08/10 Daily Summary

It was nice not giving back all the weekend profits for a change! I appreciated that we didn't move too much one direction or another and my two remaining positions are still standing.

Me and my partner (aka Wife) have pretty much decided to focus on the strategy that worked best for us thus far: the Iron Butterfly. I will be trading this strategy only for the next few months in an effort to improve my management and learning from it. I also am going to trade a smaller IBM calendar, as the calendar is another trading strategy I didn't get hit too badly in the past. So, for SEP my plan is to trade 2 iron Butterflies (DIA and MNX) and 1 IBM Calendar.

Speaking of Iron Butterflies, I started backtesting the MNX Iron Butterfly a while back, and now have to do the same for the DIA Iron Butterfly. I find that by backtesting I can short-circuit some of the learning feedback. It takes one full month for a trade to evolve, and we can review an entire month in one or two hours of backtesting.

Position's Details:
08/10 IBM Calendar
08/10 MNX Iron Butterfly

MNX Iron Butterfly Backtesting:
FEB09: 07/21 MNX Iron Butterfly Backtesting
MAR09: 07/20 MNX Iron Butterfly Backtesting
APR09: 07/17 MNX Iron Butterfly Backtesting
MAY and JUN09: 07/15 Backtest Challenge
JUL09: 07/16 MNX Iron Butterfly Backtesting

08/10 IBM Calendar

The position is pumping profits, I like it!



Position's History:
08/07 IBM Calendar
08/06 IBM Calendar
08/05 IBM Calendar
08/04 IBM Calendar
08/03 IBM Calendar
07/31 IBM Calendar
07/30 IBM Calendar
07/29 IBM Calendar
07/28 IBM Calendar
07/27 IBM Calendar *New*

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08/10 MNX Iron Butterfly

The position made a nice recovery over the weekend, we're basically at the B/E level, I've added the next adjustment points in the chart and am looking for a recovery if we stay put or go down a bit more Tomorrow.



Position's History
08/07 MNX Iron Butterfly
08/06 MNX Iron Butterfly
08/05 MNX Iron Butterfly
08/04 MNX Iron Butterfly
08/03 MNX Iron Butterfly
07/31 MNX Iron Butterfly
07/30 MNX Iron Butterfly
07/29 MNX Iron Butterfly
07/28 MNX Iron Butterfly
07/27 MNX Iron Butterfly
07/23 MNX Iron Butterfly
07/22 MNX Iron Butterfly
7/21 MNX Iron Butterfly
07/20 MNX Iron Butterfly
07/17 MNX Iron Butterfly
07/16 MNX Iron Butterfly *New*

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Trade Monitor day-by-day

The spreadsheet you see for every trade I take is nothing fancy, I simply create a volatility cone when I start the trade, and on a daily basis I copy and paste key values I want to track on a daily basis for my trades.

For example, let's say I'm starting another MNX Iron Butterfly. As soon as I enter the trade in my tracking spreadsheet, I calculate and plot a volatility cone, then I start to track the closing value for MNX (close line in the cone), as well as the P&L for the trade, the change in volatility, and how many standard deviations we moved every day.

This information is then copied and pasted on a daily basis into a series of columns I keep for every trade. Once you have the trade's history, it becomes an easy process to plot those values in a chart. Those values is what you see in my trade log.

I hope this helps.
Gustavo

Understanding the Volatility Cone

One of the tools I learned to appreciate and use while studying Dan Sheridan's course is the volatility cone. A few traders use this tool, and I think that Dan Harvey was the first mentor to talk about it in one of his sessions. I got hooked.

Let me put it in simple terms: The volatility cone displays what you are "accepting" as the reality when you sell options. It simply means that, given the current volatility levels, the underlying will be in a certain range for a certain number of days.

The cone is nothing more than plotting those price levels day-by-day for the duration of the trade. The way I use the cone is to understand where the underlying is in relationship to where it was (and where market makers were expecting it to be in the future) when I first started the trade. If we start moving beyond the 1 or 1.5 st. deviation curve, it is going outside of the parameters I assumed to be "true" when I sold those contracts, and therefore, my initial assumption is no longer valid and likely to be challenged.

Let's say you sell an Iron Condor, using the original cone as your determination, you sold the CALLs and PUTs from within 1 st. deviation till expiration. If after you sell those contracts, the underlying starts to move beyond the cone, there is a greater chance that it can move beyond your short strikes by expiration. Therefore, your condor will be in a tough spot and likely to be losing money or needing some sort of adjusting.

How to calculate: I start by gathering the "implied volatility" number from TOS for the stock/etf/index the day I enter the trade, then I calculate 1 or 1.5 standar deviation for 1 day, 2 days, 3 days, 4 days, etc.. Once you have this calculated you can then plot those values in a chart and they should look like the cones you see in the blog.

Hope this helps.

Gustavo

I Can See Clearly Now

A fellow trader and reader of this blog e-mailed me a question late last week and he got me thinking. In a nutshell, the trader was wondering "what am I doing wrong?", needless to say, this month got me wondering the exact same thing, as two of my positions failed.

So, I decided to put everything in perspective, do some search to try and figure out what is going on? Why are these non-directional trades taking such beating? Is the market not appropriate for certain strategies? If yes, why?

I have a spreadsheet I created late 2007 when I started trading iron condors. I called it the "deviation study". This study is simple and it helps me to answer the following question: for the past 10 years, how many times did RUT stay within a certain range for X trading sessions?

The results are displayed in a scatter chart, with the red lines indicating the 2 standard deviation range for the data and the blue lines indicating my proposed position.

See the picture bellow:

(A) Enter the Index and the number of trading sessions for the study
(B) Enter the current price and where the upper and lower strikes are
(C) Each yellow dot on the chart is a how much RUT moved (in percentage) for the number of days during the time period.

OK, now let's look at this study and put things in perspective: Prior to 2008, there were two cycles where you can clearly see the outliers going beyond the 10% range. These were times of high "uncertainty" and therefore higher volatility and stronger price swings.

Notice how things settled down, and the market was quite nice from 2005 till 2007. A perfect environment for trading non-directional strategies.

Now, compare the picture above with the most current picture, which includes 2008 and 2009. Notice how the outliers are much further away than during the previous cycles of "uncertainty".

As Jimmy Cliff's sound would say: "I can see clearly now the rain is gone... I can see all obstacles in my way"..

We are indeed trading in an environment of much higher uncertainty and stronger price swings. This is making it much more difficult for certain non-directional trading strategies.

What should we do as non-directional traders? Give up? Absolutelly NOT! The storm is what makes the sailor! Once we figure out how to navigate such amazing environment, we can set ourselves up to trade during any time period, and specially when things settle down as they did back in 2005.

I hope this helps. If anything, it is helping me to stay in the game and write off my current losses to sailing the storm. The boat may get damaged, but as long as I manage to trade smaller, I know I can survive this period and come out in a great position in the other end.

Cheers!
Gustavo

08/07 Daily Summary

Not much to say, the markets rallied after better than expected unemployment numbers. I'm still on a couple of the AUG trades and not so sure how I'll approach the delta-neutral strategies from now on. I'm considering reducing the type of strategies I use and focusing on only a few strategies from now untill the end of the year.


MNX Iron Butterfly continued to improve Today, so did the IBM Calendar, I'm getting more optmistic about the future on these two positions. Let's see what is in store for us next week.


Position's details:
08/07 IBM Calendar
08/07 MNX Iron Butterfly

Cheers!
Enjoy!