Auction Process
Supply and Demand are represented at the Ask (sellers) and Bid (buyers):
• The price of a stock is set by the last transaction made, regardless of it
being a “buy” or a “sell.” The receipt of this transaction is displayed as a
“time and sales” stamp.
• The supply and demand dynamics in a stock market are no different than
those of a physical market or auction of any other kind.
• If there are more bidders trying to buy a product or security, the price will
go up.
• If there are more sellers trying to sell a product or security, the price will go
Down.
Bid, Ask, and Spread Defined:
• ​Bid:​ The price closest to the last transaction that buyers are willing to buy
at.
•​Ask​: (aka Offer): The price closest to the last transaction that sellers are
willing to sell at.
•​Spread:​ The difference between the Bid and the Ask. This is the amount
profited by Market Makers who are paid to make sure shares of a stock are
always available and trading.
Candlesticks
Stock charts are typically made up of units called Candlesticks.
• As each time stamp is recorded by the computer, the price movement of
each tick is compounded into a Candlestick.
Candlesticks are vertically-oriented “Box and Whisker” plots.
• In this case, 50% of trades happen within the box and 50% of the trades
happen outside of the box (25% on each “wik” aka the whiskers or shadow).
Each Candlestick finishes populating depending on what time frame you have
Selected.
• Example: 1 minute, 5 minutes, 1 hour, daily, etc.
Charts
Candlesticks populate as time elapses, forming a chart. When Traders analyze
charts, we are in reality assessing the movement of the candlesticks forming
the chart.
What the chart can tell us:
• Support and resistance levels.
-​Support​: A price “floor” in the stock where buying demand matches selling
pressure, halting the movement of the stock’s price below that level.
-​Resistance​: A price “ceiling” where selling pressure matches buying
demand, halting the movement of the stock’s price above that level.
• Which of three possible chart environments the stock is currently in:
-Uptrend
-Downtrend
-Consolidation aka “Chop”
• What stocks to watch and what to set to the side.
Depending on your strategy, you’ll be looking for different types of
movement or setups within a chart before you further investigate the stock
for a trade. A quick look at a chart can often tell you if a stock is worth
your time that day.
• Who are the bag holders, what their mentality is, and where they are in the chart.
Bagholders
-Bagholders are the people that are holding the stock at its peak and cannot get
rid of their position until the stock has moved lower against them.
Usually bagholders increase the effect of sell/short pressure on a stock; they
admit defeat and exit their position, pushing the stock lower with their sells
because there is no logical game plan of getting out of their trade other than
dumping.
​Chop/consolidation chart
Uptrending chart
Downtrending chart
Time Frames
Each of these charts shows the same stock at the same moment from different
time frame settings. The time frames that we use to look at these charts should be proportional to
the duration of the trade that we are putting on. As you can see by these charts, different time frames will
completely change our perspective on the stock and consequently what price patterns we
recognize.
​5 Min Chart
30 Min Chart
Daily Chart
Types of Trades
Scalp
• Seconds to minutes. If you are scalp trading you jump in and out of stocks
very rapidly, often picking up gains on penny moves over and over again.
Scalp traders typically use specialized platforms with hotkeys to make sure
they can enter and exit positions immediately; scalp traders often employ
a large amount of leverage. Scalp traders usually use advanced strategies
with regard to routing and exchange routing.
• Scalp trading usually takes place at a prop firm because the technological
requirements are so expensive. It is not possible to scalp trade using a
retail platform.
Day
• Hours to a full day. Day traders are looking for a larger move in a stock
compared to scalpers.
• Positions usually require multiple entries to reach full size. Stops
(predetermined maximum loss points) are wider because the trade is
being placed across a longer period of time and therefore will typically
experience more swings.
Swing
• Days. Swing traders hold a position over multiple days.
• Swing trading mostly happens in trending markets (either up or down
trending). A swing trader could slowly piece into a position over multiple
days or could put on a position that has a relatively good amount of gains
within 1 day and hold it overnight.
Short Selling
Short selling is the process of selling stock that you don’t own in the hopes
that you will be able to buy it back for cheaper in the immediate future. In
order to sell short, you have to borrow shares of the stock (typically from your
broker).
• Example: Apple is at $620.00. I believe its going down to $580.00. I can
short Apple by borrowing shares from my broker at $620.00, selling them
immediately in the market, and waiting for the stock to go down before I
buy those shares back and give them back to my broker.
• The difference between what I originally sold the stock for and what I buy
it back (minus commissions) is my profit.
The danger of short selling is that your potential downside is UNLIMITED.
• Example: A trader shorts 10 shares of Apple at $620.00. He has now
collected $6,200.00 (minus commissions). However, Apple makes an
unexpected announcement and the stock jumps to $1,000.00. The broker
calls and demands that the trader cover his short, so the trader has to buy
back his shares at the market price of $1,000.00 per share. He has to pay
$10,000 (plus transaction costs) for those shares, which means he loses
about $4,000 on the trade, 65% of his initial investment.
• ​The unlimited downside potential of shorting is one reason why traders use
options.
Price Action
Price Action is the behavior of the Bids and Offers in relation to one another
over a period of time, at certain price levels of a stock. As buyers and sellers
come in and out of a stock in greater or lesser numbers, they are affecting the
Price Action.
Imagine a physical marketplace: If there are only a few buyers and sellers
mulling around, placing small orders for goods, there isn’t much activity; the
price action could be described as slow. However, if a busload of big buyers and
sellers piles into the market and starts buying and selling like crazy, the prices
of those goods are going to start moving A LOT. That’s price action. Having
a good read on price action is very difficult. That’s the whole point of Tape
Reading in the first place. Specifically, price action refers to the ways that orders go off– whether they
are bid or offered with relatively large amounts of volume. Price action
also refers to the behavior of the buyer or seller in relative strength to one
another– are buyers overwhelming sellers and pushing the price higher?
• Example: When there is a stronger buyer involved, the price action--the
aggressive buying--will happen on the offer. This suggests that buyers are
so intent to buy the stock that they are not willing to wait to have their
order filled when they place it on the bid. Instead, they are paying the
difference between the bid and the offer and buying shares immediately on
the offer. They are paying a premium to buy the stock in the moment.
Having said that, there are manipulative ways to accumulate shares by
making the price action look a certain way. Just as you can bluff and cultivate
perceptions in a poker game by changing the way you bet, you can bluff and manipulate other players in
the market by changing your buying and selling habits.
Price action helps us determine whether a stock is “in play” whether its
worth trading that day. Its usually apparent within the first 30 minutes of the
open whether the activity within the stock the price action will be such that
it will create moves and opportunities to actually make trades.
Understanding Sentiment
Dictionary definition Sentiment: A view or attitude toward a situation or
event; an opinion.
Market definition of Sentiment: The prevailing macro view of the market
direction. The sentiment is our way of qualifying where the markets will be
going in the future.
•Example: Bearish sentiment prevails in the market after poor
macroeconomic reports suggests that the US is heading into a double dip
recession. Sectors and Sentiment: Markets are made of different sectors (tech, financials,
casinos, etc.). Each sector has different sentiment as a subset of the overall
market sentiment.
•Example: Google, Amazon, Apple, and other tech sector stocks are
falling while Bank of America, Goldman Sachs, JPMorgan Chase and other
financial sector stocks are surging upwards. This would imply bearish
sentiment in techs and bullish sentiment in financials.
Indexes and Sentiment: You can also look to broad indexes for market
sentiment. Bullish sentiment on the S&P 500 (tracked via the SPY) will create
bullish sentiment in stocks of almost every other sector.
•Example: Three weeks of bad data come out but the SPY is still bumping
up against resistance levels. The sentiment here is bullish, and we can infer
that most investors and traders still believe that markets should be moving
higher despite the bad news. Different stocks have different levels of correlation with the broad market
indexes. This is important to factor in as you prepare your Watchlist.
Supply & Demand Dynamics
SUPPLY and DEMAND​ are the most important factors in trading. A change in
Supply and Demand moves a stock. Without that change, the stock​ DOES NOT
move.
Ultimately, traders want to step in front of changes in supply and demand
because it is these changes that give us movements in the price of the stock,
and therefore the opportunity to make money.
•Example: When a large fund increases its holdings of a stock, its position
size can be so large that it literally removes a large portion of the supply of
the stock while increasing the demand. Therefore, when a large fund goes
into the market with a large buy order, it will drive the price of the stock up
because demand has substantially increased.
• Example: A Low Float Stock (a stock with little average daily trading
volume). Lets say the average number of shares traded are 300,000 shares
per day. Its very easy to spot a large trader who wants this stock because his
order size and the quantity of the orders are more than the average number
of transactions in the stock. Spotting a buyer like this signals a large
change in supply and demand and triggers the need for a closer look.
On a large scale, you can see equilibrium or consolidation areas as a price
range where supply and demand are in agreement. This is an area where
buyers and sellers agree that the price of the stock should be in this area.
• Breakouts occur when demand (buyers) overpowers supply (sellers),
therefore driving the price of the stock upwards.
• Breakdowns occur when supply (sellers) overpowers demand (buyers),
driving the price of the stock downwards.
Breakdown
A breakdown is a move out of consolidation into a downtrend. Breakdowns
occur when a stock has been trading within a certain range and the price
suddenly collapses lower than that range.
Breakout
A Breakout is a move out of consolidation into an uptrend. Breakouts occur
when a stock has been trading within a certain range and the price suddenly
escapes out higher than that range.
Technical Analysis & Indicators
Indicator:​ An analysis tool that traders use to predict the direction of the
stock’s price and structure trades.
Technical Analysis: the analyzing of charts: behavior of candlesticks, areas of
consolidation, breakdown and breakout areas, and more.
There are hundreds of technical patterns that supposedly indicate high
probability trades, and in conjunction with chart analysis there are thousands
of different technical studies out there. The point of technical indicators is
to display and help the trader understand what is on going with the stock at
certain prices.
• Example: VWAP (Volume Weighted Average Price) is an indicator that can
signal that a large number of transactions within a certain time period have
taken place at a certain price.
All technical indicators have one shared characteristic: they need historical
information to exist.
• Beginning to intermediate traders will rely on indicators heavily.
Technical indicators are helpful for momentum trading because there has
to be a jump in volume and/or price for it be considered a momentum trade;
oftentimes indicators will pick up on these movements.
Lagging Indicators
• All indicators lag. You will never have the best entries or exits if you are
using only indicators. They might let you catch a move but you’ll probably
miss a huge portion of it, especially in a hybrid market where computers
using the same indicators can move thousands of times faster than you.
• Indicators can also overcomplicate your trading analysis, which is the last
thing a trader wants. We use key levels based on what
the chart tells us and based on what the price action tells us. We aim to get
in BEFORE the momentum traders, which means we have to move beyond
technical analysis. That’s where Tape Reading comes in.
Building A Watchlist
Before you build a Watchlist, its important to define your style of trading.
Some questions to ask yourself:
• Do you trade whatever is hot that day (aka high flyers)?
• Do you trade large range days?
• Do you like to trade within certain ranges of technical indicators?
• Do you like to trade a small basket of stocks that you know well?
Momentum Trades
If you like to trade momentum plays, you’ll probably be scanning through
100’s of stocks a night to find the stocks that are building momentum based
on technical indicators. This is tedious but plenty of people do it; its quite feasible.
High Flyers
No Watchlist. You literally wait until the next day to see what’s popping and
then trade that.
Samuels Personal Options Watchlist
Tech
Industrial
Credit Cards
AMZN (Amazon)
AAPL (Apple)
FB (Facebook)
NFLX (Netflix)
BKNG (Booking)
CF (CF Industries Holdings)
X (United State Steel Corp)
AXP (American Express)
MA (MasterCard)
V (Visa)
Index
Financials
TLT (20+ Year Fed Treasuries)
SPY (S&P 500)
SLV (Silver)
GLD (Gold)
BAC (Bank Of America)
GS (Goldman Sachs)
JPM (JPMorgan Chase)
Casinos
LVS (Las Vegas Sands Cop)
WYNN (Wynn Casinos)
Why Trade Options?
We trade options because they require less money for higher potential returns.
Example: You have a $600.00 stock. You buy 100 shares, which costs you
$60,000.00. If the stock moves up $5.00 to $605.00, you make $500.00.
That’s a lot of money to put on the line to make $500.00 (1% return on
investment). Instead, you could play an option. Lets say the 605 Call is at $3.00. If you
spend $60,000 on this option, you would have 200 contracts. If the underlying
moved $5.00, your 200 contracts are now probably worth ​DOUBLE​ (100%
return) what you paid for them. You would be walking away with $40,000.00 - $60,000.00
in profit. There is of course substantial risk that you take on in order to achieve this
type of return, but you can see the sizeable gains that options can provide.
What is an Option?
An option is a contract that permits the buyer (holder) the right to buy or
sell an underlying security at a specified price (strike price) for a specific date
(expiration date).
• Equate an option to a bet, like on a football game, except you’re not just
betting on something happening in the game, you’re also betting on how
long it will take that outcome to occur. If you think the Packers are going to
score 28 points against the Patriots, you’re not just taking that bet, you’re
betting whether it will happen in the first quarter (not likely) or by the end
of the game (more likely).
The option only provides the right to transact on the terms of the contract; it
does NOT require or obligate the buyer to exercise the contract.
• If you chose, you could purchase an option and allow it to expire without
exercising it. There are plenty of strategies that take advantage of this
capability. Each contract of an option equates to 100 shares of the underlying stock.
• So when you buy a single $2.00 Call in Bank of America, you are going to
pay $200.00 for that 1 call. The listed price of the option is​ NOT​ what you
actually pay for it.
• This is why using “leverage” when trading options is rare… an option
already requires 100 times more capital than simply purchasing the
common stock.
The Strike Price is the price at which the contract allows the buyer to trade the
underlying stock at.
• Think of the strike price as YOUR bet on the game. If you think the Packers
will score 28 points, that’s your strike price. If you think Apple is going to
605, that’s your strike price. The Expiration Date is the date at which the option expires or is no longer
valid.
• This is the ticking clock on your bet; you have to be right​ BEFORE​ this date.
If not, the value of your bet is​ ZERO.​
Calls and Puts
Here are the more technical definitions of the two types of options, Calls and
Puts.
A Call option​ gives the buyer the right to purchase 100 shares of the stock at a
certain price before a certain date. Buyers of Call options want the stock price
to ​GO UP​.
Example: A trader purchases one $6.00 Call contract for Bank of America. The
expiration date is three weeks away. The next day, Bank of America trades up
to $10.00. Theoretically, the trader could exercise his option, in which case the seller
of the option would have to sell him 100 shares of Bank of America stock
at $6.00. The trader could then go back out into the market and sell those
100 shares at $10.00, making a $4.00 ($10.00-$6.00) profit per share (minus
transaction costs).
In reality, options trade just like stocks, so the trader would simply sell his call
option for a large profit instead of translating it into stock.
A Put option​ gives the buyer the right to sell the stock at a certain price before
a certain date. Buyers of Put options want the stock price to ​GO DOWN​.
Example:A trader purchases one $600.00 put contract of Apple. The
expiration date is 2 weeks away. Two days later, Apple is trading at $540.00.
Theoretically, the trader could exercise his option, in which case the seller
of the option would have to buy 100 shares of Apple from him at the strike price of $600.00. Since the
trader just sold shares that he didn’t own, he had to borrow them, which means he’s short. To cover his
short, he goes back out into the market, buys Apple at the current market price of $540.00, and gives
those shares back to the entity that initially let him borrow the shares. The trader makes a profit of $60.00
($600.00-$540.00) per share (minus transaction costs).
How You Read an Options Chain
Every platform will display an option chain differently, but there are a
few common denominators, as highlighted below.
1. Bid for Calls
2. Ask for Calls
3. Bid for Puts
4. Ask for Puts
5. This month’s Option
6. Expiration Date
7. Strike Price
The Equation for Pricing an Option
This is the way we look at options while trading and what you need to know in
order to trade options live:
Price of Option = Underlying Stock + (Time Decay) + Volatility
In the next few pages we define each of these variables and how they relate to
the price of an option.
Note that this is clearly not the Black-Scholes Model or any other
complicated way of pricing an option. Simplicity (without sacrificing
accuracy) is paramount when it comes to trading, which is why I haven’t
overcomplicated the formula unnecessarily.
The Underlying Stock
The underlying stock ultimately has the most influence on the value of an
option. As the underlying moves, so will the price of your option.
• If we were to take away time decay and volatility, an option represents 100
shares of the underlying stock.
• Direct correlation for ​Call options​: as the value of the underlying stock
increases, the value of Calls will generally increase.
• Inverse correlation for ​Put options​: as the value of the underlying stock
decreases, the value of Puts will generally increase.
Options are really about analyzing the price of the underlying, the movement
of the underlying, and correlation to the option that you decide to trade with.
Some options don’t respond favorably to the movement in the underlying.
Choosing the option with the most profitable correlation to the underlying
is the key to making a profitable options trade, and that means you need to
understand ​PERCEPTION​.
Perception:​ Where is the underlying going, what’s it doing, how is it getting
there? If we think its going down, how fast is it going down? Slow bleeding or
big immediate drop?
This is why my strategy is so heavily predicated on Tape Reading; it allows
me to understand the movements of the underlying stock. In order for you
to effectively trade an option, you need a good understanding of how the
underlying stock moves.
Time Decay
Time Decay ​exists because options have a finite lifespan.
Holding Volatility and the Underlying constant, an option that expires in 10 days will be worth more than
an option that expires in 4 days; the 10 day option has more time to hit its strike price (or stay there if its
already there), so its inherently worth more. So you actually pay a premium for more time being left in the
option. Time Decay eats away at that premium. The closer to expiration you get, the faster it will decrease
the option’s price, constantly pulling it downward. As such, if you are going ​LONG​ an option that is close
to expiration, you need to have serious conviction that movement in the underlying or volatility will
overwhelm the strongly negative effects of Time Decay. Otherwise, the price of that option is headed
down very quickly. If you are a buyer of an option, Time Decay works against you by decreasing the price
of the option as it approaches expiration. If you are a seller of an option, Time Decay works in your favor
by decreasing the price of the option and allowing you to profit from your short position.
There are strategies considered ​“Time Decay Strategies”​ where the trade is essentially a bet based on
shorting an option in anticipation that Time Decay will bring its value down to zero. These strategies make
a bet that Time Decay will overwhelm any movement in the underlying and Volatility that would
both push the price of the option upwards.
Volatility
Volatility is composed of a number of factors, most importantly the trading
volume in and price movements of the underlying stock. The quicker, larger,
and more violent the price change the greater Volatility will be in the option.
• Just because there is a high-amount of Volatility being factored into the
price of the stock ​DOES NOT​ mean that the price of the option or the
underlying equity is “volatile.” This is a misnomer.
•Example: There is often increased buying and selling activity leading into
an earnings announcement. However, this increase in volume does not
necessarily create dramatic price movement in the underlying. So Volatility
in the options is increasing while the underlying stays steady. When volatility goes up, the price of an
option goes up (the reverse is also true).
• If a stock pierces through support or resistance levels with high volume,
the option can jump in price. Lets say in this example that the option goes
from $.30 to $1.00 because of the increase in the price of the underlying
AND​ the high Volatility. If the same stock gradually grinds upward toward
that resistance level and breaks through with relatively low volume, the
same option might only jump from $.30 to $.45.
• See chart examples on next page.
Put simply, if your stock is acting crazy, the perception increases that your
“bet” or strike price might come into play. That means the price of the option is going to go up.
(1)
(1) This chart is an example of a slow trickle downwards in the price of the underlying. The
volatility in this type of move is minimal, therefore the effect on the price of the options
will also be relatively small.
(2)
(2) This chart is an example of a violent price drop. The volatility in this type of move is
extremely high, which means the options would respond with large and immediate price
Movements.
Equation for Pricing an Option: Revisited
Now that we’ve taken a look at each variable in the equation we can see how a
movement in each one affects​ a​ C
​ all vs. a Put.
Price of Option = Underlying Stock + (Time Decay) + Volatility
​Calls
Underlying
Stock
​As the Underlying Stock
increase in value, the price of
a call goes up
Time
Decay
As Time Decay Increases, The
price of the call goes down,
Volatility
As Volatility increases, the Price of a Call goes up.
​Puts
Underlying
Stock
As the Underlying Stock
decreases in value, the price
Of a put goes up
Time
Decay
As Time Decay increases, the
price of the out goes down.
Volatility
As Volatility increases, the
Price of the put goes up.
Puts vs. Shortselling
Its important to understand the difference between shorting and a Put. Both are ways to capitalize on
downward price movement in a stock. However, Puts have limited downside. Shorting does ​NOT​; you
could lose an unlimited amount of money by taking on a short position.
Going “long” a Put means that you believe the price of the underlying will
decrease. Worst case scenario for buying a put is that the stock moves against
you and you let your options expire worthless. All you’ve lost is what you paid
for the option to begin with, plus commissions.bShorting means that you are selling shares of a stock you
don’t own, which means that you have to borrow them. Eventually, you have to give those shares back to
whoever let you borrow those shares (your broker). If the stock goes down, you can buy the shares back
for less than you sold them for and make a profit. If the stock goes up (which it could theoretically do
forever) you have to buy those shares back at the market price to give them back to the
entity that permitted you to borrow them.
Characteristics of In the Money vs. Out of the Money
In the Money (ITM)
Out of the Money (OTM)
An option is said to be “In the Money”
(ITM) if it can currently be exercised
for a profit.
An option is Out of the Money (OTM)
when it cannot be exercised for a profit.
Calls are ITM when the strike price
is lower than the current price of the
underlying stock.
Calls are OTM when the strike price
is higher than the current price of the
Underlying stock.
Puts are ITM when the option’s strike
price is higher than the current price
of the stock.
Puts are OTM when the option’s
strike price is lower than the current
Price of the stock.
ITM options are more expensive
because they have already achieved
their strike price. This gives relatively
less room for Time Decay to affect the
option.
OTM options are cheaper and therefore
capable of providing much higher % returns as
the likelihood of moving into the money
increases.
Volatility and Time Decay have less
of an effect on ITM options. While
trading ITM options, put more
emphasis on the movement of the
Underlying.
Volatility and Time Decay are huge factors
on OTM options. Pay just as much attention
to them as the underlying.
Bid and Ask spreads are easier to
manage; liquidity is less likely to dry
up.
Bid and Ask spreads are much more
difficult to manage. Liquidity can become an
Issue, especially if you are trading with size.
Potential gains and losses are smaller.
Potential gains and losses are larger.
Different Classes of Options
Option contracts come in multiple time frames. There are weeklies, monthlies,
yearlies, LEAPS… we’re focusing on weeklies and monthlies.
Monthly options expire on the third Friday of each month at the day’s trading
close of 4pm.
• Example: An October Call of Bank of America expires on the third Friday
in October (the 19th). The last chance to trade it is before the close on that
Friday. Weekly options open up for trading at the open on Thursday and expire at
market close on the following Friday, which means they only have a lifespan of
seven days. They do not have weekly options for the week where the monthly options expire.
• Continuing the above example, weekly options issued on October the 4th
expire on Friday the 12th. However, there are no weekly options issued on
October 11th because those options would expire on the third week of the
month– the same week when the monthly options expire.
Because they expire more quickly, weekly options are more volatile and more
difficult to trade.
Always know the expiration date of your option before you trade it!
Breakdown/Breakout Trades for Weekly Options
Long Calls on Breakouts
Determine the breakout level and analyze the strike prices at that level.
Depending on your risk appetite you can either select the strike price that
is one strike price out of the money from the current breakout price or, if
you have less of risk appetite, select the Call that is one strike price into the
money.
Long Puts on Breakdowns
Essentially the same process for going long a Call, except applied to Puts.
Determine the breakdown level and analyze the strike prices at that level.
Depending on your risk appetite you can either select the strike price that is
one strike price out of the money from the current breakout price or, if you
have less of risk appetite, select the Put that is one strike price into the money.
Long Calls on Support
If you don’t understand the behavior of your stock, if you have bad timing,
or if you have don’t have a good read on the market environment, support
trading is very dangerous.​ ALWAYS​ stay one strike price in the money.
Longing Puts on Resistance
AGAIN​, if you don’t understand the behavior of your stock, if you have bad
timing, or if you have don’t have a good read on the market environment,
resistance trading is very dangerous. ​ALWAYS​ stay one strike price in the
money.
Consolidation Trades for Weekly Options
There are multiple ways to play this​ “chop zone”​ or consolidation area. The
price levels around $690 represent resistance and areas around $635 represent
support. When the price approaches $635 we would long the $630 Calls as is
this is the support level. As the price approaches $690 we would long the $700 Puts in expectation
that resistance will hold and the price will go back down. The aim is to catch the stock as it bounces off of
support or resistance and take advantage via the options.
This is an example of a daily strategy. This strategy can be employed on
shorter time frames but the spread can become quite difficult to manage.
Real Trade Example: Long PCLN Puts
BKNG Breakdown
Long​ BKNG ​Puts​ with $60,000
BKNG ​Put Profit​: $30,000
Vs.
Short​ BKNG ​Equity​ with $60,000
BKNG ​Equity Profit​: $1,000 - $2,000
Real Trade Example: Long WYNN Calls
WYNN Breakout
Long​ WYNN ​Calls​ with $30,000
WYNN ​Call Profit​: $15,000
Vs.
Long ​WYNN ​Equity​ with $30,000
WYNN​ Equity Profit​: $1,000
Real Trade Example: Long GS Calls
GS
Breakout
Long ​GS​ Calls​ with $150,000
GS ​Call Profit​: $90,000
Vs.
Long​ GS​ Equity​ with $150,000
GS​ Equity Profit:​ $5,000
Real Trade Example: Long AAPL Puts
AAPL
Breakdown
Long​ AAPL​ Puts​ with $60,000
AAPL ​Put Profit​: $60,000
Vs.
Short ​AAPL​ Equity​ with $60,000
AAPL​ Equity Profit​: $1,000 - $2,000
Trading Platforms
Execution
Many retail platforms force you to click at least 4 times before you can execute
a trade.​ THESE ARE BAD​ for our purposes. Good execution platforms are ones that allow you to set up
hotkeys and click a single button to get into a trade. ​THESE ARE GOOD​ for our purposes.
The difference can be 5-10 seconds, which can easily mean 1000’s of dollars when trading options.
Latency
• Latency is the time between you placing the trade and it actually being
filled by your broker.
• Platforms have different latencies for execution.
• Many retails platforms are visually appealing but are high latency, meaning
if you throw a market order it may go through 3 different brokers. They are
not made for traders trying to rapidly enter and exit stocks; they are made
for investors.
•Example: ThinkOrSwim — (High Latency, poor execution). The actual ticks
in the time and sales may be as much as 1 second off from a low latency
platform. This may be okay for swing traders and investors, but it is not
okay for active traders.
Visuals
Due to technological limitations, there is an inverse correlation between low latency and high-quality
visuals. Typically, when you have a fancy platform, your execution is going to suck. The reverse is also
true. This is why many traders use multiple platforms, i.e. using ThinkOrSwim charts while using a
low-latency platform to execute. There is nothing wrong with using charts from a platform with great
visuals (Fidelity, ThinkOrSwim) and using a different platform with execution capabilities better suited to
scalping or day trading to actually put on your trades.
Retail Platforms
Platforms
Direct Market Access
Generally high-quality visuals,more technical indicators,
Slower data feeds, non-customizable routes.
DMA-Fast execution,low latency
Data feeds, customizable routes
Better fills, better speed of tape.
-LiveVol
-GenXs
-Das Trader
-ThinkOrSwim
-Schwab
-Fidelity
Hot Keys
Hot keys​ are mostly used by proprietary traders to reduce the number of keystrokes and clicks required in
order to place a trade. They allow you to press a single key to execute orders that would typically take
multiple keystrokes and mouse clicks. ​For scalpers, hot keys are essential.
Trading Psychology
Market: Headline Risk
A trader has to exercise constant awareness of the major economic headlines that move the markets.
• Watching the economic reports themselves is not as important as
monitoring the perception of those numbers and the reactions in the
Markets.
•Example: GDP numbers came in better than expected; however, the
market had already priced in that number, and as a result the indexes sold
off. This is an example of “buying on the rumor, selling on the news.”
Paying attention to every bit of economic data or news report is not
advantageous to any trading strategy.
• Bullish/bearish sentiment.
• A trader needs to “feel,” not just see, the underlying sentiment in the
market and indexes.
•Example: In a bull market, most negative economic reports are thrown
aside and any dips in the market are bought up very quickly. This is a trend
that you need to follow, and through continuous practice you will begin
to see these patterns and literally feel connected to the sentiment in the
market.
Market: Anticipation
When you are trading large caps, the largest moves and the largest
opportunities are when you have a broad market move.
• Unfortunately the “smart money” does their best to mask what direction
that move will be in.
• You need to be able to anticipate by watching reactions to headline risk
and by watching the sentiment in different sectors.
• You have to understand the manipulation. Think to yourself: If someone
were trying to manipulate you into a trade, how would they be doing it?
Does the trade you’re about to go into look like it is this kind of setup?
• Example: Markets overextend themselves off of a news report, and that
overextension is a form of manipulation.
The LEAST expected move is the one that yields the most profit because no
one has priced this move in on the options. That means that those options are
extremely cheap.
Market: Earnings
Trading around earnings is typically considered ​RISKY​ due to the simple fact
that investors could react negatively to a positive earnings report, and vice
versa. The reactions to earnings are very difficult to predict.
• Example: Apple blows out earnings but the stock is down 10% because
they didn’t beat analyst expectations as much as some people thought they
Would.
• Market sentiment has to be factored into trading around earnings as well.
If current sentiment is bearish it will hold back or otherwise obscure the
move of an earnings beat.
• Unless there is a very significant reason to act otherwise, we stay away
from trading around earnings. There are successful ways to trade earnings but they require a lot of
research in regards to reactions to earnings in previous quarters.
• Using complex options strategies like spreads, strangles, and butterflies,
you can minimize that added risk when you are playing earnings.
Personal: Challenging Your Fears
Trading is a mental endeavor!
90% of the game is mental. Once you understand how to make money, its all a game with yourself.The
fear that negatively affects a trader’s performance comes from a variety of different sources.
• Fearful of the sacrifice needed to make to make it work.
• Sacrificing time with family and friends.
• Opportunity costs.
• Fear of taking the plunge into something that’s not guaranteed.
• Fear of failure.
• Fear of what people will say.
• Fearful of your own success.
• You have to believe that you have earned the success that comes with a
good trade, when that happens. If you don’t believe that you’ve rightfully
earned money that you make, it can create disastrous mental consequences
when you actually do turn a profit. One of the greater myths in trading is that you must remove emotion in
order to be a good trader. That’s not possible. Instead, you have to learn to be aware of your own
emotions and use them as another source of information that steers and informs your decisions. Your
emotions are another data feed that you can use to factor into your decision-making process.
Personal: Taking Losses
Losses are a cost of doing business.
Trading markets is not about being right or wrong; its about taking a position with the information that you
have in front of you and accepting the outcome of that position no matter how it goes. You have to put in
the work so that you have conviction in your decisions and confidence in yourself. If the position turns
against you and you lose money, you have to know that your original thesis had strength to it, and
although it didn’t turn out in your favor, your mental process was not necessarily wrong. Starting out
small is a​ GOOD​ thing because it allows you to steadily and safelyvincrease your pain threshold. Do not
be too quick to increase the size of your trading account just because you want to stroke your ego.
• Taking a $1,000 loss now might seem world-wrecking, but in 3 years it will
be happening daily and you won’t think twice about it, ​assuming a larger
account size.
Personal: Managing Winners
Win or lose, a trade is just a trade.
A win often motivates you to take bigger risks, get cocky, or do things you wouldn’t normally do. Always
remember that the next trade has nothing to do with the outcome of the previous one.
• Trades are not mutually exclusive—they exist independently of one another. Mentally speaking, the next
trade has nothing to do with the previous one! Working toward control of your emotional state after both a
win or a loss is essential.
• If you accept the outcome of your bet before you put the trade on, then the outcome should not affect
your mental state.
• When you put on a trade and tell yourself that you have a specific stop…
MAKE SURE YOU STICK TO IT!​ This discipline separates average traders from good traders, and good
traders from great traders.
• If you’re thinking about the victory before the trade is over, you’re in bad territory.
Personal: Value of Not Trading
Whatever your trading strategy is, its not going to work all the time and in all
market environments. That’s just the nature of the market.
You will eventually be wrong. You need to be able to recognize when your particular strategy is yielding
profits vs. not making any money. That’s when your mind takes over. You start pushing things that aren’t
working and taking bigger positions sizes because you are playing your emotions. You think just because
you are sitting in a chair in front of your screens you are obligated to trade. Ironically, your identity as a
trader tricks you into trading when you shouldn’t. This can lead to another onslaught of debilitating
emotions, which will lead to even more mistakes. Stepping away and not putting capital at risk is often the
strongest part of a strategy.
Cash is a position!
Personal: Building Your Own Trading Style and Identity
There is no one strategy that fits all.
Of the millions of strategies out there, there is no one strategy that fits every person. Part of your
evolution as a trader is to identify and practice the strategy that resonates with who you are as a person.
Your personality defines your trading strategy, your goals and what you want out of your trading career.
• A strategy has to be adapted to develop your unique style.
•Example: You are not comfortable taking overnight positions while
someone else might be more than eager to take a gamble overnight. That
could be because he works the night shift and can watch the markets from
his toll booth. That might mean that you gravitate toward scalping while
the other guy chooses swing trading. Its important to stake out your identity—that’s why good traders are
often headstrong people.
• A trader cannot successfully use several different trading strategies…its
too much for the mind to manage.
Why Do We Trade?
After you’ve traded for long enough, you’ll realize that trading has to be about more than money, and we
traders do it for reasons beyond getting rich.Its about mastering ourselves.
“In mastering risk and uncertainty; in learning to pursue opportunity in effortful
ways; in making ourselves better as decision makers; in becoming more disciplined
actors; we improve ourselves as human beings. That carries over to many areas of
life, so that we can become better business partners, spouses, parents, and friends.
Indeed, this might be the most important distinction between trading well and
trading poorly: When we trade well, we make ourselves stronger, better; we tap
into the best within us. When we trade poorly, we succumb to our lowest common
denominators.
The value of trading is the value of any competitive performance activity: in its
mastery, we become just a bit closer to our ideals--and that ripples throughout our
lives.”
-Unknown Trader