As a trader , one of the most important things I try to do is to consciously cultivate my instincts by talking with other traders and investors as often as possible . It still amazes me how big the differences of opinion that exists about what people believe will unfold as we are in the new millennium. Many highly respected names are literally predicting an economic earthquake that a 10 on the Richter scale will measure , while others have looked at the exact same research claim that will be very mild. Effects As a trader I have to evaluate the data and develop a strategy that I feel not only gives me an edge , but provides a great deal of error while still being low risk !
In his book , "Business Without Economists " author William J. Hudson explains a theory worthy of any consideration traders . ( Especially now with Y2K just around the corner ) He explains :
1 ) The demand for answers will always be greater than the supply .
2 ) Therefore, the price will be high for answers .
3 ) therefore a very wide range of answers will emerge .
4 ) Therefore most answers are false , especially when tested against reality .
I have this statement on my computer as a reminder to myself that markets are very humble mechanisms . The main question we must constantly ask ourselves regarding all trading strategy that we enter as traders : " What if I'm right And what if I miss ? ?
As I assess the economic landscape and scan the marketplace for trading options , there is a fact that I should pay attention to : The name of the game is Managing RISK !
With this in mind , let's evaluate some of the important facts :
Many of the Commodity Markets bounced strongly from their twenty to thirty year lows .
When I cross reference this fact with the reality that inflation is back in the economy , it creates some very interesting commercial opportunities for the savvy trader OPTION . The key to a trading strategy in my opinion is that it is a low risk , because there are so many possible outcomes that may occur.
The purpose of this strategy is the need to eliminate the timing of minimizing the development of a method of my risk of loss. Before I provide you with the mechanics of these tactics leave me a weird possibility so we can get clearly illustrate a definition of traders RISK . Let's say you are convinced that on March 1, 2005 , you think that gold is trading at $ 3,000 dollars to be . Ounce ( I said weird ! ) Based on this scenario , even if you wholeheartedly agree , how could you trade this point and still takes very little risk ? Most people think that RISK is defined as being right or wrong on the outcome of a trade. , Is , however, a risk-sensitive trader only concerned with their exposure to chance of LOSS .
If you thought that gold would be traded $ 3,000 per ounce would enter the market and
very cheap to buy a pair of call options that would give you the right to buy at $ 500 per ounce gold. In this case , the most you could lose is the money you the options to buy and you but the obligation to buy at $ 500 between now and March gold would not have . Entitled However , only limited risk because you 're still a great deal of exposure LOSS . The reason for this is that if GOLD does not get to $ 500 you would lose all the money to buying options.
The way a professional would trade this scenario is that he would finance from OPTION SELL trade. When you SELL an option you are essentially creating an obligation that you are forced to stick to contract . For example, if you sell a $ 500 December Gold Call and receives money you have in fact agreed to deliver to the buyer's option at a price of $ 500 between now and December 2004 gold.
As a seller of this option , the most you can make is the premium you collected and you RISK upside is theoretically unlimited . If Gold is trading at $ 800 per ounce in December 2004 and you will have this option you are required to offset the supply of gold to the Option buyer at the originally agreed price of $ 500 per ounce . If this happens you would have in effect a loss of $ 300 per ounce on each contract you sold . Not very attractive , especially since each Gold contract is 100 grams in size . The loss is $ 30,000 per contract . That's a lot of risk !
The way to minimize risks is to SPREAD against other OPPOSITE options positions .
In the above example , let's say that a trader bought March 1 $ 500 Gold call option for a premium payment of $ 6.00 per ounce ( $ 600 ) . Each Gold contract is 100 grams so this trader would have to pay $ 600 per option . The RISK here is very clearly defined as $ 600 . However, if these same dealer now SOLD ( 1 ) GOLD December $ 500 Gold Call Option ( PLEASE NOTE THAT THE December OPTION is applied before the March Option ) and collected a premium payment of $ 300 , they have in fact reduced their initial risk for difference between the $ 600 they paid and the $ 300 he collected , or $ 300 .
Let me outline what this trader did. They have committed themselves to a price of $ 500 per ounce between now and December and the supply of 100 ounces of gold they have the right but not the obligation to hold 100 ounces of gold at $ 500 an ounce between now and March simultaneously. They have a bullish CALENDAR position by selling a call option on a nearby month and using the money they collected in the sale of the ability to finance their purchases of the Call Option in the month deferral option.
What this strategy is actually saying is that the traders believe that gold will make his move after December but before March. Although it does not seem very exciting now , this anticipated disruption occur in that time frame a trader who is positioned in this style would sit in the driver's seat . In essence, they would look at a maximum exposure of $ 300 with the possibility of unlimited upside potential . (Yes , I realize that with gold at $ 430 right now that possibility seems extremely small. ) It is this kind of trading tactic that makes much sense in markets that trade at a historical low .
The key to successful trading is to minimize if you want to get more information. Your Risk The closer you get to expiration the more information you have about the feasibility of this tactic . Most importantly, you played the game without exposing yourself to a lot of DOWN SIDE . That my friends is the path to long-term success in any highly leveraged transaction. As William J. Hudson mentioned ,
"Most answers will be false, especially when tested against reality ! " Worth thinking about .
Still another way to swing for the fences , without taking a large portion of the risks.
STUDY AWAY and let's be careful out there!
Dowjonesfully -
- Harald Anderson
THE RISK OF TRADE IS IMPORTANT , SO ONLY " RISK " funds should be used . The valuation of such may fluctuate , and as a result , customers can lose their initial investment . Under no circumstances should the content of this website be construed as an express or implied promise , guarantee or implication by someone you will benefit.
Harald Anderson is the founder and Chief Analyst of eOptionsTrader.com a leading online resource of Options Trading Information. He writes regularly for financial publications on Risk Management and Trading Strategies . His goal in life is to become the kind of person that his dog already thinks he has become .
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