Q: Counterparty risk on put options?

[stockstradr]

My experience with trading options has been FAR more profitable (nice multi-X gains on small at-risk $ amounts)

So, here is a question for YOU: why do you think my typical net profit is 50% to say 90%, while you’re claimed profit is multiple X initial investment?

ANSWER: either you have inside information (making certain profit on illegal trades) OR you are playing SUCKER BETS, which is the sign of someone quite new to strategic investing with options and who is choosing poorly in terms of RISK/REWARD ratios.

Seasoned pro’s use options analysis spreadsheets to run RISK/REWARDS simulations to predict options response to a inputed (hypothetical) anticipated market move, so they can identify optimal choices to reduce risk while maintaining a reasonable reward.

You see, back in Oct ’07 at the peak of the market, I could have easily purchased puts at strike prices that would have now returned me 5X or 10X…so WHY didn’t I?

If you really don’t know the answer to that question, then may I suggest you read this book and other similar books:

Options as a Strategic Investment by Lawrence G. McMillan

As for your original question, just look at the typical daily VOLUME of the options you are buying. Don’t buy options that are too thinly traded, and don’t worry about such questions when you do buy options that have sufficient daily trading volume (to ensure an efficient market for unloading them when needed)

[jficquette]

I wouldn’t worry about it. Here is some info on it.

http://www.istockanalyst.com/article/viewarticle+articleid_2611522.html

[jficquette]

I wouldn’t worry about it. Here is some info on it.

http://www.istockanalyst.com/article/viewarticle+articleid_2611522.html

[jficquette]

I wouldn’t worry about it. Here is some info on it.

http://www.istockanalyst.com/article/viewarticle+articleid_2611522.html

[jficquette]

I wouldn’t worry about it. Here is some info on it.

http://www.istockanalyst.com/article/viewarticle+articleid_2611522.html

[jficquette]

I wouldn’t worry about it. Here is some info on it.

http://www.istockanalyst.com/article/viewarticle+articleid_2611522.html

[vegasrenter]

Thanks for your reply.

To clarify, the multi-X refers to individual trades, not total return. And of course I’ve had some options expire worthless along the way.

The bid/ask spreads and volume are fine on my positions, so should be OK there.

Will get one of option books on Amazon & then see if I can make sense of what you wrote.

[vegasrenter]

Thanks for your reply.

To clarify, the multi-X refers to individual trades, not total return. And of course I’ve had some options expire worthless along the way.

The bid/ask spreads and volume are fine on my positions, so should be OK there.

Will get one of option books on Amazon & then see if I can make sense of what you wrote.

[vegasrenter]

Thanks for your reply.

To clarify, the multi-X refers to individual trades, not total return. And of course I’ve had some options expire worthless along the way.

The bid/ask spreads and volume are fine on my positions, so should be OK there.

Will get one of option books on Amazon & then see if I can make sense of what you wrote.

[vegasrenter]

Thanks for your reply.

To clarify, the multi-X refers to individual trades, not total return. And of course I’ve had some options expire worthless along the way.

The bid/ask spreads and volume are fine on my positions, so should be OK there.

Will get one of option books on Amazon & then see if I can make sense of what you wrote.

[vegasrenter]

Thanks for your reply.

To clarify, the multi-X refers to individual trades, not total return. And of course I’ve had some options expire worthless along the way.

The bid/ask spreads and volume are fine on my positions, so should be OK there.

Will get one of option books on Amazon & then see if I can make sense of what you wrote.

[stockstradr]

I’m a total amateur at selecting options, so my methods are probably worthless, but here is what I do…

First, I don’t even think about options unless there is out-of-normal (variation) market fluctuation that I am VERY CERTAIN is coming, AND others haven’t priced that in yet. For example, the S&P500 is peaking at 1500, yet the housing market is collapsing, so I expect the stock market will fall dramatically.

Then…
1) I write down my hypothesis, such as, “The S&P500 will fall at least 10% in the next twelve months”
2) I look up the prices of options with expiration dates far beyond the time frame within which I think the market event will occur. (In anticipating market events, we are often biased to expect they will happen MUCH SOONER than they actually happen – we are biased by our wishful thinking! Just ask Rich and I when we originally guessed the home builder stocks would collapse!)
3) I pull down all the current pricing of a type of option, across a wide band of strike prices, and dump them into my Excel spreadsheet. Often there may be 100 rows of various options (for example, all PUTS on the S&P500 that expire 12 to 36 months out.)
4) Using steps in my hypothesis (Market drops 10%, 15% and 20%), the columns in the spreadsheet calculate: A) % return on investment; B) % market drop required to reach break-even on purchase of a particular option; C) actual net profit on one contract

Using that data, my spreadsheet plots curves of % ROI as a function of strike price, plotting separate curves for each step of my hypotheses (For example, -10%, -15%, -20% market move of S&P500)

I also plot break even point (expressed as the min % of market move required to reach break even on a particular option) against strike price.

The curves are most important: I chose options by looking over those curves. Understand, each chart with curves is for options with the same exp date, but I may create several similar charts to compare curves for different expiration dates.

I usually end up buying the options that break even after a very small fraction (as little as 3% to 5%) of my anticipated market move…and also are close to the MAXIMA of my lower %ROI curve, plotted for the conservative value of the correction (in this case 10%) that I expect.

Of course, this kind of analysis will typically steer you away from those dirt cheap out-of-the-money options…to options that inevitably have much higher nominal prices because they are in or near to in the money. I’ll typically buy options that might be $5, $10, or more each. So you’re talking maybe $5,000 for 10 contracts. So this is a safer way but requires larger amounts of money, compared to gambling say $500 on $0.50 out-of-the money options.

You see the reason I don’t chose the $0.50 options that maybe maximize the ROI for a much larger market perturbation (such as a 20% fall in the S&P500) is that the break even point on those options will require a market perturbation that is much less likely (such as a 10% or even 20% move in the underlying security)

People think options are risky, and yes they are. But consider that I bought PUTS on the S&P500 back in Oct ’07 when the S&P500 was over 1500….and yet those options had a break even that only required a ~3% drop in the S&P500!

Were those particular options THAT risky, given market and the unfolding economic conditions? I don’t think so. That’s why I spent 7% of my entire portfolio buying them.

[stockstradr]

I’m a total amateur at selecting options, so my methods are probably worthless, but here is what I do…

First, I don’t even think about options unless there is out-of-normal (variation) market fluctuation that I am VERY CERTAIN is coming, AND others haven’t priced that in yet. For example, the S&P500 is peaking at 1500, yet the housing market is collapsing, so I expect the stock market will fall dramatically.

Then…
1) I write down my hypothesis, such as, “The S&P500 will fall at least 10% in the next twelve months”
2) I look up the prices of options with expiration dates far beyond the time frame within which I think the market event will occur. (In anticipating market events, we are often biased to expect they will happen MUCH SOONER than they actually happen – we are biased by our wishful thinking! Just ask Rich and I when we originally guessed the home builder stocks would collapse!)
3) I pull down all the current pricing of a type of option, across a wide band of strike prices, and dump them into my Excel spreadsheet. Often there may be 100 rows of various options (for example, all PUTS on the S&P500 that expire 12 to 36 months out.)
4) Using steps in my hypothesis (Market drops 10%, 15% and 20%), the columns in the spreadsheet calculate: A) % return on investment; B) % market drop required to reach break-even on purchase of a particular option; C) actual net profit on one contract

Using that data, my spreadsheet plots curves of % ROI as a function of strike price, plotting separate curves for each step of my hypotheses (For example, -10%, -15%, -20% market move of S&P500)

I also plot break even point (expressed as the min % of market move required to reach break even on a particular option) against strike price.

The curves are most important: I chose options by looking over those curves. Understand, each chart with curves is for options with the same exp date, but I may create several similar charts to compare curves for different expiration dates.

I usually end up buying the options that break even after a very small fraction (as little as 3% to 5%) of my anticipated market move…and also are close to the MAXIMA of my lower %ROI curve, plotted for the conservative value of the correction (in this case 10%) that I expect.

Of course, this kind of analysis will typically steer you away from those dirt cheap out-of-the-money options…to options that inevitably have much higher nominal prices because they are in or near to in the money. I’ll typically buy options that might be $5, $10, or more each. So you’re talking maybe $5,000 for 10 contracts. So this is a safer way but requires larger amounts of money, compared to gambling say $500 on $0.50 out-of-the money options.

You see the reason I don’t chose the $0.50 options that maybe maximize the ROI for a much larger market perturbation (such as a 20% fall in the S&P500) is that the break even point on those options will require a market perturbation that is much less likely (such as a 10% or even 20% move in the underlying security)

People think options are risky, and yes they are. But consider that I bought PUTS on the S&P500 back in Oct ’07 when the S&P500 was over 1500….and yet those options had a break even that only required a ~3% drop in the S&P500!

Were those particular options THAT risky, given market and the unfolding economic conditions? I don’t think so. That’s why I spent 7% of my entire portfolio buying them.

[stockstradr]

I’m a total amateur at selecting options, so my methods are probably worthless, but here is what I do…

First, I don’t even think about options unless there is out-of-normal (variation) market fluctuation that I am VERY CERTAIN is coming, AND others haven’t priced that in yet. For example, the S&P500 is peaking at 1500, yet the housing market is collapsing, so I expect the stock market will fall dramatically.

Then…
1) I write down my hypothesis, such as, “The S&P500 will fall at least 10% in the next twelve months”
2) I look up the prices of options with expiration dates far beyond the time frame within which I think the market event will occur. (In anticipating market events, we are often biased to expect they will happen MUCH SOONER than they actually happen – we are biased by our wishful thinking! Just ask Rich and I when we originally guessed the home builder stocks would collapse!)
3) I pull down all the current pricing of a type of option, across a wide band of strike prices, and dump them into my Excel spreadsheet. Often there may be 100 rows of various options (for example, all PUTS on the S&P500 that expire 12 to 36 months out.)
4) Using steps in my hypothesis (Market drops 10%, 15% and 20%), the columns in the spreadsheet calculate: A) % return on investment; B) % market drop required to reach break-even on purchase of a particular option; C) actual net profit on one contract

Using that data, my spreadsheet plots curves of % ROI as a function of strike price, plotting separate curves for each step of my hypotheses (For example, -10%, -15%, -20% market move of S&P500)

I also plot break even point (expressed as the min % of market move required to reach break even on a particular option) against strike price.

The curves are most important: I chose options by looking over those curves. Understand, each chart with curves is for options with the same exp date, but I may create several similar charts to compare curves for different expiration dates.

I usually end up buying the options that break even after a very small fraction (as little as 3% to 5%) of my anticipated market move…and also are close to the MAXIMA of my lower %ROI curve, plotted for the conservative value of the correction (in this case 10%) that I expect.

Of course, this kind of analysis will typically steer you away from those dirt cheap out-of-the-money options…to options that inevitably have much higher nominal prices because they are in or near to in the money. I’ll typically buy options that might be $5, $10, or more each. So you’re talking maybe $5,000 for 10 contracts. So this is a safer way but requires larger amounts of money, compared to gambling say $500 on $0.50 out-of-the money options.

You see the reason I don’t chose the $0.50 options that maybe maximize the ROI for a much larger market perturbation (such as a 20% fall in the S&P500) is that the break even point on those options will require a market perturbation that is much less likely (such as a 10% or even 20% move in the underlying security)

People think options are risky, and yes they are. But consider that I bought PUTS on the S&P500 back in Oct ’07 when the S&P500 was over 1500….and yet those options had a break even that only required a ~3% drop in the S&P500!

Were those particular options THAT risky, given market and the unfolding economic conditions? I don’t think so. That’s why I spent 7% of my entire portfolio buying them.

[stockstradr]

I’m a total amateur at selecting options, so my methods are probably worthless, but here is what I do…

First, I don’t even think about options unless there is out-of-normal (variation) market fluctuation that I am VERY CERTAIN is coming, AND others haven’t priced that in yet. For example, the S&P500 is peaking at 1500, yet the housing market is collapsing, so I expect the stock market will fall dramatically.

Then…
1) I write down my hypothesis, such as, “The S&P500 will fall at least 10% in the next twelve months”
2) I look up the prices of options with expiration dates far beyond the time frame within which I think the market event will occur. (In anticipating market events, we are often biased to expect they will happen MUCH SOONER than they actually happen – we are biased by our wishful thinking! Just ask Rich and I when we originally guessed the home builder stocks would collapse!)
3) I pull down all the current pricing of a type of option, across a wide band of strike prices, and dump them into my Excel spreadsheet. Often there may be 100 rows of various options (for example, all PUTS on the S&P500 that expire 12 to 36 months out.)
4) Using steps in my hypothesis (Market drops 10%, 15% and 20%), the columns in the spreadsheet calculate: A) % return on investment; B) % market drop required to reach break-even on purchase of a particular option; C) actual net profit on one contract

Using that data, my spreadsheet plots curves of % ROI as a function of strike price, plotting separate curves for each step of my hypotheses (For example, -10%, -15%, -20% market move of S&P500)

I also plot break even point (expressed as the min % of market move required to reach break even on a particular option) against strike price.

The curves are most important: I chose options by looking over those curves. Understand, each chart with curves is for options with the same exp date, but I may create several similar charts to compare curves for different expiration dates.

I usually end up buying the options that break even after a very small fraction (as little as 3% to 5%) of my anticipated market move…and also are close to the MAXIMA of my lower %ROI curve, plotted for the conservative value of the correction (in this case 10%) that I expect.

Of course, this kind of analysis will typically steer you away from those dirt cheap out-of-the-money options…to options that inevitably have much higher nominal prices because they are in or near to in the money. I’ll typically buy options that might be $5, $10, or more each. So you’re talking maybe $5,000 for 10 contracts. So this is a safer way but requires larger amounts of money, compared to gambling say $500 on $0.50 out-of-the money options.

You see the reason I don’t chose the $0.50 options that maybe maximize the ROI for a much larger market perturbation (such as a 20% fall in the S&P500) is that the break even point on those options will require a market perturbation that is much less likely (such as a 10% or even 20% move in the underlying security)

People think options are risky, and yes they are. But consider that I bought PUTS on the S&P500 back in Oct ’07 when the S&P500 was over 1500….and yet those options had a break even that only required a ~3% drop in the S&P500!

Were those particular options THAT risky, given market and the unfolding economic conditions? I don’t think so. That’s why I spent 7% of my entire portfolio buying them.

[Author]

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