What if GOOGL goes nowhere?!

Hello Traders,

I hope everybody is having as good a weekend as I am. I've been super busy during the work week, but I have still been able to get a few trades going in a couple of diversified strategies. I have been trading a mix of debit spreads, short puts, credit spreads and one trade that I will detail below, the Double Diagonal. I had honestly intended for this post to be more timely, but work is work, life is life. I'm in Guam, and I work during the day, so the market opens at 2300 and closes at 0600. Gotta get my beauty sleep.

Anyway, Here's the chart of GOOGL as of 20 March 2015, showing the upper and lower break even points for the Double Diagonal placed as described later in the article.

And here's how I put together the trade:

My April '15/May '15 615/635c525/505p Double Diagonal was placed on 6 March 2015 for a $.75 credit. My normal target for a trade like this would be 10% on the capital at risk, or $200 per 1 contract on the trade as placed above. However, I currently have a limit order to close the trade at $2.25 net credit, or 7.5% on risk capital or $150 per 1 contract. I'm taking less than normal in an effort to exit the trade as soon as possible.

 

My last 2 Diagonals, one in RUT and one in PCLN were closed for 10% gain on capital after about 25 days and much sweat. I would love to be in GOOGL for less than 20 days just to increase my probability of profit.

 

Here's the trade as it sits now:

 

 

The trade sitting at about $110 per contract profit now. I expect by the end of this coming week to be able to close for my 7.5% on risk target. The current Theta is $9, so if volatility does not decrease by more than 1%, I should be out on Thursday. If the implied volatility in GOOGL increases it will be sooner as the Vega is $15.

 

Ok, how did I come upon this trade you might ask? I use these Double Diagonals on names that I would normally trade for a volatility crush on earnings with an Iron Condor. Implied volatility has a tendency to ramp in these names in the month prior to earnings as actual volatility decreases, as the stock will sometimes move less in anticipation of the coming earnings announcement.

 

So, since the Double Diagonal is a long Vega, or in other words a trade that benefits from an increase in implied volatility, I wait until about 5 or 6 weeks prior to earnings, and set the short strikes about 45 days out, with the long strikes on the next monthly cycle after the month in which the short strikes are placed.

 

The best range of implied volatility to put this trade on is between 20-25%. If the security that you choose is much lower than that, the short strikes will be too close together and your probability of profit will fall through the floor. The idea is to trap price action in between your short strikes as implied volatility ramps up though 30% while movement on the tape slows or virtually stops as the earnings announcement approaches.

 

One more thing. It does not matter whether the Double Diagonal is placed as a debit or a credit. The only thing that matters is that the profile of the trade looks as it does in the example above. Your max profit line at expiration must not drop below the zero line. Your short strikes should be close to 1 standard deviation in the short strike month.

 

I have successfully placed these trades in CMG, PCLN and GOOG (before the split). I have not had the time, but I am interested in backtesting the strategy on FB, TWTR and TSLA as they have very similar volatility profiles surrounding earnings and during the period in between.

 

Check out the Small Time Trader Facebook for the latest from those who have most influenced my trading.

 

If you have any questions, place them in the comments below, so everybody can see the exchange.

 

Good Luck trading in the next week and beyond!

STT



Is your system working?

Hello Traders,

One of the biggest mistakes that new traders make (I am included in this) when they begin trading is to find the one system to take all of the work out of trading, and have a simple money machine that is profitable and just let it run. When that doesn't happen over the first week or month, they will jump to the next system and the next as their account draws down to nothing.

What if you're a mid-level trader with some experience and your system that's been profitable for months goes 0 for 5, or 0 for 10 over a given period. This can cause one to question their entries, executions and indicators for one. It can also get one to question themselves which can be bad for confidence and continued profitability. I have heard the expression "If it ain't broke, don't fix it."

But what if it is broken. What if general market conditions change. Market conditions do change. Just like the weather. Markets can change in terms of trend, volatility and liquidity just to name a few.

While not wanting to fall into the trap of jumping ship on my system every time it doesn't work, I also believe in a concept that I have heard referred to as CIP, or continuous process improvement.

I am an aviation enthusiast, and one of the parallels between aviation and trading is that the indicators you choose, and how you have them set up is to the market how instruments in an aircraft are to a pilot. Back in the 20's and 30's radios became more a part of how aircraft were navigated from one point to another. Over time these systems improve, and with them the accuracy of navigation.

Over the last year or so, I've traded my favorite pairs on strictly a 4 hour chart, using the 200 period SMA as my trend filter, and Parabolic SAR as my entry signal. So in 2014, I was able to get my micro forex account from about $200 to about $310. Over the first two months in 2015, though I could have made better choices in my system, using my standard stops and entries, I experienced a drawdown back to $200, all while going 0 for 10. 10 straight losses. So I figured that it was time to rethink how I navigate the market.

My new system for 2015 is as follows:

• Multiple time frame analysis instead of trading only on the 4 hour chart for simplicity. I look at Daily for the trend, 4H to look at impending signals, and 1H to enter the trade.
• I felt that I needed to reduce noise in the trends that I was following, and using Heiken-Ashi candlesticks accomplishes this.
• I was getting whipsawed in my entries using PSAR, so I switched to a MACD with the most basic settings to provide entry signals.
• I use the most recent structural highs or lows for stops, and set my targets to twice that number in pips for a 2:1 reward to risk ratio. When I get halfway to the target, my stop is moved to breakeven.

Here are some examples of how it looks:

 

 

In addition to the rules above, I put in place a rule to counter one of the most frustrating experiences in forex that I'm sure I'm not alone in experiencing. I've done my analysis. I've reviewed the calendar for risk events. I'm going in the direction of the trend and all my signals in all of my time frames line up. And I just got stopped out for 50 pips literally one hour after placing the trade.

 

So from now on, I harbor no love for any direction. If I get stopped out in the same 4 hour bar as the trade is placed, I will immediately place a reverse trade on in the direction of the stop out using structure to define the new stop, and 2:1 reward to risk as the new target. The reason is that regardless of my analysis, I was clearly wrong. And I have no problem letting the market that just stopped me out provide me some positive pips to reduce my loss, as the market has just informed me of it's true direction. In the last month, this has worked more often then not allowing me to fight losing trades back to even.

 

The reason I wrote this is to have my own rules visible at a glance for the near term, but also if any of you that read this get something out of it, it is worth the time. If something is broke, identify it and make a correction. Instead of 10 losses in a row, I am profitable over the last two weeks, due to one good medium term trade, and I am fighting back to even with a good mix of wins and losses that I feel that I can improve.

 

 

 

Drop a line in the comment block below, and we'll have a conversation. The system above is my own way I look at the markets, not a recommendation by any stretch. But if you have any questions on how I use the above indicators to find entries, let's talk it out.

 

Checkout the Small Time Trader Facebook for the latest from those who have most influenced my trading adventure.

 

Good Luck in the week ahead,

STT