Saturday, 21 May 2016

More on LB / Thoughts on Option Risk & Trading

I've posted a couple of times this week on an idea I had regarding speculating against prevailing sentiment in L Brands into earnings.  I still believe the overall idea is valid.  The job of the speculator is to assume risk and get paid for assuming risk.  The problem I had was twofold, 1) the mechanism I chose to speculate with lost money, and 2) I bought into too obvious a set-up.  More on this shortly.

This is all ok as long as I keep position sizing small enough to not matter, and debrief the mechanics of the trade and understand why it went wrong.

Trading is just about the most frustrating job on the planet.  You can have the right idea in theory and still get blasted.  It's like death by 1,000 paper cuts.

It's a constant process of grinding it out, and the hardest part of evaluating wins vs. losses is not letting wins (or losses) get to your head and influence your process.  Often, wins are a result of dumb luck.  I want to distinguish for a moment between trading/speculating and investing.  Sometimes there is a huge difference between the two.  Other times, the lines get obscured.

Over time, I've become convinced that many participants are lucky and don't realize it.  Arbitrarily picking a basket of stocks and holding those stocks during a rising market may have more to do with luck and good timing than exhibiting any real skill in stock picking.  The real test of mental fortitude occurs when the opposite occurs.  When that basket exhibits a significant drawdown, how does the participant react?  Does the participant abandon the steadfast principles of acting the part of a long term investor and revert to selling parts of his portfolio to "minimize risk"?

Back to LB.

On Wednesday May 18th, I bought one June $67.50/$70 call spread for a net dr. of $.60 in anticipation that earnings would surprise.  $.60 seemed cheap in the context of overall acceptable risk in my IB account.

I drew the following trend-line on a weekly chart anticipating that it would hold and provide support:

Here's the daily set-up (through Wed May 18th, b4 earnings):

And here's the daily set-up post eps (on Thursday):

I commented above that I bought a call spread into too obvious a set up.  The more I think about this, the more I believe that what appeared obvious to me should have been a warning to me.  When a set-up appears juicy, it probably means that other participants are observing the same set-up and positioning themselves all on the same side of the set-up.  Sound familiar?  This is really no different than sports betting.  If the Patriots are favoured vs. the Broncos, it gets more costly to bet on the Patriots vs. the Broncos.

If a set-up appears juicy, I believe the correct approach is to either stand aside and observe the reaction, or to have an anticipatory order in the market based on a max "psychological" pain result.

Max pain would have been a further move down to even money support at $60.  For less risk of putting on the June $67.50/$70 call spread, I could have entered a good to cancel order for the June $65 call at $.40 in anticipation that all other participants were positioning themselves for some sort of mean reversion from oversold conditions.  When the bounce did not occur on Wednesday, selling pressure likely became exacerbated by virtue of all participants on the wrong side of the trade unwinding their losing positions.  On any subsequent bounce, I could have then sold the $67.50 call against the $65 assumption of risk for even money in order to put the call spread on for free.  Heads I cover my entry risk, tails, I make $2.50.

Here are the June calls courtesy of yahoo finance from Friday:

The more I participate, the more I believe that trading is akin to a giant game of chess, trying to see a couple of moves ahead while minimizing risk and maximizing returns.  And it is not easy.  It is extremely counter-intuitive.

Friday, 20 May 2016

Debriefing L Brands

I previously posted about a gamble in my IB account, and I believe that the only way to learn from mistakes is to debrief and sort out what went wrong.

I posted the following chart pre-earnings release on Wednesday, and I was wrong.  I bought one June $67.50 / $70 combo for a net debit of $.60 in anticipation of a positive reaction to an event:

And here's what happened:

So, despite my thinking LB was likely to react positively to an earnings surprise, my thinking (or hoping) for an outcome is completely different than waiting to observe the market's reaction and then taking action.  I exited the combo for a credit of $30, so I lost $33 on the trade, which is manageable.  It's basically beer money (or lost beer money).

I believe the lessons here are as follows:

  1. Anticipatory trading is a fool's game, especially given that the odds are stacked against participants in the way of options premiums going into an event being adjusted upwards (vol is typically high going into earnings)
  2. If I am going to make an attempt to devise a system of trading combos, I am better off waiting and observing the market's reaction prior to risking capital.  The obvious point of support to participants is the very nice linear trendline catching all the lows from 2009, rather than the $60 round # "cry-uncle" target.  
  3.  I am likely correct in keeping bet size small enough to not matter, but given 1. above, I wonder why i bother?  It almost feels like death by 1,000 paper cuts.  
  4. I don't have any edge here.  Going back to 3., why bother?

Wednesday, 18 May 2016

L Brands Technical Trade

Quick post, I've started keeping a trading journal for the trades I do in my interactive brokers account.

It's a way for me to keep track of my emotions, mindset / psychology surrounding any trading I do.  I try to limit options to a very small %ge of assets.  If I can limit options risk to $50 or $60 per trade, and aim to make 3:1, I will have a viable system over time.

I've been tracking L Brands as it has been decimated recently along with other bricks and mortar retailers. Most recently, same store sales disappointed a few weeks ago, and price did this:

This is a weekly linear chart going back to 2009.  I've drawn weekly support from July 2009 til current.  I note that weekly price is testing support here, and LB reports after the close today.  I bought 1 June $67.50 Call, sold 1 June $70 Call for a net debit of $.60.

Price may very well blow through trendline support to the downside on any further disappointment.  Just because I've drawn a T/L, doesn't mean it will hold.  I do note that sentiment towards retailers is in the toilet, and I wonder if a snap back on the weekly might be be in order, at least up to mid $70's before June options.expiry.  LB broke down sharply from $75 in early May, and technically, broken support often becomes resistance on any retracement (I've drawn a possible price retracement move in green above).

This was a hard trade to put on b/c I was afraid of the idea.  I started writing about the idea of the trade in my journal and came to the conclusion that I should act against my fear here and put the trade on.  It's contra to anything going in retail currently and it's difficult to go against the grain amongst the plethora of retail blow ups.

Risk = $60

Reward on a move to $75 = $2.50 - $60 = $1.90.

If I'm wrong, I will take my lumps (as always).