Trading Strategies &Trading Strategies &SimulationSimulation

Working Basic ProfilesWorking Basic Profiles►Buy CallBuy Call►Sell CallSell Call►Buy PutBuy Put►Sell PutSell Put

First ApplicationsFirst Applications►Protective PutProtective Put

►Covered CallCovered Call

Protective PutProtective Put► Combine Combine Long StockLong Stock with with Purchase of PutPurchase of Put► Choose Expiry to match horizon of desired Choose Expiry to match horizon of desired

protection of downside.protection of downside.► Choose Strike around (usually just above) Choose Strike around (usually just above)

current Stock Pricecurrent Stock Price► Protects Stock Price from loss beyond put Protects Stock Price from loss beyond put

premiumpremium► Very Similar to Car Insurance Very Similar to Car Insurance (although (although

everyone’s strike is below the current car everyone’s strike is below the current car value due to deductibles)value due to deductibles)

Covered CallsCovered Calls►Combine Combine Long StockLong Stock with with Sale of Sale of

CallCall►Choose Strike around (usually just Choose Strike around (usually just

above) current Stock Priceabove) current Stock Price►Protects Stock Price from loss less Protects Stock Price from loss less

than call premiumthan call premium►Guarantees Sale Price (X + Prem Guarantees Sale Price (X + Prem

Recv’d)Recv’d)

Writing Calls to Writing Calls to Generate IncomeGenerate Income

►Can be very conservative or very Can be very conservative or very risky, depending on the remainder risky, depending on the remainder of the portfolioof the portfolio

►An attractive way to generate An attractive way to generate income with foundations, pension income with foundations, pension funds, and other portfolios that will funds, and other portfolios that will always hold the stock used in the always hold the stock used in the covercover

►A very popular activity with A very popular activity with individual investorsindividual investors

Writing Calls to Generate Writing Calls to Generate Income (cont’d)Income (cont’d)

►Writing calls may not be Writing calls may not be appropriate whenappropriate when

Option premiums are very lowOption premiums are very low The option is very long-termThe option is very long-term

Simulation Simulation

►Brokerage Account and Delayed Brokerage Account and Delayed Data from ExchangesData from Exchanges

►Activate Some StrategiesActivate Some Strategies►Document Intent, Execute and Document Intent, Execute and

ResolveResolve►Make Some Money, Have Some Make Some Money, Have Some

Fun!Fun!

SimulationSimulation

ExchangesExchanges► Chicago Board of TradeChicago Board of Trade

www.cbot.comwww.cbot.com► Chicago Merchantile ExchangeChicago Merchantile Exchange

www.cme.comwww.cme.com► New York Board of TradeNew York Board of Trade

www.nybot.comwww.nybot.com► New York Merchantile ExchangeNew York Merchantile Exchange

www.nymex.comwww.nymex.com

CBOTCBOT► AgriculturalAgricultural

Corn (C), Soybeans (S), Soybean Oil (BO), Corn (C), Soybeans (S), Soybean Oil (BO), Soybean Meal (BM), Wheat (W), Oats (O)Soybean Meal (BM), Wheat (W), Oats (O)

► Interest RatesInterest Rates 10y Notes (TY), 30y Bond (US)10y Notes (TY), 30y Bond (US)

► IndexesIndexes Dow Jones 30 (DJ)Dow Jones 30 (DJ)

CMECME► MeatsMeats

Live Cattle (LC), Feeder Cattle (FC), Lean Hogs Live Cattle (LC), Feeder Cattle (FC), Lean Hogs (LH), Pork Bellies (PB)(LH), Pork Bellies (PB)

► Lumber (LB)Lumber (LB)► IndexesIndexes

Equity: S&P 500 (SP), NASDAQ 100 (ND)Equity: S&P 500 (SP), NASDAQ 100 (ND)► Foreign ExchangeForeign Exchange

British Pound (BP), Canadian $ (CD), Japanese Yen British Pound (BP), Canadian $ (CD), Japanese Yen (JY), Swiss Franc (SF), Euro (UR)(JY), Swiss Franc (SF), Euro (UR)

► Interest RatesInterest Rates Euro$ (ED), T-Bill (TB)Euro$ (ED), T-Bill (TB)

NYBOTNYBOT►Food & FiberFood & Fiber

Cocoa (CC), Coffee (KC), Sugar-World Cocoa (CC), Coffee (KC), Sugar-World (SB), FCOJ (OJ)(SB), FCOJ (OJ)

Cotton (CT)Cotton (CT)► Indexes (NYFE)Indexes (NYFE)

US$-Index (DX)US$-Index (DX)

NYMEXNYMEX► EnergyEnergy

Light, Sweet Crude Oil (CL), Heating Oil (HO), Light, Sweet Crude Oil (CL), Heating Oil (HO), Unleaded Gasoline (HU), Natural Gas (NG)Unleaded Gasoline (HU), Natural Gas (NG)

► MetalsMetals Gold (GC), Silver (SI), Copper (HG)Gold (GC), Silver (SI), Copper (HG)

PositionsPositions► $500,000 portfolio$500,000 portfolio► No more than $150,000 in any one positionNo more than $150,000 in any one position► At least 4 option and 2 futures tradesAt least 4 option and 2 futures trades

4 options as we discuss options4 options as we discuss options 2 futures as we discuss futures2 futures as we discuss futures

► Each position must have:Each position must have: Documented opinionDocumented opinion Documented Security informationDocumented Security information Initial Trade PriceInitial Trade Price Daily Closing PricesDaily Closing Prices Final Closing PriceFinal Closing Price

Documented Security Documented Security InformationInformation

►Contract/Position SizeContract/Position Size►Contract/Position ValueContract/Position Value►Last Trading Day of ContractLast Trading Day of Contract►Contract/Position Initial Margin DepositContract/Position Initial Margin Deposit

Multi-Option Trading Multi-Option Trading StrategiesStrategies

Take a position in: Take a position in: ►A mixture of calls & putsA mixture of calls & puts

This is known as a This is known as a combinationcombination►2 or more options of the same 2 or more options of the same

typetype This is known as a This is known as a spreadspread

Trading StrategiesTrading Strategies

A Long Straddle CombinationA Long Straddle Combination• Figure 4-1: Buy 1 Call & 1 Put @

Same XProfit

STX

Prices are expected to move, but don’t know which way.

A Short Straddle CombinationA Short Straddle Combination

Profit

STX

Prices are not expected to move, either way (RISKY!!!). Get to keep premiums, but possible unlimited losses.

• Figure 4-2: Sell 1 Call & 1 Put @ Same X

A Long Strangle A Long Strangle CombinationCombination

X1 X2

ST

• Figure 4-3: Buy 1 Call @ Hi X& Buy 1 Put @ Low XProfit

Prices are expected to move BIG, but don’t know which way, and willing to give up some profit to pay less for position.

A Short Strangle A Short Strangle CombinationCombination

X1 X2 ST

• Figure 4-3: Sell 1 Call @ Hi X& Sell 1 Put @ Low XProfit

Prices are not expected to move beyond X1 or X2, but not willing to bet they might movebetween. Get to keep premiums, but unlimited possible losses.

Bull Spread Using CallsBull Spread Using Calls►Figure 4.7: Buy 1 Low X Call, andFigure 4.7: Buy 1 Low X Call, and

Sell 1 Hi X CallSell 1 Hi X Call

X1 X2

Profit

ST

Prices are expected to rise, but only modestly(not above X2). Willing to give up “above X2”to pay less for position (compare to naked call).

Bull Spread Using PutsBull Spread Using Puts

• Buy 1 Low X Put and Sell 1 Hi X Put

X1

X2

Profit

ST

Bear Spread Using PutsBear Spread Using Puts• Sell 1 Lo X Put and Buy 1 Hi X Put

X1 X2

Profit

ST

Again, as you are willing to give up move “below X1”, position costs less than naked put.

Bear Spread Using CallsBear Spread Using Calls• Figure 4-8 : Buy 1 Hi X Call, and

Sell 1 Lo X Call

X1 X2

Profit

ST

Prices are expected to fall, but only modestly(not below X1). Willing to give up “below X1”to pay less for position (compare to naked put).