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February Options Expiration Is Next Week

By Jeff Brown on February 7, 2017

All of our trades for February and March options expirations are looking positive, and yesterday I issued a recommendation for the SPDR S&P Oil & Gas Exploration & Production ETF (XOP). You can find it here if you haven’t seen it already.

Last week, the U.S. markets closed almost exactly where they started. After falling almost 2% at the beginning of the week, the markets recovered.

That was perfect for our new March trades. We were able to use the market pullback to get favorable entry points into our spreads. They’re now moving in our favor.

And after today, we are only eight trading days away from February options expiration.

February Spreads

Feb 2017 $116/$111 bull put spread on the iShares 20+ Year Treasury Bond ETF (TLT)

Last week, TLT remained relatively unchanged. It started the week at $119.71 and ended it at $119. With only two weeks left until expiration, we’re fine with TLT staying right there. And with last week’s Federal Reserve announcement out of the way (it said it would keep interest rates unchanged), we don’t see any major catalysts to bond prices.

The TLT bull put spread is a HOLD.

Feb 2017 $115/$110 bull put spread on the iShares PHLX Semiconductor ETF (SOXX)

SOXX inched up another $1 last week and is now trading around $131. That’s $16 above our short strike price of $115.

And semiconductor stocks continue to show strength. Like we said last week, semiconductors do well when the economy is strong. And since semiconductors are in just about all of our electronics, they’re a great forward-looking indicator. In short, the stock market is strong, and I expect to see continued strength. That’s why we are in mostly bull put spreads right now.

The SOXX bull put spread remains a HOLD.

Feb 2017 $130/$125 bull put spread on the iShares Russell 2000 ETF (IWM)

The Russell 2000 was also relatively unchanged last week. And once again, IWM’s 50-day moving average provided support, and the price bounced higher after testing the resistance point. We’ll continue to keep a close eye on IWM’s 50-day moving average.

But we have around a $6 cushion, which we think will allow us to hold this through expiration.

The IWM bull put spread is a HOLD.

March Spreads

March 2017 $219/$214 bull put spread on the SPDR S&P 500 ETF (SPY) 

Last week, we used the market’s weakness to sell a bull put spread on SPY. The market bounced higher after that, and our spread is looking good right now. I expect to see continued strength in the stock market, which will be good for our SPY credit spread.

The SPY bull put spread remains a recommended trade for a net credit greater than $0.62.

March 2017 $125/$120 bull put spread on McKesson (MCK)

Pharmaceutical company McKesson was another new pick last week. We saw the overall health care sector in the beginning of an uptrend, and we think the company should benefit from the sector as a whole. McKesson is up about $2 since we sold the bull put spread on January 31.

The MCK bull put spread remains a recommended trade for a net credit greater than $0.55.

March 2017 $62.50/$57.50 bull put spread on American Electric Power (AEP) 

We got a great setup in the utility holding company last week, and we were able to collect around $1.10 of premium on this spread. Since we entered the trade, AEP is up about a dollar per share. We see this trend continuing as both utilities and AEP are in a new uptrend.

The AEP bull put spread remains a recommended trade for a net credit greater than $1.10.

Q&A

Question: When the spread is working against you, is it not better to just get out if it hits a certain percent of loss? Also, the statistics work if you use the same number of spreads but for the same security, not different securities, no? Why do you stick to just one security to play out the statistics or is each trade independent of the other? – Steve W.

Answer: These are important questions. I’m glad you’re asking them. For your first question, it really depends on the individual trade. As a general rule, if the technicals are still intact for the underlying asset, then, even if the short option is showing a loss, it often still makes sense to hold on to the trade. This is due to the impact that volatility has on option pricing.

For example, let’s say that the Volatility Index (VIX) jumped up by 15% in one day. This will typically have a large impact on option pricing. However, the underlying asset used in the credit spread hasn’t moved at all. In other words, there are times when the option value is primarily being driven by volatility, not by any meaningful movement of the underlying asset. When volatility is elevated, the erosion of the value in the short option happens quickly in the last 10 trading days, which is why it often makes sense to hold on to those positions closer to expiration.

For your second question, I perform a probability analysis on every individual trade that is recommended. Over time, the probabilities do work on the sum of all trades, irrespective of whether they were of the same security or a bunch of different securities. For example, if all individual trades have an 80% or greater probability of expiring worthless, then over time we will see similar statistics for the results of all the trades. Each trade is treated as an independent trade with its own trade thesis. That said, due to the links between certain assets and the value of the U.S. dollar or interest rates, for example, some trades will be built off similar themes but still analyzed individually.

Question: Quick question, I use Fidelity for my trades. They allow me to place the orders for the credit spreads as “good till canceled.” The one concern I have about the recommendations is often, even if I place them within minutes of your alert, the “net credit” target I am shooting for doesn’t allow the trade to be filled. Is this something I should use the “good till canceled” option for and keep an eye on it for the next day or two to see it filled? Last, in the case that the order isn’t filled in the first 2-3 days of the alert, how long should I let it linger before I cancel? – Brandon H.

Answer: With options trading in general, and certainly credit spreads, I don’t recommend using “good ‘til canceled” (GTC) orders. As an alternative, I do recommend “good for the day.” The reason is that it is very easy to forget about a GTC order. For example, four weeks may have passed since the recommendation, and we may have sent an alert to close out the position because something changed with regards to the recommendation, but your GTC order is still in. You might find yourself getting filled on the order… but the position has completely moved in the other direction, creating a loss.

It’s much better to check the current bid/ask and midpoint and set your limit order at a price that you are comfortable with – as a good for the day order. If you don’t get filled, I recommend trying again the next day. Typically, the best windows will come within two or three days of issuing the recommendation, and occasionally, usually due to a spike in volatility, it is possible to get into a recommendation a week or two after the recommendation. But these cases are not normal.

Regards,

Jeff Brown
Editor, Four Point Trader

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