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Have you ever been in a position where you bought puts on a stock thinking it was heading lower, just to watch it trade sideways?

And then you are stuck watching your premium evaporate?

Well, if you haven’t, you will at some point in your trading career. 

It’s a common trait of options pricing where implied volatility kicks up the premium during a selloff.

Then once it trades sideways, this premium is “sucked out” of the options price as quick as it went in.

And if you were buying into this price action, chances are you are stuck holding the bag on a losing options trade.

But it doesn’t have to be this way!

You see, by trading a credit spread, instead of buying options, you can be the one selling those options to a trader looking to take a bet on the stock falling further.

If you get your timing right, you can be looking at 50% or more returns in just a snap of your finger.

Now, let’s take a deeper dive at how I use credit strategies and how they have changed my trading forever.  

 

Credit Spreads

 

The market has moved a fair amount higher since it’s big drop due to the virus.  

In the past week or so, we saw a slight pullback which might have established a new support for the market.

But we are not sure what the future brings, but premiums are elevated due to people speculating on the direction the markets are going to take during the election period combined with corporate earnings that are starting to heat up.

So with that in mind, a credit spread  could prove to be a useful trading strategy to take advantage of both the sideways markets plus the elevated volatility.

There are two main types of credit spreads I like to trade:

  • Credit Put Spread
  • Credit Call Spread

 

Credit Put Spread

 

The credit put spread, or sometimes called, “bull put spread” can be an effective way to profit when an option trader expects the stock to stay at or above a certain area.  

Many times, this area is potential support in the form of a pivot level or maybe a moving average that is approaching from below.

Let’s take a look at how this trading strategy can be implemented.

 

Creating A Credit Put Spread

 

A credit put spread is created by selling a put option and buying a lower strike put with the same expiration.  

Maximum profits is the credit received (the credit collected – the debit paid) and it would be earned if the options expire worthless.  This would occur at or above the short strike at expiration.

Let’s take a look at an example of this.

 

          Source : Thinkorswim

 

As you can see, the credit put spread is going to allow you to generate income if a stock was to trade at, above, or even slightly lower than its current trading price.

And it’s this built in wiggle room that makes credit spreads so important to my trading.

Now let’s take a look at a credit call spread.

 

Credit Call Spread

 

The credit call spread, or sometimes called, “bear put spread” can be an effective way to profit when an option trader expects the stock to stay at or below a certain area.  

Many times, this area is potential resistance in the form of a pivot level or maybe a moving average that is approaching from above .

Let’s take a look at how this trading strategy can be implemented.

Creating A Credit Put Spread

 

A credit call spread is created by selling a call option and buying a higher strike call with the same expiration.  

Maximum profits is the credit received (the credit collected – the debit paid) and it would be earned if the options expire worthless.  This would occur at or below the short strike at expiration.

Let’s take a look at an example of this.

 

          Source: Thinkorswim

 

As you can see, the credit call spread is going to allow you to generate income if a stock was to trade at, lower, or even slightly higher than its current trading price.

And it’s this built in wiggle room that makes the credit call spreads so important to my trading.

 

Wrapping Up

 

When trading a stock and I want to take a short position, trading a bear call spread is a must if you anticipate lower prices in the future.

And when trading a stock that I feel comfortable owning, either a credit put spread or even a short put is a great way to go long a stock if you anticipate higher prices in the future.

But it is the built in security that I know I won’t be risking unlimited losses if a stock was to trade to an unknown price is a huge benefit of this strategy.

Unlike a credit put spread where you are safer selling a put since the downside is limited to both zero, or ownership of a stock, a short call has unlimited losses on both the options and the short stock position.  

And when you trade credit spreads –  profits are something that can be achieved like a casino collecting its revenue from traders betting on games.

Ready to learn more about how I trade credit spreads for monthly income? 

Sign up to Options Profit Planner here

 

 

Author: Dave Lukas

The stock market isn’t an easy place to make money.

Sometimes it can feel like you’re in the middle of an African safari, where the hunter can become the hunted— in the blink of an eye.

And if you’re not watching your back, you’ll have your profits snatched from your hands before you know what happened.

Because many traders are just bait for the HFTs and Market Makers waiting to take their money!

And the only way to combat this is my changing the way you execute your trades

Now let’s talk about the different types of orders you can use and how they will turn around your trading in the blink of an eye.

 

Trade Execution and Order Types

 

Many new traders struggle to understand why they might be losing money when they bought a stock and it went higher.

Unfortunately, not having a solid understanding of market execution principles can lead to confusion and a loss of money.

 

The trade idea

Take an example trade where a stock XYZ is trading at $100 and a trader wants to go long, with a target of $110

 

The trade execution – entry

In order for the trader to get this trade, they might send a market order to buy the stock.  The execution broker filled the trader at $107, the offer at the time of the trade.

 

The trade execution – exit

Noticing that the stock ran to $110, or the target price, the trader executed another market order to exit this trade.  The execution broker filled the trader at $107, the bid at the time of the trade.

 

The outcome

The trader lost money!  They bought the stock at $107 just to sell it at $105, even though on the chart it went from $100 to $110!

Has this ever happened to you?  I am sure it has if you trade market orders frequently!  

Let’s take a look at the post trade review to break down how this could have been avoided.

Post trade review

Now let’s take a look at what happened.

Sometimes executing with a market order could  work, but in many cases, it does not.  In this example, the trader ended up buying the stock for $107, which was the offer price at that time!  

Then as the stock increased in price from $100, to $110 as the trader expected, they are going to sell out of the position for a 10% profit per share on this trade.  

Once the market order is submitted, the execution broker fills the trader at $105, which was the bid at the time of the trade.

Now, you might be furious that you just lost $2/share instead of making the 10% profit you wanted to land.

And this happens because of market orders.  

You see, a market order just tells the broker you want to buy this stock no matter what the price is!  

[ Pro tip:  Never reference the last price, but only look at the bid or ask prices to know where a market order will fill you at. ]

And if you want a stock that badly, a market order will do the trick! But since you bought a stock trading with a last price of $100, with an offer of $107, the market order filled you at $107.

Next, when you went to take profits with the stock trading with a last price of $110, the bid was $105.  This means your market order will fill you as fast as possible, and fill the price at $105 instead of $110.  

You see, you are having your profits stolen from you just by using a market order!

These are the types of orders HFT’s love to search for and the algos will hunt down your orders and make sure to take as much money as they possibly can from you.

The solution?  

Only use limit orders to trade instead of market orders!

Let’s take a look at what the bid-ask spread is how it can hurt you.

 

Options Bid-Ask Spreads Can Hurt You

 

I always wondered why there has to be a spread between what you can buy an option for and what you can sell it for.  

But the simple answer is that trading is a business and someone needs to make money.  

Typically, the people who are selling options are the ‘casinos’ of the stock market.  These guys are the market makers and the HFT firms looking to sell stock insurance to options buyers.

Unfortunately, many new traders do not even think about the bid-ask spread when they are trading.  

And when you ignore the bid-ask spread, you are possibly turning a winner into a loser just by paying the spread.

Let me show you what I mean.

So you wanted to buy those hot Puts on AMZN. Good luck with that! Here’s what I mean.

 

Source: Thinkorswim

Right away, what a crazy spread those options are!

Those 3260 puts are 20 bid x 101 ask!

And if you sent a market order, the HFT’s would be giggling with excitement as they filled you at the worst price possible!

In this example, you would be filled for $101/contract  when the last was $67/contract!  

Then if you went to exit your trade thinking you just made $30 / contract, you would be filled at the bid of $20!  

This means you would be taking a massive loss on the trade of $80/contract!  

Remember, since options prices are multiplied by 100 to account for the number of shares of leverage, that is a $8,000 loss instead of a $4,000 profit!

Now do you see how the bid-ask spread can hurt you?

Let’s review market orders vs limit orders and why you should always use limit orders to trade options that have a wide bid-ask spread!

2 Main Order Types: Market And Limit Orders

 

Different order types can result in a vastly different outcome in your trading, and it’s important to understand the difference between them.

Here I am going to focus on the two main order types: market orders and limit orders – and how they differ and when to use each one.

It helps to think about order types as a distinct tool, that is suited for its own purpose.  

Whether buying or selling, what’s most important is to identify what your goal is as a trader.  

Many times traders just want to get their stocks filled immediately, and other times they are willing to hold off for the right price.  

This means, having your order filled quickly (possibly at a very bad price), or controlling the exact price of your trade (and missing the trade, entirely!)  

 

What is a market order and when do I use it?

 

A market order is an order type to buy or sell a stock at the market’s current best available price.  A market order is an order type to guarantee execution but it does not guarantee a price at which you will buy or sell the option. 

Market orders are optimal with the primary goal is to execute the trade immediately, when you cannot wait for the price to be perfect!

Many times momentum traders that are in a hurry to buy or sell a stock during extreme market movements will want to use market orders. 

Otherwise, it’s best to use a limit order to make sure you are executing at the exact price you want to buy or sell a stock at.

Now, a stock’s quote typically includes the highest bid for sellers and the lowest offer for buyers, and then the last trade price.  

[ It’s extremely important to remember that you cannot be guaranteed a fill price at the last trade price!  This is just a point of reference of where a stock just traded, but not a guarantee of a fill for future trades ]

This is especially important in illiquid stocks and options where the last price can become “stale” from inactivity, but the bid and ask will “drift” around with the current market condition.  Therefore, when placing a market order, the current bid and offer prices are generally of greater importance than the last trade price.  What I mean is that if a stock is trading at $100 that you want to go short, but the bid is at $50 and the offer is at $60, you will not be able to sell the stock at $100 anymore, but instead only $60.

Now, if you have no choice but to trade a market order, these orders should only be placed during market hours and cancelled by the end of the day.  If they are left in the market, they could fill at the open of the next trading day, which could be significantly higher or lower than the stock’s prior close.

Between market sessions, there are numerous factors that can impact a stock’s price, such as earnings releases, company news, economic data, or an unexpected event in an entire industry, sector or market as a whole.  

 

What Is A Limit Order And How Do I Use Them?

 

A limit order is an order to buy or sell a stock with a restriction on the maximum price to be paid (when buying), or the minimum price to be received (when selling).  

And if the order is filled, it is only filled at the specified limit price or better.  However, there is no guarantee that the order will be executed and filled.  

A limit order is only appropriate when you think you can buy at a price that is lower than the current price – or sell at a price that is higher than the current quoted price.

 

Source: Thinkorswim

The above chart illustrates the use of market orders vs limit orders.  In this example, you can see how the buyer will place a limit buy order below the current market price.  Alternatively, the  seller will place a limit sell order above the current market price.

Key points about the order types

  • Market Orders: Used by a trader who needs to buy or sell a stock as quickly as possible
  • Buy Limit Order: Used by a trader who wants to buy a stock when price drops to a desired level
  • Sell Limit Order: Used by a trader who wants to sell a stock when price rises to a desired level

Note: even though a stock may reach a specified limit price, your order may not be filled because there may be other orders in front of yours.  This queue is governed by First In – First Out execution principles.

Added bonus:  If you want to buy a stock at $135 with a limit order, you can actually be filled at a better price!  If the market moves quickly and cannot fill you at $135, you are then filled at an equal to, or better price, but never worse!  The opposite occurs for selling shares as well.

Types Of Orders

 

Now, there are even more detail when it comes to the types of orders you can actually place to help control slippage and execution quality of your limit orders.

Without getting into too much detail, here are the 6 main order types you can choose from.

8 main order types:

  • AON (All or None)
  • DAY (Day Orders Only)
  • FOK (Fill or Kill)
  • GTC (Good till Cancelled)
  • IOC (Immediate or Cancel)
  • MOC (Market on Close)
  • OTO (One Triggers Other)*
  • OCO (One Cancels Others)*

*These are actually combination order types that are used for more advanced order execution control compared to the primary 6 order types.

Wrapping Up

 

So there you have it, don’t be a sucker and stop feeding the HFT’s!

Instead, fight against these sharks and don’t let them take advantage of your execution prices by utilizing the power of limit orders!

And if you are efficient at limit orders, you can increase the profitability of your trading and by a significant margin too.  

As an example, if the volatility is high or spreads are wide in a stock, you could actually end up losing money on a trade!  All because of the bid – ask spread.

So if you find yourself stuck getting bad fills and losing money on your trades – consider switching over to limit orders instead of using market orders!

It’s exactly what I do in my trading!  

If I end up missing a trade that runs away from me I just remind myself that there are more stocks out there and I am OK waiting for the next opportunity to come across my desk.

Click here to sign up to Options Profit Planner now

Author: Dave Lukas

 

Are you fed up with the noise of traditional indicators?

I know I am and I don’t blame you if you are.

You see, there is over a thousand different indicators out there to choose from and it’s no wonder that finding the right one is so challenging

And to compound the issue, many technical indicators can give both a bearish and bullish signal to the trader looking at it.

But there’s a solution to this problem and it’s more simple than you might think.

And it only requires two indicators for your research.

Fractal Energy and Bollinger Bands.

And by simply focusing on these two indicators, you will declutter your research and start generating income week over week. 

 

Options Profit Planner

 

Every business starts with an edge in the markets

And no matter how small this edge is, it is well defined and precisely executed to generate maximum returns for the business.

The same goes for trading… you need to define your edge and execute it flawlessly to generate income for your account.

By using this strategy, you can give yourself that edge you are looking for to land consistent profits using credit spreads

The Options Profit Planner system is broken down into 3 main parts:

  • The Scanner to locate stocks to trade
  • A Credit Strategy to put the odds of the casino in my favor
  • Fractal Energy and Bollinger Bands to determine the energy of the stock

But we are going to focus on the last item, Fractal Energy and Bollinger Bands that are used to determine the near term movement on the stock.

 

Fractal Energy

 

As a trader, spending hours going through stock charts and looking for patterns is just part of the day in the life of a professional trader.

To cut down the work that I have to do every day, I only focus on stocks that meet qualifications set by the Fractal Energy Indicator.

When looking to understand what price action is doing you need to reference information other than a basic stock chart to get a true edge in the markets.

And by having an indicator such as the Fractal Energy indicator you can determine stocks that are charged to run or exhausted and ready to stall out.

But first – What are fractals?

The power of fractals allows me to determine the strength of trends and how much “life” is remaining in a stock’s movement.  

There are 2 main components of Fractal Energy:

  1. Markets Fractal Pattern
  2. The Internal Energy 

By combining those two different components you create a single indicator that is able to successfully determine the strength or weakness of a trend on any market or stock.

Let’s take a look at this example of Fractal Energy and the Bollinger Band working on the SPY

The SPY:

 

Source: Thinkorswim

 

Bollinger Bands

 

Bollinger Bands were developed by John Bollinger as a price envelope designed to define the upper and lower price range levels of a stock.  

Bollinger Band consists of a middle Simple Moving Average (SMA) along with an upper and lower offset band.  Because the distance between the bands is based on statistics, such as a standard deviation, they adjust to volatility swings in the underlying price. 

How do you read them?

Bollinger Bands help to determine whether prices are high or low on a relative basis, and according to these calculations, price should fall within range 95% of the time!

How this indicator works:

  • When Bollinger Bands tighten, there is a high likelihood that price will have a sharp move
  • When the bands separate by an unusually large amount, this is showing a significant increase in volatility or a gap in stock price. 
  • The stock price can exceed and even hug or ride the band price for extended periods of time.
  • Price has the tendency to bounce within the bands’ envelope, touching one band and moving back towards the  other.
  • You can use the middle SMA or opposite band as target prices and exits for your trading 
  • If prices move outside of the band, it’s expected to see a trend continuation until the price moves back inside the band.

 

Credit Spreads

 

As an options trader, I don’t want to go to the casino… 

Instead, I want to BE the casino!

And I do this by trading credit spreads instead of debit spreads.

Option sellers take maximum advantage of the option time decay theory, commonly known as Theta Decay.

OTM options lose value quickly and become worthless at expiration.  

This allows traders to not have to worry about correctly predicting the market direction or timing the market perfectly to generate income.

Now what do one of these strategies look like?

 

 

I know this might look scary, but it’s a lot more simple that you might think.

In order to create this strategy, you would want to sell a higher valued put, and buy the lower valued put as protection.

What does this give you?

It allows you to collect a net credit on the trade, which is the difference between the two puts.

But why do I like this trade?

Well, when you properly select your strikes, you can generate odds of winning that mimic the likes of a casino.

Plus when you generate income from collecting premium, you can steadily return close to 100% returns each and every trade.

Remember traders, there are many ways to make money in this market and selling options is one of my absolute favorite go-to strategies.  

Key Points:

And you see, when it comes to placing a trade, you need these 4 things

  • To have the stock selected
  • A price range identified
  • An indicator to show you strength of the stock
  • And an options strategy to tie it all together.  

 

Combining The Two Charts

 

When you combine the two, you now have a vision of the market that is unique and can pick some of the most favorable trading opportunities. 

And when you strip out the noise of the other indicators, you declutter your trading and can focus on what matters.

Here’s a view of both of the Bollinger Bands and Fractal Energy and it shows where the market swings are for trading credit spreads.

 

Source: Thinkorswim

 

And currently, the SPY’s appear to be entering a zone where they are considered to be exhausted on the Fractal Energy, and turning over at their upper resistance levels near the Bollinger Bands.

Putting that together, you get a great spot to go short the market and sell a Credit Spreads strategy to generate income.

 

Putting it all together

 

I know this market is crazy… and even overwhelming to many.  But you have to trust the tools that everyone uses to trade safely.  

And two of those tools are the Bollinger Bands and the Credit Put Spread.  When they are combined, they really are one of the best strategies a trader can deploy in markets that are unpredictable.  

When looking at these two strategies combined, this really is where statistics and probability really shine and make for a highly profitable trading opportunity.

Not only do I trade using an indicator that tells me 95% of the time price will stay inside a range, I also combine it with an options strategy that can pay me 100% ROI on my trade if timed correctly to the markets.

So… to recap what makes this trade a really high probability winner. 

  1. The Options sellers always have statistical advantages over buyers.  That’s a built-in feature for the entire options market, regardless of calls or puts.
  2. Trading credit spreads can pay me 100% returns, which cannot be done when buying calls or even the stock outright.
  3. Lastly, combining a proven indicator into my trading system that when signals a stock is oversold both statistically and on the charts.  Remember, there is a 95% chance it will head higher and not lower.

Click here to learn how I use the Bollinger Bands weekly to determine the market direction

 

Author: Dave Lukas