years ago and in my experience Iron Condors offer a decent probability of success in scenarios like this where the stock has had an excessive move and is expected to consolidate as the stock changes hands between old buyers and new ones. Put it all together, here is the structure that I’m going with:

NFLX ($429.95) July 2014 Expiration 335/410/410/485 Iron Condor for a credit of $36.6

-          Buy 1 July 19^th $335 Put for $0.86

-          Sell 1 July 19^th $410 Put for $10.9

-          Sell 1 July 19^th $410 Call for $29.5

-          Buy 1 July 19^th $485 Call for $2.95

If by July 19^th Expiration the stock is between $373.4 and $446.6 then this structure will make money. Max Profit potential is 95%. Profit Target is 25%  and Loss Exit Target is 30%

Why did I chose this structure? I have 3 key risks and here is how I chose to mitigate them:

• Stock moves too much to the downside: This is a real risk as profit taking can quickly take this thing back to 390. Although I do think any sell off will be short lived and new buyers will likely push it right back to current levels, but depending upon the sell-off (if and when it happens), I might consider buying some out of money puts to protect myself from a major down side. My strike selection of $410 is about $18 below the current stock level to account for this risk.

• Stock moves too much to the upside: This seems a bit less of a risk considering the 43% rise in such a short amount of time without any real correction. I think the best thing that can happen for this structure is that the stock continues to go up in a straight line, because then the likelihood of it hitting the 450-ish resistance and then pulling back hard to 400 level over the next few weeks would be very high which would work out very well for our structure.

• Stock volatility shoots up: The stock volatility would likely shoot up if the stock has a sharp drop, so this risk is linked to the 1^st one I mentioned above – which is another reason why I decided to go with the $410 strike as midpoint so that if the stock falls $20 points then the rise in volatility will be more than offset by the reduced price of the structure (since stock will be at the structure midpoint)

I typically prefer to sell options 1 month out to enjoy the rapid decay, however I’m going with July expiration in this case because NFLX is highly volatile so I want to have a little extra premium collection that gives  me that extra safety cushion. In addition, the bid/ask for other expirations is too wide which I don’t like.

The last time $NFLX had an excessive move from $320 to $430 level back in March, the stock consolidated for a good 6 weeks (see blue rectangle below). Same thing happened when it fell to $300 in April - stock consolidated for few weeks - although range was wider (typical of a bottoming action which is different from a topping action) - which is why I think going out 6 weeks with a 30% loss threshold gives us the tolerance we need to hold through any temporary turbulence while it consolidates.

I think NFLX is in a sweet spot where the bulls and bears will go back and forth on it for a while which would result in premium erosion that could prove to be an amazing opportunity to sell options that are not necessarily too cheap.