You are currently browsing the monthly archive for April 2009.

This trade was posted January 27, 2009.

Diagonal Spread Example:

Sell GGBBU            Feb 2009    7.5 Call            $0.35

Buy KDMAZ            Jan 2010   2.5 Call             $4.40

 

Net Cost                      $4.05(+Trading Costs)

 

Maximum Loss            $4.05(+Trading Costs)

 

GGB is trading for        $6.54 at the close on Tuesday 01/27/09

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GGB is now trading for $4.85 on Tuesday 03/17/09.

Sell GGBDA          April 2009     $5 Call          $0.40

The KDMAZ (Jan 2010 2.5 Call) is now trading for $2.65.

 

Net Cost                       $3.65(+Trading Costs)

 

Maximum Loss is now   $3.65(+Trading Costs)

 

If this option is exercised we will have a loss of $1.15 (+ Trading Costs) on this Trade Idea, if this option expires we will look at the next trade.  For this trade, we have had the worst scenario for a Diagonal Spread, which is the underlying stock (GBB) has declined dramatically (almost 26%).  If GGB stays below, but near, $5 we should be able to salvage this trade, provided it’s fall does not continue.

————————————————————————————————————————– GGB is now trading for $5.06 on Friday 03/20/09

 

Buy the GGBDA         April 2009        $5 Call                 $0.10

 

Maximum Loss is now     $3.75 (+Trading Costs)

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GGB is now trading for $6.88 at the close on Wednesday 04/22/09

 

Sell the GGBFU           June 2009         $7.50 Call            $0.45

 

Maximum Loss is now     $3.30 (+Trading Costs)

If this option is exercised we will have a gain of $1.70 ($7.50 Call sold exercise – $2.50 Call bought exercise – $4.40 Call cost + $0.35 Call sold expired + $0.40 Call sold – $0.10 Call bought back + $0.45 Call sold that was exercised).  This would produce a return of 42% ($1.70/$4.05) in 6 months not including trading costs.  Assuming $0.15/trade/per share (which is conservative), 4 trades = $0.60 trading costs, the return is $1.10 or 26% in 6 months.  We are still hoping that GGB does not trade above $7.50, yet and, we will be able to sell more options from now until January.

 

 

 

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The Bear Put Spread is set up by buying a Higher strike Put while simultaneously selling a LOWER strike Put, both with the SAME expiration date.  The Bear Put Spread is a Debit Spread, meaning you will pay a higher price for the Put that you purchase than the price of the Put that you sell.

In order to enter this position the investor will have some beliefs.

          1)  She believes that the underlying security will stay the same or go down.  Depending on the strikes chosen, the underlying security can go up a little and this position will still make money.  That is why this position has the word Bear in the name, it has a bearish bias.

          2)  The investor understands that IF the underlying stock moves counter to the postion, in this case, up, the position can lose 100% of the money invested.  The good thing about a vertical spread, however, is that the options WILL retain some value, up until, expiration.  This means that a 100% loss can be avoided. 

Lets look at an example:

Lets assume that GE (General Electric) fits the criteria.  GE is trading for $10.78 on March 27, 2009.  I would buy an April 2009 $12 Put, for $1.55, while selling an April 2009 $11 Put, for $0.90 .  Here is the Risk/Reward graph for this position.

 

Bear Put Spread - GE

The Maximum Loss is $0.65 (+ Trading Costs), and this will occur if GE is above $12 at the expiration, April 18, 2009.

The Maximum Gain is $0.35 ($1 difference in strikes -$0.65 premium paid) (- Trading Costs), and this will occur if GE is below $11 at the expiration, April 18, 2009.

If GE is between $11 and $12 at expiration, April 18, 2009, then the gain/loss will be -$0.65 (the cost of the spread) – the price of GE + $12 (the price that you can sell (put) GE).  Therefore the breakeven point for this position is $11.35 (-$0.65 – $11.35 + $12 = $0) (not including trading costs).

This trade would be entered when GE was trading for $10.78.  This means that if GE stays the same or goes down OR goes up $0.22 (2.0%) this position will still make the maximum gain.  GE has to go up to $11.35, a gain of $0.57(or 5.3%), for this position to start to lose money. 

This position cost us $0.65/share and has an upside potential profit of $0.35/share.  That would be a 54% gain in less than 1 month.  Which is an approximate 650% APR (Annual Percentage Rate).