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written by reader Options, understandings and tactics

By megfk, April 25, 2014

Alan – We open here a forum for discussing options. It might be helpful to open the discussion with a copy of the paragraphs that I wrote 4/24 about options. I don’t know how to cut-and-paste that material.

Before I opened this discussion forum, I noticed a question about choosing a stock that might perform well as an option. I’ve already briefly addressed the subject…and would appreciate knowing about the thinking of others.

I have years of experience, but could not pass myself off as an ”expert.” I prefer that this discussion forum be a gathering of investors with an interest in options…with all of those with greater experience contributing things that they have learned. Our goal is to benefit one another.

This is a discussion topic or guest posting submitted by a Stock Gumshoe reader. The content has not been edited or reviewed by Stock Gumshoe, and any opinions expressed are those of the author alone.

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lskulow
lskulow
May 6, 2014 7:41 am

Our portfolio is looking pretty good!

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Alan Harris
Guest
Alan Harris
May 6, 2014 12:44 pm

If anyone fancies a FREE video lesson from the worlds greatest option trader (well they would say that, wouldnt they) http://www.tradewins.com/Promo%20Emails/WIN_AFF/Chris_Verhaegh_lp/index.html?AFID=304962&click_id=05_34470082_362685d7-dc79-45e0-8e94-cf7bf39640dc/

I didnt have time coz Im leveraging a faucet out today.

arch1
May 7, 2014 3:25 am
Reply to  Alan Harris

Alan ; this sounds like the Sam Giancono investment vehicle developed by the Chicago Brotherhood & used in Las Vegas. Characterized by slogan ” I’ll make you a deal you can’t refuse”. Hope you like horseheads.

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frank_m
frank_m
May 6, 2014 10:51 pm

Wow, lots going on here! I don’t think anyone would consider me an option expert, but I have learned some expensive lessons over the years. One of the worst things that could have happened for me with options was the day msft made their bid to buy yahoo. I bought 20 way out of the money yahoo calls, $100 worth. Went to a staff meeting and came back $8000 richer. I thought this was a really easy way to make money. Didn’t take long to lose it on way out of the money options. I now use covered calls to raise some cash, use options/spreads when there is a clear catalyst coming (earnings, FDA rulings, etc), and to hedge. Most of my portfolio is research, buy, hold, DRIP. I get my adrenaline rush taken care of by doing a little trading in options. Be careful out there. Frank

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clomu
clomu
May 7, 2014 4:33 pm

Frank, did anyone ever answer your question about shorting a stock?
In order to do a short sell, it’s really easy. I use Scottrade. Pick your stock. Instead of choosing buy, choose short sell. Everything else is exactly the same – choose the number of shares, choose market order, limit order or whatever. Wait a few hours for your company to go out of business. Then choose ‘buy to cover’. Then take out your millions of dollars. The $7 fee is the same whether you do a regular (long) transaction or a short transaction. So instead of buy-sell, the analogous pairing for short selling is ‘short sell’-‘buy to cover’. The way I see it, choose short sell, turn your computer screen upside-down, and nothing will be any different. Oh, and if you have Scottrade, you can’t short stocks under $5. That’s probably because most of these companies fail, and you would be making way too much money.

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arch1
May 7, 2014 6:28 pm
Reply to  clomu

Clomu; What I actually asked is how do you short a stock that is not optionable? That includes the majority of penny stocks,,,those priced under $5.00,,, But also some that are higher priced because of volume of trading too low. I know of no way to do that for the avg.
trader.
fa

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Travis Johnson, Stock Gumshoe
May 7, 2014 5:28 pm

I can’t speak for clomu and every broker will treat short selling a bit differently, but here are my thoughts:

You do not necessarily have to pay anything to short a stock, other than the commission, but you do sometimes have to pay to borrow — effectively, you’re paying rent on the stock that you’ve borrowed, and the rate will depend in part on the demand for shares to short.

Heavily shorted stocks can sometimes cost you 50% or more a year as a borrow fee, though that’s rare and is more of an issue for large investors who are trying to build institutional positions than it usually is for individuals trying to sell short a small position in a not-heavily-shorted stock (often if a stock is already heavily shorted, retail brokers will just tell you there aren’t any shares to short — or in their terms, they can’t “get a borrow”, so you might not be offered the high-cost-to-borrow shares, particularly if you’re just shorting small lots through their online system). Short sellers are also responsible for making the shareholder whole on any cash payments from the company — so if there’s a dividend, you will have to pay it.

And yes, when the stock price goes up, you start to accumulate paper losses against the cash you gained by selling the borrowed shares at a lower price. In theory, short selling presents you with the possibility for infinite losses, since a stock could go up forever (it can only go down to zero), but in practice your broker would eventually force you to cover the short and take collateral from your account to cover it if the losses rise on a short position. Shorting is mechanically not difficult, but it’s really hard to make a living at it — I would urge folks to think about shorting as a strategic way to hedge a portfolio rather than as a way to bet big on specific companies going down, and to keep short positions pretty small because they can really, really bite you. So for example, if you own a 5% position in facebook then you might sell short a 1 or 2% position in a similar stock that you think is much worse (twitter?) to protect yourself from all social media or momentum stocks getting clobbered; or if you own a lot of biotech stocks you could short a terrible biotech to help protect you from the possibility of all biotech stocks going down en masse, with the assumption that in bad times the stinkiest stocks fall the hardest, etc.

I have dabbled in shorting, but have no confidence in my ability in that area and probably just don’t have the stomach for it, so I may go back to it again someday but I’m not short anything now or long puts on anything at the moment.

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Alan Harris
Guest
Alan Harris
May 7, 2014 5:46 pm

Buying long is a fairly simple game. Selling short is a dangerous game. As Travis says, your potential losses are unlimited. Options are a different game….. you’re buying the option/choice to buy at some future date at some pre-agreed price….but NOT the obligation. Niave people often confuse the two. Its important you understand the difference in the terminology. Investopedia explains at length, in v simple language. I suggest you invest in a free click there before you invest a potentially unlimited amount of $ elsewhere.

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Alan Harris
Guest
Alan Harris
May 8, 2014 4:51 am

My picks always make money…..until I give them the kiss of death by actually buying them.
But I think this one will continue to fall to 15. Just about to death cross 50/200 MA

Alan Harris
Guest
Alan Harris
May 8, 2014 6:14 am

Death cross (as I understand it) means a point in time when a lower MA line (say 50) moves down to cross a longer MA line (say 200). It is believed to signify a SP nasty drop off the cliff is coming. A golden cross is the reverse and signals a rise in SP. Not sure if you guys know, but on request, I started a new classroom thread for technical analysis……perhaps some of you brianiacs could comment there http://www.stockgumshoe.com/2014/05/microblog-technical-analysis-classroom/
I shouldnt take 15 too seriously….just my gut feeling…..no crystal ball here.

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clomu
clomu
May 8, 2014 12:12 am

Here’s another way of looking at short-selling: If you are a random biotech company, what is the probability that you create a meaningful product, a drug that works, a drug that solves some health problem that no one has been able to solve yet? To me, the odds are pretty clearly against you. It’s hard to create, easy to fail, especially when it has to do with helping the human body. If I had the money, I would short every single biotech stock, weighting each company equally. I’d likely lose big on many like GILD, but for every 1 that succeeds, 10 or more fail. Is this faulty logic?

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arch1
May 9, 2014 9:01 am
Reply to  clomu

clomu; I think you are right on target…The problem is that most start-ups are not option-able for precisely the reasons you state.. I know of no other way for the avg. investor to short other than selling what you own. Big players can “borrow” stock to short tho at often great risk & considerable cost. fa

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donbarrett
Irregular
donbarrett
May 8, 2014 7:48 am

Hey Margaret,

What a fantastic thread this has turned out to be, thanks to you!!!

Let’s try an experiment as I want to test my thinking about delta once and for all. I am also buying September put options on P but I am buying the $29 strike price as they have a delta of .70 and the $23 ones have a delta of .46. However, mine cost $8.05 as opposed to the $23 ones which cost $3.20 I think you said?
Anyway, hoping we can track both; I want to see if my extra expense is going to waste.

Again, thanks for making this a truly awesome thread.

Don

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donbarrett
Irregular
donbarrett
May 8, 2014 9:36 am

Thanks Margaret. Well, at least in theory, the $29 puts should go up in value in a greater proportion than the $23 puts since the delta is greater, for the $29 ones. I never really tested it like this so this should be fun.
It gets funky because depending on the speed and amount the underlying rises, the delta also changes so this can impact things as well. The delta’s rate of change is the gamma, and it can get pretty complex tracking it all.

Don

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Alan Harris
Guest
Alan Harris
May 8, 2014 11:46 am

Good decision, both of you!

bwd1up
bwd1up
May 8, 2014 8:59 am

Wow, great thread!!

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Don Barrett
Irregular
Don Barrett
May 9, 2014 3:43 pm

Sorry it has taken me so long to respond; things are crazy at work.
In your message, you say,
“Don – Higher Delta = stock price goes up or down more? How is delta different from beta?”

Actually, delta is the speed at which the call or put goes up or down, not the stock. So, if delta is .50 and the stock goes up one dollar, the call goes up fifty cents. If the delta is .90, and the stock goes up one dollar, the call goes up ninety cents. That’s why I generally like calls with higher delta; the lower the delta, the less you make as the underlying moves in your favor. HTH.

Don

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jer_vic
jer_vic
May 8, 2014 2:43 pm

I bought some new options today.
ACRX (Acelrx Pharma)

5 calls @ 0.50 with a strike price of $10. Expires May 17.

My theory is that the stock took a dive today (and these options in particular along with it) and I believe it will recover past $10.50 in the next 10 days. Stock has bounced around today between $10.51 to $9.80

Let’s see how that plays out….

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jer_vic
jer_vic
May 8, 2014 2:55 pm
Reply to  jer_vic

Well, not good so far. They immediately dropped to $0.40. But now back up to $0.41! So I’m confident it’s poised to shoot way up there…. 🙂

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arch1
May 8, 2014 3:59 pm

I closed out CVX yesterday at $3.00 as it looked to me that was a top. Made $22.00 before fees of $ 20.00 for a gain of $2.00. Still a gain is better than a loss. What I expected did not happen ,,,, so I guess the main lesson is that options may give you more flexibility in a changing mkt. than the stocks with less at risk. fa

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arch1
May 9, 2014 12:18 am

Margaret; Excellent expose’.. I might add, options only do what the underlying does except with leverage which must be managed with flexibility and attention. fa

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arch1
May 9, 2014 1:47 am

Margaret; Well said ,though original purpose was forward contracting to lock in a future price,,,,,a form of insurance. Someone always sees other money making possibilities in the market. fa

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Alan Harris
Guest
Alan Harris
May 9, 2014 5:06 am

Im saying what the majority here surely must be thinking: Margaret: That was a fabulous post. Blinking well done!!….its great to have it all here in one succinct summary.

tyler123dogfiddle
Member
tyler123dogfiddle
May 9, 2014 6:09 am
Reply to  Alan Harris

I agree wholeheartedly, I am a complete beginner and really appreciate the time and expertise which Margaret , Frank and others are so willing to contribute. At the moment I’m stumbling around trying to get a grip on options, stock patterns and so on and a thread like this is just what I need to keep me going, so thanks very much!

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jer_vic
jer_vic
May 9, 2014 12:46 pm

Hi Margaret. Thanks for the detailed analysis. As you probably surmised, my decision to buy the ACRX options was nothing more than a WAG – so, a pure bet that it will rise again (at least past $10.50) on or before next Friday. I have very little skin in this particular game (~$250) so I’m going to ignore your (very good advice) about selling, in this instance, and see how things play out, at least into the beginning of next week.

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newbie
Member
May 9, 2014 9:49 am

Margaret, could you or others explain the DRTX May 12.50 call noted above. You bought at 2.08 on what date? I’m looking at the chains right now and I see last price of 1.70 …b/a 1.60/2.00 with op. interest at 483 contracts.
What am I missing? Realizing I’m running out of time, I’ m trying to determine if there’s still a play to be made. Also looking at June.
Thanks, JB

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jer_vic
jer_vic
May 9, 2014 12:41 pm
Reply to  newbie

JB: I think Margaret means June, not May. I believe she is basing that listing in our fantasy portfolio on my actual transaction – see my reply to Margaret in post #53.

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newbie
Member
May 9, 2014 12:51 pm
Reply to  jer_vic

Thanks for the reply j_v. You are the one I’m looking for here. If you were thinking about a play on DRTX today, do you see anything appealing? The volume of option trades are low for this stock, but that’s to be expected because it’s not widely traded? Thanks. JB

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newbie
Member
May 9, 2014 12:53 pm
Reply to  newbie

PS. Those trades are doing well for you I see.

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jer_vic
jer_vic
May 9, 2014 1:15 pm
Reply to  newbie

First off, asking me for options advice is akin to asking sheep for Spanish lessons. 🙂 The DRTX play is working out well, so far, but note my 2nd one on ACRX is not doing so well at the moment.
My reasoning for the DRTX trade was that at a strike price of of $12.50, for options expiring June 21 worth ~$2.10, then if the stock went over $14.60 before the expiry, I could make money. Since there was a PDUFA date in the middle of that (May 26), I thought it was reasonable that the stock would go to, or past, my target price of $14.60 before my options expired.
So, now those same options are ~$3.10, which, to my logic means the target price if you bought them now would be $15.60. But, the June 21 calls for $10 strike price are $4.70 right now, which gives a target price of $14.70. That sounds better to me. But there is the question of volume and open interest. The $12.50 strike price has an open interest of 208, while the $10 strike price has an open interest of 17. I don’t know enough about options to know how to value the open interest information. Maybe someone else with more knowledge can speak up? To me, the June $10 strike price options seem a better deal.
There’s also the May options – they are much cheaper, and have more open interest, but they all expire before the PDUFA date. However, I believe the PDUFA date can be read as an “outer limit”, not a milestone – ie. the announcement will take place on or before, not on – does anyone know for sure?
So, maybe the May 17 $12.50 or $15.00 options are interesting? Will we see building interest (and thus increasing share price) leading up to next Friday in anticipation of the PDUFA announcement? That is the gamble, I guess…..
(as I was typing this, the $12.50 options went from $3.10 to $3.40).

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jer_vic
jer_vic
May 9, 2014 1:29 pm

How do you feel about calls for May 17 with a strike price of $10? They’re trading at about $1.85 right now. Too risky, since the expiry is before the PDUFA?

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