A crucial question…
Once I have selected which options to trade, then how do I know the right strategy to use? Should I buy long Calls on a stock moving up? Or should I sell Puts? When should I put on an Iron Condor? The answer is….it depends on the market. So you should know what goes with what.
First, you should know the available strategies. Buy and acquaint yourself with The Bible of Options Strategies which explains the most popular strategies:
- Long Put
- Long Call
- Covered Call
- Covered Put
- Straddle
- Strangle
- Credit Spread
- Bull Put Spread
- Bull Call Spreads
- Bear Put Spreads
- Bear Call Spreads
- Iron Condor
- Butterfly
- Broken Wing Butterfly
- Calendar Spreads
Next choice your trades using these five rules . . . .
1. Know and go with general market conditions. Don’t trade against the overall trend. If market is going up and up, then don’t sell Calls. Instead sell Puts by using Bull Put Spreads.
2. Follow the charts and let patterns guide you. Charts provide an enormous amount of information, enough to take options trading out of the “speculative” class and into the “high probability” class. If a stock is trading in a range (per the chart), then use a bullish strategy when it bounces off support, and then a bearish strategy when it bumps into and comes off resistance.
3. Let the VIX guide your entry and exit points. The CBOE issues a methodology that uses near-term put and call options to measure implied volatility for the S&P 500. When there is confidence in the market’s direction, or when stocks are going up, the VIX goes down. When there is greater uncertainty, or when stocks are generally going down, the VIX goes up. However, when stocks are going down dramatically, even with great certainty, as in the Big Drops of 2008 and 2009, the VIX also goes up dramatically. So it is really a fear or sentiment index. Sellers of options make money off other people’s fears.
4. Only close your your trades when they are profitable. If sell whenever your trade is losing money, then you will quickly deplete your account. If your strategy is correct, then there is 80% chance you will make money. So trust your skills and choices!
Three Rules of Thumb
1) When the VIX is dropping, stocks are going up, market is bullish. Reverse is also true. When VIX is going up, stocks are dropping.
2) Periods of consolidation within a bull market usually see a quick spike in the VIX in the 15-20 range. 20-25 is a correction, 25-35 is a recession, 35+ is major recession and raging bear market (or at least fear of one!). Do not panic! Instead, pick the right strategy for the appropriate VIX range.
3) After the market goes through a period of consolidation (VIX above 15 or even 20), it usually heads back up again], and the VIX heads south. At that point, selling Puts is highly profitable. You can often get 50% more credit than when the VIX is lower. When the VIX is higher, you can also advantage of higher volatility and sell further away from the action.
5. Collect money whenever possible. Look at the Theta column on your portfolio. It tells you how much money per day you are collecting by doing nothing, just letting the value of the options wind down. If you to want to make $100 per day profit, then Theta should be $100 or greater.
I like to sell and collect around 20-30% on my credit spreads. Buying back or giving back premium is my last resort.
TIGER Says: “Collecting cash is the best way to avoid losing money!”
Questions or comments? Contact me at GStrading@me.com
Tiger Trading 