Where to write calls? Fri Jun 10

After hanging on for a few days, wondering whether the market would pull out of its nosedive, there's some welcome relief as the index has rallied a considered 34 points after 37 minutes. The US rose a similar amount after a late sell off reduced the previous gains of around 1%. There's arguably more reason to buy the Australian market with the rate situation having eased and on recent form even a continuation of the trend channel would imply further gains of 60 to 90 points.

IPL has had a nice bounce today as fertiliser stocks respond to rising food prices. I bought a few stock yesterday most of which I sold out on the open at 383. My Jun 400 calls are alive again too with 8 trading days to go after today(holiday on Monday).

I have a new long position in OSH. Like most stocks, it has been grinding down, but it is above the March lows and the last 5 or 6 days have seen a marked reluctance to sell it down further. Long at 670, I had to chase it and I'm hoping for a pullback to buy a couple more.

The conundrum today is where to write calls against a position as part of my longer term buy write book. So far, WBC has been going well, got long on Tuesday at 2138 with the intention of writing calls on a rally. The conservative target is just below the recent swing high at 2228. The stock is at 2198 so it's pretty close.

My solution is to just keep a tight watch. I think I can give it room because the odds are good that the overall market will firm in the short term. The 60 minute chart is showing an acceleration away from the base around 2120 and I'm hoping that a reasonable level for selling calls against the position might turn out to be 2280, the next swing high.

11.33 The market is quite edgy and just accelerated down on a modest opening in the HSI. The rise was pared to 14 points. I expect the index to hold gains today but the public holiday on Monday may mean that serious buying is shelved until we return.

12.52 The Asx 200 is hovering around the same levels as Asian markets throw a bucket of cold water on our early optimism. The Kospi is down on a rate rise and Chinese markets on fears of an imminent rate rise. It should be largely irrelevant to us if we assume that the Chinese authorities are successfully slowing down their economy without crunching it. The key driver is generally interest rates as shown by US equity market performance relative to ours over the last year despite the better economy and better value on offer here.

1.05 Chinese trade figures are out but don't seem to be market moving, the issue is commentary about overheated property prices.

1.48 The 30 minute XJO chart looks promising with the market having held above the last couple of swings and started to recover. No acceleration though.

2.35 Fortescue is lagging behind AGO, which has a pretty similar chart. They're both top picks in the iron ore sector but the issue with FMG is that one of the early investors is said to be offering an 8% stake in the company.

Meanwhile, the gains are nearly all gone with the index up just 5 points.

2.47 It's typical of a bearish market that any negative news is seized upon so we're reacting to drops in Hong Kong and ignoring good news from Europe and the US. With respect to a down trend that has been in place for just about 2 months, I think the bears may have got it wrong today. I'm seeing more and more commentary on TV and the news wires about the change in tone from the RBA. Given that rates are a major factor in market performance and valuation is undemanding, the risks are in being short (or underweight). On top of which, we have an inflection point today with the break of yesterday's high. So unless the index falls back below 4520, short term direction should be higher.

.4.14 Looking forward to the weekend, it's been a slow, old week. The index held on and closed up 12 to 4562.

Not long now. Thu Jun 9

35 minutes till the May jobs numbers come out. Last month surprised to the downside and forecasts are for a recovery after the flood effect rolls through but with the gloom in the non-mining sector of the economy, the level of confidence in those predictions is low.

The first hour has seen the market recover from early weakness, down nearly 20, to be square or off a few points. The US market was not hit hard but commodity stocks were. Apparently, Interactive Brokers reduced the leverage they offer on Chinese stocks, so perhaps the commodity complex was caught up in that sell off. Commodities themselves were not hard hit, oil was up and base metals, gold were down a bit.

Best news for me is that LNC is up and running again. Back to 320 on a growing sense that the stock has an interesting story, I feel. There's an announcement about drilling for oil in the onshore Ackaringa field in South Australia where they are also looking to scope out coal reserves. There's also talk about more debt funded US oil acquisitions. Here's the chart. A wild ride but clearing away from previous resistance around 300.

11.24 Whisper it... the market is up, 11 points and rising as 11.30 approaches. A good start for my positions in FMG and OST too.

11.34 Growth in jobs but less than expected and part time gains offset by full time losses. It doesn't seem too surprising given the lack of faith in the predictions. The market wobbled and is just up a point now.

It's another piece of supporting data to the no rate rise view and I think it's supportive for the market because the economic slowdown is built in to prices but the fear of RBA overreaction was worrying people.

12.59 The market is holding on to 10 points gain. LNC is also holding at 320 and I think there's a chance of further gains this afternoon. This time I plan to sell a bigger portion of my holding.

1.45 The index is setting up for the obligatory failure to launch. Here's the 30 minute chart, hopeful a-b-c rally but then off a cliff.

 

2.45 Maybe this time it's different! The market pulled out of the incipient nosedive and a rally from here would imply a 3rd wave in the short term, below. It would also be the case that the index had failed to break the previous day's low for the first time since this swing began. Small mercies.

4.13 It's neither here nor there at the closing match with the market finishing up 13 at 4550. Out of some LNC at 319.

Flat is the new up? Wed Jun 8

A flat night in the US after Bernanke tipped a bucket of cold water over a QE3 rally by ruling it out. Personally, I think it could be perversely bullish because QE3 expectations were just building in an overhanging of selling and a continuation of a crisis mentality. The Aussie market is up 7 after 29 minutes and needs to trade through 4577 – another few points away – to break the high of the last 2 days. Yesterday saw an afternoon rally as the RBA failed to raise rates. Nobody was predicting it, yet everyone was scared of another rise which shows the growing disconnect between private sector economists and the RBA. The significant thing was a toning down of the hawkish rhetoric and if it's the end of, or an extended pause in, the tightening cycle, it bodes well for our market and could be the circuit breaker.

Let's see if the Asx 200 chart will load...

I threw up my hands over the last couple of days and let a couple of stops go by without doing anything. That's worked so far in FMG and SPL. FMG traded through the last swing low on an intraday basis but has recovered and bounced back to 639 on upgrades and general strength in resources. With FMG, it wasn't really a stop, just the level at which I might short stock against calls...it hardly seemed worth it.

With SPL, I simply took note of the huge reversal in MSB (a biotech biggie) and figured that I should have a wider stop. Bought a couple more this morning at 147 and the stock is back up at 150; still below my entry price of 153.5 but well ahead of the intraday low yesterday.

11.03 I was quietly bullish today but the early promise has faded and the market is now down 16.

12.26 More of the same....down 46 points at 4520. The news wires suggest it's offshore selling.

1.04 The chart of the Asx 200 is grinding down but I'm wondering whether there'll be a rally back towards square this afternoon. The last two days have seen a rejection of intraday lows and closes back towards the high of the day's range. There's a turning point back in early January which illustrates the kind of pattern I'm thinking about. (to the far left of the chart). Admittedly, that was in a healthier overall market.

1.59 There's some improvement but not a bungee jump rebound.

I bought a few OST the other day at 190. Fortunately not many and I was using the swing low as the stop since there was a gap through the tight stop. I've bought more at 181 today – with the same 173 stop. I'm hoping for a turnaround but watching for a simple a-b-c rally, maybe a move back to 188-192 and a failure. I'd definitely sell out half in that range and tighten up the stop for the rest.

3.50 The index recovered to a loss of 18 but has slipped away again. Yesterday's change in tone from the RBA was quite significant. If the pressure is off rates, then house prices should stabilise with high employment and a rental shortage, so the pressure should also lift from the banks. I've bought some ANZ and WBC over the last couple of days on that idea of the rejection of the lows. WBC is a more obvious reversal but ANZ is finding support too.

These trades are for my buy write strategy and I'm looking for a rally before selling calls. Here's ANZ.

WBC is already pulling away from Monday's low and I'm looking for a move to the recent swing high at 2228 before writing calls.

4.15 Down 29.5 at 4537. I've learnt how to highlight areas so note the ellipse to the left of the XJO chart. We haven't really got that sort of thing happening today but we have built in an overnight fall. The US charts are pretty weak but are near the bottom of longer term trend channels, so a rally is possible.

Status quo. Tue Jun 7

As in the Status Quo line "Down, down, deeper and down". 27 points lower after 21 minutes and although it's not panic stations, the relentlessness is a bit much. The daily chart of the index shows that it's only 4 days but it seems longer.

....there seems to have been another software update and I'm having trouble posting any charts today. May have to wait till tomorrow.

Not that bad. Mon Jun 6

48 minutes gone and the index is down 21 points. Given the US jobs number came in well below the already reduced estimates, the performance both there and here has been ok. This is what the XJO chart now looks like.

On recent form, it's where the market rebounds but I had a scan through my stocks and there are no standouts. So, it's watch and wait again.

11.35 LNC is about to resume trading after a day or more of suspension pending an announcement. It's a development of their recent strategy to buy producing oil fields in the US. They hope to increase production from these existing fields with CO2 flooding – something they appear to have expertise in – and they also hope to increase production life of the fields.

With their royalty agreement from Adani which will come on stream in a few years and now with this strategic development, they hope to become more than just asset traders with a long term gas to liquids venture.

11.45 Early signs are good with LNC, the stock is up 7 at 312 despite having been closed during a market fall.

11.52 That was short lived! Back to square. I suppose there's a good chance of a sell off now. It's interesting though, it's clearly a very resourceful company (and not just literally). The management team is very keen to get strong cash flow and ultimately you get a vehicle which is priced on earnings with potential upside surprise from asset sales and GTL coming good. The downside is that the company tends to promise more than it can deliver and there's still some scepticism around.

2.11 The Asx 200 had a rally and slipped again, so once more, down 21.

I've been planning to do some slightly longer term trading with options written against the positions. Legging in to buy/writes, basically, with a few extra short puts from time to time. With that in mind, I'm looking at more long term charts and keeping a closer eye on research.

For example, BHP made a break on the weekly chart last week but failed and is back at new, recent, lows. I'm contemplating buying some BHP because the stock is towards the bottom of an 8 month trading range with a significant previous swing high at 4165. I'm wondering whether it's too premature to buy on a fairly aggressive daily chart signal if there is no equivalent break on the weekly. Like all of these things, there is no correct answer. So, here's the BHP weekly chart.

The daily shows the recent false start and today's new low. I usually find that to be a plausible set up and I need a break of today's high to trigger a short term buy. My hope would be to pick up a dollar, dollar fifty on a 4 or 5 day rally and then write some calls. Let's say, I bought stock tomorrow at 4330 and the stock rallied to 4450 over a few days. My goal would then be to write some 4450 or 4500 calls.The June calls would be 55 to 75 based on today's values with a few days of time decay thrown in. Here's the daily.

If the trade continued to prosper, ie the stock kept rallying, then that's fine, it's roughly a 5% return in a touch under 3 weeks which is not necessarily better than I would normally do but it would be easier to use a larger sum of money and the options provide a level of downside cover. If the stock runs far enough then it's also quite possible to take off the trade early and only lose a fraction of a percent. It can also be a 5% return with the stock only moving 3% – in the situation where the stock firms but doesn't rally hard.

What if I buy a short term peak? Well, my stop would need to be tighter than that 4165 low, so I might use the March spike low at 4220. Alternatively, I could use the low of today's bar given that I'm imagining 1 bar ahead. My initial thought is that I'd prefer to use the wider stop since I don't want to be too knee jerk with the trade. That gives a scenario where I buy at, say, 4330 and stop out at 4220. That's a 2.5 to 3% loss assuming I don't manage to sell any calls.

In what situation would I sell calls early and yet not just stop out? I'm not sure, actually. It might be if there's a break of the first potential stop, eg today's low. In this situation, I might decide that I can try to buy myself some time. Another scenario might see the stock just hovering around my entry level. If that was 4330, I might decide to sell 4350 calls at 60ish if I was confident enough that the stock had based. My idea might be to pick up a couple of percent and be ready to try again in July or even buy back the short June calls at an opportune moment.

When would I add some short puts into the mix? Perhaps, if the first part had gone well and I'd written some calls only for the stock to drift back. If I subsequently thought a higher low was in place, I'd think about selling half the number of puts to pick up some extra premium with a fair amount of protection already in place from the existing short calls.

More scenarios will occur in practice and I have done some of this sort of trading before. The value of research is also higher relative to my usual short term frame. For example, although the picture regarding commodity demand is quite clouded, forward P/E ratios are undemanding and brokers have already downgraded future commodity price assumptions.

3.17 With regard to the strategy above, I'm keen to deal in shorter term options because it's still going to be swing trading and I'm happy to have the exercise of calls take me out of a long position. I've found in the past that I can be holding a stock position against short calls when I no longer have much hope of capital gain on the stock. Therefore, I'm better off to be out fairly quickly and looking for the next opportunity.

3.38 I'm going to focus on the larger stocks because they have the most liquid option markets and the spreads are smaller in percentage term as the stock price gets bigger. It looks like the reduction in shares per contract might have helped with liquidity. For example, if I buy 2300 BHP at 4330 ($99,590), I can sell 23 calls which means it's a more precise hedge than previously where you'd have the choice of 2 or 3.

3.44 Back to the present...FMG is down at 636 and the options are worth 11 now. I missed a trick by not hedging some last week. I'm only really concerned about the 620 low so it has become a bit of an all or none trade.

LNC has had a few wobbles but is holding 300, while SPL is a stop but I haven't done anything yet because I'm unconvinced by the action and volume and it's holding above the previous range. IPL is up a cent.

4.11 Another mildly disappointing day as I hold on to a few longs, waiting for a turning point at the bottom of the trend channel. Reminds me of that disclaimer, something like....Past performance is no guarantee of future results. The Asx 200 finished down 14 at 4569.