It has been a good week and it is only Tuesday. Two days in a row of market gains has been about our limit lately but I am hoping this trend continues.
Tuesday's gains were not pretty with the Dow trying to sell off twice but the bulls kept buying the dip so we should be happy. The dollar kept getting in the way of a real rally as it broke out to a new three-month high.
There was little in the way of stock news and also very little in the form of gains from FedEx. We were stopped at $83.50 on the dip. Because premiums had been so inflated when we entered we ended up losing only a nickel on the trade. That is my kind of stop loss.
Futures were up +5 earlier but have give up some ground at 3:30 AM and only +3. World markets rose overnight on our positive home sales. That also boosted crude prices to near $75 on hopes our economy was improving faster than expected. We know in the U.S. this is not so and the housing data was skewed by the tax credit stimulus. Overseas they are not as aware of the details and trade on the headlines.
I updated the stops on everything so check the graphic for your plays. I am keeping the stops pretty tight because we are nearing year-end and I believe we will see a dip. More than likely it will be the first week of January but I would rather be safe than sorry. We are going to have a decent month in the portfolio and no reason to spoil it now by getting over confident.
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We do not sell out of the money puts for a few cents and then hope the market does not correct and cost us a fortune to exit. I don't like to risk a dollar to make a quarter.
The concept for Option Writer is to find solid momentum plays with enough volatility to inflate the option premiums. We will sell in the money naked puts ahead of the stock price and let the stock rally to our strike.
Selling in the money puts allows us to capture nearly dollar for dollar the movement in the stock price.
Because we are selling in the money that same dollar for dollar move can go against us as well. For this reason we establish tight stops to take us out of the play for a loss of a few cents rather than let the losers grow and "hope" they rally again. In a typical month we could get stopped out of twice as many plays as we close for a profit but those stops will be minimal and the winners worth the trouble.
If you do not have the ability to sell options you can turn the plays into spreads by buying a lower strike put. This will decrease your margin requirements but it will also decrease your profits.
There are several different formulas for determining margin requirements for naked put writing. These are normally broker specific and some can require larger margin requirements than others.
Here is the most common margin calculation for naked puts.
100% of the option premium + ((20% of the Underlying Market Value) - (OTM Value))
For simplicity of calculation simply use 20% of the underlying stock price and you will always be safe. ($25 stock * 20% = $5 margin)