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Following trades and straddles

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Perhaps a great way for traders to get a feel for the market is to monitor trades, even after they've been closed out. Another great way is to think about every security from the bull and bear's point of view. What you may find is that you become the market. For instance... in our straddle trade that was highlighted at 09:00 EST on 09/28 (with 09/27 close data) what might a trader do with that trade? After all, they were "neutral" going into the straddle (put/call). Those subscribers that just trade stock... think of it too as short/long. Who's got the risk?

WebEx Communication Chart

WebEx Communications (NASDAQ:WEBX) traded above our 100% retracement level yesterday. It may have been worth it to some to hang in their for today's action, just to see if shorts would get squeezed out of their skins. That's not happening right now, and traders have some substantial gains at risk in the call portion of the trade. If that's where risk is, then perhaps a trader should be selling that risk (taking a profit) and then hold onto the put side of the trade. Here's a look at the straddle and strangle and the current gain/loss from time of screen capture.

Option trades for Straddles/Strangles

I've put a little "red s" next to the option a straddle trader might be wanting to trade. The "blue h" signifies "hold" at this point. As you can see, both the straddle and the strangle in WEBX would be showing gains. Even if the put portion of the option were to expire worthless, the trades would have resulted in a gain. The reason a trader might want to hold the put portion at this point is that WEBX might pull back to 80.9% retracement of $23.31 or even the 61.8% level at $19. Should that occur, the trader having sold the calls and still holding the puts might see his/her puts increase in value from current levels. Anything from here is icing on the cake in my book.

I also added yesterday's highlighted straddle on Qualcomm (NASDAQ:QCOM) from the 10:30 EST Update. Here's the chart of QCOM and how a trader might be managing that trade. Since the stock is breaking relative lows, the trader may want to cut the Oct $45 call as a loss here (ahead of 2-day weekend that would lose time premium).

Qualcomm Chart

The direction of the break actually came late yesterday when QCOM broke below 0% retracement. Not how we're using volume spikes to ascertain potential disagreement between buyers and sellers. We once again remember the saying, "Volume proceeds price movements." It worked in WEBX and looks to be working in QCOM. We didn't need to know the direction, but just look for the right opportunity. Perhaps QCOM will work for subscribers like WEBX did. Only this time, the stock is going down. Let's keep an eye on the market indexes too as they will also play an important role in how much the stock does or doesn't move!

Qualcomm with "rolled" retracement

Traders need some type of level to be targeting with their put trade. At some point they'll need to close it out. The first target we get from rolling down retracement is near the $35.86 level. The first thing I want to try and understand is this. At $35.86, what might the Oct. $45 put be worth? $45 - $35.86 = $9.14. Would $9.14 times 1 contract (100 shares) be enough of a profit to cover entire cost of trade? Not quite! Total cost for straddle was $620 (not including commission) and sale of put at $9.14 less put paid of $3.60 gives me $5.54. Only way I'm profitable is if I sell call portion, and remove the risk of that going to $0.00.

Shares of QCOM could possibly go lower than our "new" 0% retracement level, they could also go higher. Hopefully you can use the retracement levels as we have in WEBX and now in QCOM to help you better understand and manage straddle and strangle trades.

Things to note

Make note of what I'm doing here, especially as it relates to the 10:30 Update. If we're noticing some of the major indexes having trouble at retracement levels of resistance, then it makes sense to be selling calls. It also makes sense to be holding some puts. In essence, that's what a straddle trader in WEBX and QCOM are doing. They're trying to get some benefit from the markets in their efforts! When you monitor the Market Volatility Index, you can also see how the puts might benefit should volatility rise, especially if the stocks your holding puts on decline in price.

Jeff Bailey
Senior Market Technician
Option Investor

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