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Range Trading 101 – The Balancing Act (Part 2)

Posted on the 06 September 2011 by Phil's Stock World @philstockworld

Oh yes, in Part 1, we covered the run from the bottom of our range on August 19th through Friday, the 26th, the day of Bernanke’s speech.  Things were very much going according to plan and the Dow had climbed from 10,800 on the 19th back to 11,284 at Friday’s close – bullish enough that Saturday Morning I put up 9 of the 12 aggressively bullish plays (13 actually) that we would call the "September’s Dozen."  Unfortunately, they came with a caveat:  

What we’re looking for is simple, a repeat of the action we got last year coming out of the Jackson Hole conference so we’ll be making some of the same plays with a couple of new ones as well.  Keep in mind that THIS IS OUR PREMISE – we expect the S&P to go up from this line (with, perhaps, a rocky start the first week), certainly not falling below our -5% line at 1,173!  We expect the Dollar to go down from 74 and TLT to stay below $108.  If these things don’t happen – then our premise is blown and we DO NOT want to stay in these trades – as they are very aggressive.

Although the week did indeed start out VERY well, we topped out at 11,700 on Wednesday, re-tested it on Thursday and proceeded to give it all back, all the way back to 11,240 on Friday and, currently, our futures are down another 2% on Monday night.  Remember, we expected a much better reaction than we got so it will be interesting to see how we handled it during the week:  

Range Trading 101 – The Balancing Act (Part 2)

Monday Market Movement – 1,300 or Bust (again)

We have often used S&P major support lines as make or break targets.  It’s good to have lines in the sand as it helps keep your trading honest and grounded – otherwise it’s easy to get carried away and get "rally fever."  Very often in Member Alerts, you’ll see me say "If it’s a real rally then…."   Because that’s what real rallies are – not just a couple of things making levels but pretty much everything does well.  IF this had been a real rally, then the Financials wouldn’t have sucked so badly – easy to see in retrospect, isn’t it?  

I was very clear in my outlook Monday morning, saying: "I said to Members this weekend, as I laid out a new September’s Dozen list, that we still need to confirm that this 4-8% recovery zone we are in is more than just the bounce we EXPECTED to get after a 20% drop in our indexes."  FYI:  10.800 to 11,700 is 8.3%.  I did continue: "If you think of the movement as a bouncing ball (or dead cat!), then you can clearly see that NOT making it back over the middle of that W formation quickly would only serve to indicate that our pattern is still trending down with bounces that are getting weaker and – if that is all we can muster after Uncle Ben begins to warm up the FREE MONEY machine – then we are in DEEP TROUBLE!"  

  • Oil futures short at $87.50 – now $84 (up $3,500 per contract)
  • AAPL 2013 $400/450 bull call spread at $20, selling 2013 $275 puts for $20 for net $0 – now -$4.80 (down infinity)
  • XLF Sept $13 calls at .50, selling FAS Sept $14 puts at $1.05 for net .55 credit – now -$1.50 (down 190%)
  • $25KP: 5 FAZ Oct $43 puts at $2.10 – now $1.65 (down 21%)
  • VXX Sept $39/35 bear put spread at $2.10, selling $45 calls for $1.60 for net .50 – now -.60 (down 120%) 
  • BA 2x 2013 $60/70 bull call spread at $4.80, selling 2013 $57.50 puts for $7.70 for net $1.90 – now $1.40 (down 26%) 
  • SSO Sept $43/45 bull call spread at $1.10, selling $39 puts for $1 for net .10 – now -.63 (down 530%)
  • VNO Sept $90 calls for .50 – now .40 (down 20%)
  • GE at $16.04, selling 2013 $15 puts and calls for $4.95 for net $11.09/13.05 – now net $10.71 (down 3%)

Range Trading 101 – The Balancing Act (Part 2)Wow, what a crappy day!  Of course, they were aggressive, short-term picks and were up on Thursday as much as they are now down but that’s how fast the cookie crumbles when you make aggressive trades and fail to take those profits off the table.  The shorter your time-frame, the tighter your stops – there is no substitute for learning that discipline.  We don’t care that GE is down 3% or that BA is down 26% or that AAPL is down infinity because they have tons of time to recover and the short put sides are all premium anyway.  Those are not trades we would have needed to stop out. 

The VXX spread, on the other hand, was stopped out in the $25KP and the XLF, VXX, SSO and VNO trades were all UP considerably before giving up all thier gains and then some.  It’s hard enough to pick winners in a choppy market – DO NOT let them turn into losers on you!  

Testy Tuesday – Breaking Higher or Dressing Windows?  

For the morning post I had the song "Locamotive Breathstuck in my head, saying: "As I look at these rumor-driven markets and contemplate that we MUST keep going higher – or we will fall…  We are short-term overbought. Any time we have a 2.5% move in a single day with no pullback, that’s overbought but it’s the kind of overbought we expect using our 5% Rule and the real trick is "How do we handle the pullback," not "do we pull back."   

  • $25KP: 10 GLD Sept $173 puts at $2.75 – out at $3.50 (up 27%)
  • $25KP: 10 BNO Sept $75 puts at net $3.50 (roll) – now $1.80 (down 49%)
  • $25KP: 40 GLL Oct $17 calls at net $1.76 – now .55 (down 68%)
  • TLT 9/2 $107 puts at .72 – expired worthless (down 100%)
  • USO Sept $34 puts at $1.23 – still $1.23 (even)

Another crappy day.  We were scrambling to make more bullish picks in case the market got away from us and that’s the problem.  There were no bearish picks other than USO.  If I think we’re clearly going up, I have no interest in making bearish picks.  We didn’t have any on Monday, or Tuesday.  It was the right call but only until Thursday morning…

Range Trading 101 – The Balancing Act (Part 2)Wednesday Wheeee – Our W’s Are Shaping Up Nicely!  

I mentioned that morning that our VXX spread was up 1,433% (the one above that is now down 120%) and our HPQ spread was up 324% and our TNA spread was up 762% as of Tuesday’s close and, as you can see from the chart above – they went even higher from there!  That’s all well and good but IT’S NOT A PROFIT UNTIL YOU TAKE IT OFF THE TABLE!  

As you can see from our $25KP and Income Portfolio – when we’re actively tracking the trades, we don’t often sit there and let a trade go up 1,400% without taking some off the table and we damned sure take it off the table when we get a pullback.  We only have 2 Rules at PSW and Rule #1 is: ALWAYS sell into the initial excitement while Rule #2 is: When in doubt, sell half.  

That’s it, it’s very simple, when you get a big move, you take advantage of it to cash in some winners and sell some more premium.  If the big move is against you – look for something you can SELL, not buy.  We looked at the market sentiment index as I wanted to emphasize the need to take profits saying: 

I say this now because we’re back in the middle of our range and we NEED to realize that our certainty level can not be the same as it was when we were at the bottom of our range.  Calling movements at the bottom or tops of ranges is much easier than calling the middle and we need to go back to being cautious (cautiously bullish at the moment because of QE3) as we move through this critical zone.

We have been so focused on Europe and all their troubles recently that we tend to forget how dangerous Asia is looking.  Japan is hopelessly mired in debt that is over 200% of their GDP, that means if they were forced to borrow money at 5%, like the PIIGs are, 10% of their GDP would go towards debt service, which would be like the US having to cough up $1.5 TRILLION a year in interest alone!  Both China and India have inflation rates that are out of control and all over Asia, companies are being forced to give workers huge wage increases to keep up with inflation – this can cause some dangerous margin squeezes down the road.  

Unfortunately, I was also calling gold overpriced at $1,800 – silly me!  My outlook for the day was right on the money (see chart): "Fundamentally, we could go either way at this point so let’s watch those technicals and, of course – let’s be careful out there!" and, in the morning Alert to Members, I turned more bearish with another short on USO and this warning:  "Rejections should not be happening if we are going to make that next leg up as they should act as only minor resistance, not major."  Basically, in the middle of our range, we get more technical while at the top or the bottom of our ranges, we often take a fundamental stand.  In fact, at 10:28, Chuckerd asked: "How can I BTFD when there is no F’ing D?!?" to which I responded at 11:01:  

No dip/Chuck – That’s what my morning lecture was about.  You have to make a stand at the bottom of the range.  Just a couple of small, aggressive plays like the TNAs get you off to a nice start and then you can layer in as we make progress.  Don’t try to "make up for it" here as now we are in a much more dangerous spot.  It will become less so if we consolidate around the Must Holds and then move higher but, right now – after a 10% move up – it’s a very iffy place to go long. 

  • $25KP: 20 USO Sept $34 puts at .75 avg – now $1.20 (up 60%)
  • IMAX 2013 $10/20 bull call spread at $5.20, selling $15 puts for $3.20 for net $2 – now net $1.85 (down 8%)
  • IMAX Oct $21 calls (half sale pair) sold  at .70 – now .45 (up 35%)
  • $25KP: 10 DIA Sept $115 puts at $2.22 – now $3.90 (up 75%)
  • $25KP: 5 FAZ Oct $43 puts sold for $2.50 – (up 19%)
  • $25KP: 10 DIA Sept $114 puts sold for $2.20 – now $3.45 (down 56%)
  • BRCM Oct $30/32 bull call spread at $1.60, selling $30 puts for .64 for net .98 – now net .67 (up 4%)

Notice how quickly we flipped bearish?  Although we were in the middle of the move up we HOPED (not a strategy!) for, we shifted gears – just in case.  At 11:27 I said to Members: "Dollar holding 74 – not good. Also, we are not holding yesterday’s highs – just the RUT so far but the Dow is right on the line and let’s call 11,600 a bad fail."  Again, it all goes back to taking those non-greedy exits and, of course, adding short positions to balance a portfolio as it gets too long.  




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