Why Does #FIRE and #OPTIONS Not Get More Attention?

Probability Cone TOS

If you are paying attention to financial information on the internet, you may have heard of #Fire, or Financially Independent Retired Early (FIRE).  There is a large movement and many people blogging about FIRE; how they’ve done it; how they plan to do it; and why you should do it too.

What’s interesting, is many of the blogs talk about making more money online, saving money by austere actions, like packing your lunch, walking to work, skipping the morning or afternoon latte, etc.  Like many diets (food austerity), it’s very hard to continue for a length of time, especially if you have already have gotten used to one of those creature comforts.

Some of the blogs do talk about investing and offer progressive, online investing websites where you put a small amount of money towards investing.  Then, many tell you to invest conservatively.  This advice is not necessarily going to satisfy the “Retired Early” part of #FIRE.  It will, however, help with the #FI portion.  So to balance both, you have to take on some risk or extreme investment in time.  Both sacrifice of time without some assurance of profit/income, and an investment in the money you’ve already made without some sort of assurance of profit is the same issue at hand.  How much risk for how much reward?

#FIRE followers like to think of themselves as people who think outside the box.  They are entertaining a new way of making money; a new way of thinking and quite possibly could be changing how people work, invest, and live.

If you are interested in #FIRE, just Google it and see how many podcasts and blogs there are on the subject.  I will talk about it on my site quite a bit, but try to get people thinking a little differently when it comes to this movement.

Gap Analysis

Everyone should do a gap analysis occasionally, to see where they are on the retirement path.  Most people are told, “You need to save 1-2 million dollars to live safely into retirement.”  I want to propose a different way of looking at this same issue.  Simply, take the amount you need to live annually, deduct that reasonably certain income and the difference is your “Gap”.  Once you know this number, the goal is simply to close the gap to zero, or even have extra income in retirement, so you never have to worry about how you will live once you leave the workforce.

If you have income that does not require you to work for someone else and can count on it with relative certainty into retirement, then you should list it.  I’ve named a few here:

  • Pension Income or Social Security Income
  • Dividends on 401K’s, 457’s, and IRA’s. (90% of dividends)
  • Monthly income on rental real estate (75% of net)
  • Any income on non-depreciating assets (i.e. Annuities, paid settlements)

What I would not count towards your Gap Analysis:

  • Blog Income
  • Online Jobs (Fiverr, etc.)
  • At-Will Jobs like Uber, Lyft, DoorDash, etc.
  • Any income that someone else can take away from you for now reason

Many #FIRE aficionados love to tout the “Side Hussle”, which is a great way to earn money above and beyond your job.  My argument is that money should not be in your Gap analysis, since it can be taken away from you with relative ease.  I’m sure many people were making a few thousand a month with ad revenue from Youtube.com, however, in early 2017, many youtubers were no longer allowed to collect ad revenue unless they met a certain threshold.  Recently, facebook.com changed their ads algorithm, making it harder to advertise on their site, as well.

Blogs are a little more stable, but could be just as risky.  My brother-in-law started several websites in years past.  One was doing very well and he had an offer for 1.6 million to buy the site.  This was in 2007/2008, and he hesitated, thinking it may be worth even more.  He further developed the site, but the recession hit and he suffered.  Since the website catered to aftermarket modifications on pickup trucks, the first thing people stop paying for is “add-ons”.  Although, the site still did very well and was income producing, he ultimately sold the site for approximately 60% of the original offer.  Still, he made good money, but there is so many reasons a site can have large swings in revenue.

The other problem with a blog is you generally have to nurture it.  I’m not saying don’t start a blog or try to monetize it.  I’m working on that right now.  What I’m saying is decide how much of the website can profit without your influence and maybe add that to your Gap analysis.  Of course, if you develop and sell that site, then that is cold-hard cash and you can look at it differently. 

Risk and Reward

Now that we understand that some things are risky, even if you think they are not, you may have another point-of-view on how you should go about thinking about retirement.

You notice, even on dividend paying stocks, I suggest only counting on about 90% of that income.  Why?  Well, if you save and reinvest that 10%, it creates a buffer and will allow you to maybe make a small increase to your dividend income to keep up with inflation.  So, pay yourself 90%, reinvest 10% and never touch the principal.

You see on rental income, I have 75% of the net listed.  Why?  Well, that’s what the banks see as a fair vacancy factor.  If you were to set that 25% aside and escrowed it for vacancy, repairs, etc., you could count on the 75% with more certainty.  Is it making sense now?  Essentially, you are setting a percentage of reliability for the income you are collecting.  So, going back to the blog, maybe you can assess it at 50-60%?  Maybe more, but just think how long will it last?  Until you’re in your 90’s?

I won’t get into the percentage of Pension Income or Social Security Income.  Those you can count on at 100%, however, those are even put at risk.  Many government pensions have been stripped away by poor money managers in their pension systems.  Or, government and politicians stealing the money away from their system.  This too, may be worth setting a percentage, so you can have some reliability in your retirement.

Ah, Now to Options

Many people don’t understand options and there are many ways to learn about them.  The reason I want to bring them to your attention is they satisfy a couple of these concerns.  One, you can hedge off other risk with options.  You can increase your dividend rate.  In fact, many Closed End Funds (CEF)’s invest in companies, but create extra income for their investors through “an Options Trading Strategy”.  Some of these strategies are very safe and everyone who wants to retire early should learn about them.  For a very conservative investor, covered calls and short naked puts are a great way to get started.  Both are safer than investing in stock alone. 

There are other ways to invest in options.  “Delta Neutral” investing can be done with options.  This means the investor has no interest in the direction of the market and only seeks to make money with options expiring worthless (not exactly right, but more or less the point of it all).  If you have an account which is positive theta and fairly neutral on delta risk (directional risk), you make money regardless of the market moves, assuming you adjust your portfolio with the moves, versus trying to predict the moves.

Warren Buffett, the most famous investor of all time used the covered call and naked puts to increase his revenue.  It’s not well talked about, however, if you look at Berkshire Hathaway annual reports, you will see they have ‘derivative income’.

How you choose to invest is not why I wrote this article.  My interest is exposing the reader to new ways to invest which are not in the mainstream.  Why?  Well, the mainstream media, for example, gets paid when they create fear, panic, controversy, etc.  Similarly, mainstream brokers profit when you lose.   Many take the other side of your trade.  Or, they use options, and perhaps futures contracts, to hedge the risk of your portfolio.  If they are using these derivatives to protect them from their customers (you), why shouldn’t you do the same?

Conclusion

My goal in this article was to get the #FIRE thinkers to think bigger than they ever have before!  Many are trying to save $2 on a coffee or latte, however, if you could work a couple hours of overtime and have an account with a positive theta of 2, you could get your latte every day for the rest of your life without ever investing again (not 100% probable, but there is a probability of success with options).

If you’re interested in learning more about options, of course, I write about them and want people to learn.  There are other sources.

ChristianMeadows.com Articles about Options

#Delta for #Value and #Retirement Investors

Five Things Your Broker Won’t Tell You About Options

Websites Which Help Teach Options

Tastytrade.com

Theotrade.com

OIC

CBOE

TDAmeritrade.com

Weekend Market Summary for 03/23/19 by InvestmentHouse.com

032419 Weekend Status

One of my favorite macroeconomic websites is, of course, Investmenthouse.com. This week the newsletter talks about:

– Weak German PMI reports, weak Japanese output, yield curve inversion fears bring out the first serious sellers in a long time. 
– After a solid break upside Thursday, SP500 and NASDAQ are sold back into the range. 
– Small and midcaps threaten to break their uptrends. 
– Friday was likely inversion panic, but was it even warranted? 
– The market never peaks the first day of an inversion, so even if Friday was an yield curve inversion with meaning, the top is still a lot of upside moves away. 
– Even if this wasn’t an inversion to worry about, the move itself deserves respect, and some areas look very ready to sell. 

The big issue was the 3 month/10 Year inversion, however, there is not a lot of evidence that the 3mo/10yr inversion is a precursor to a recession. Most economists theorize that the 2yr/10yr inversion is a more sure sign. Of course, a short term inversion would happen before a 2 year, right? So, it can be an early indicator, but probably not an indicator with the certainty of a longer range inversion.

Note: I love their references to old-time movies or TV shows, read at their website for this week’s reference!

One more quote from the story, “The market is at one of those gut check points for the near term. Will the indices shake off the inversion worry and continue the upside, will they test back to midpoint or the bottom of the October/December consolidation range, or will they fully correct to the December low?”

So, in a nutshell, they’re suggesting a little more downside in the short-term, but saying the 3 month/10 year inversion, even if it were to show a recession, would not take shape for several more months.

Our Opinion? I believe there will be some more downside, although Monday may be tricky. The chart above shows a down arrow on Person Pivots (PPS on ThinkorSwim) and a break below the previous bar. The Implied Volatility is moving up, as well. It could be algorithims that overreacted to the inversion news, yet I believe it may just be time for some selling, too. Monday may be dubious as there is often an akward day after a PPS, which could be up at times, then a move down or flat. Tuesday will tell the real story from the technicals I keep an eye on.

I am playing this downside as an attempt to capture some long theta against the increase in volatility. I will wait a day or two to sell some calls against my long vol plays and probably adjust/roll expiring trades with the increased volatility. I have several trades that will need to be rolled starting on Thursday, so hopefully there is a few extra days of downside to get those plays in.

To read the original article, or to subscribe yourself, visit: InvestmentHouse.com

Other Skills That You Can Learn From Option Trading

ES on 041918

One thing I’ve learned by trading options is it has taught me to be a better decision-maker. I found decisions come easier, faster and with more conviction. Not too many career choices, nor hobbies can improve on decision-making quite like option trading. Even for public safety professionals and doctors, decision-making can be difficult. Time is often on their side and the consequences of each portion of a decision can be analyzed and scrutinized.

The same thing can be true for entering a trade. I would liken the entry of a trade to a decision that a police officer may make, or doctor may make for the care of a person. However, the exit of a trade would be more similar to a life or death decision of a police officer or that of an ER or trauma doctor. In other words, once you’re in the trade the intensity forces you to make decisions on the fly without the knowledge of what the future holds.

You will find that making decisions becomes easier once you’ve been trading options. Smaller decisions like where to go to dinner, can plague many people. I often will ask my wife and daughter what’s for dinner only to wait hours before a decision is made.

On the entry of a trade you find you are more willing to dismiss a bad trade once you’ve been trading for a while. Many newer traders might have visions of grandeur and want to make a trade than on its face is not beneficial or likely probable. That’s not to say that experienced options traders won’t make a bad trade, or have a trade go bad for them. What I’m getting at is that most experienced traders will make their decision on probability of profit and the risk they are taking on that trade. More experienced traders that have learned to hedge their whole portfolio may even make a decision on a trade to hedge the risk on other traits, whether they’re good or bad. Again, this improves this decision-making.

A decision should be no more than a critical analysis of the options presented, then a choice made towards one of those options. Many people can get mired in every little aspect or the results of a bad decision.  I often find when I think critically about a trade, then compare that trade to my general trading rules, the decision is very clear to make the trade or not. Similarly, when presented with a problem in our own personal lives, the process should be the same. Look at the options, compare them to our general life rules, or ethos, then act on that decision.

Another skill that is refined by options trading, is one math and probabilities. Learning to do the math in your head and come up with the probabilities of a trade in “general” terms improves how you look at other things in your life. For example, I noticed many people will get a calculator out to figure the tip on a bill at a restaurant. Your brain will come up with ways to simplify this. What I do now, is take the tab, round to the nearest $10 and double just the number in the $10 increment. If your bill was $80, I would take the eight and double it. So, a 20% tip would be $16.

Now, the largest irony is many people would like to learn to trade options or invest. However, they do not want to take the time to challenge themselves and learn something new. For that, they’ve left themselves in a box which they cannot get out. Others learn to trade and don’t want to expand into other investments. Although I agree with you should trade what you know, could there be room for improvement?

I’ve written on how options are safer and can be hedged easily to protect a large portfolio. Also, the cost of entry into an options trade can often be much lower than another trade involving stocks. I will expand on this and other writings.

In the meantime, if you are interested in trading options and need a good brokerage, I would recommend TastyWorks. You can click on the link here and it will help us keep up postings to help you be more profitable.

Visit TastyWorks: Click Here to Signup!

Yield Curve Fears on the Horizon? From #RealInvestmentAdvice

I recently came across the website RealInvestmentAdvice.com and their discussion on the yield curve flattening.  I also read the Investmenthouse.com and their discussion on the FED always overshooting interest rate hikes.  This weekend’s newsletter from Investmenthouse.com even referred to the FED member’s justifications towards the flattening that the yield curve is no longer accurate; this time it’s different; etc.  It appears we will be a victim of the fed again.

There are two factors at work with rate hikes, one is size (25 basis points, versus 50 basis point rise) and time.  My question, if we know there is data showing a softening and there could be a need to postpone (versus withdrawl) and planned rate hike, what’s the harm?  I believe the fear is the market will react to that and they fear a selloff.  That is not the FED’s mandate however.  Just like previous presidents, secretaries of state, and congress, there has been very little decisive action, unless there is maximum pain in not making that decision.  Hopefully, the FED takes a play out of President Trump’s playbook and decides to be proactive versus reactive.

For reference, as of this writing, the 2/10 yield curve is sitting at .21 and heading for inversion.

For more on this from an excellent article, head over to:  http://realinvestmentadvice.com/dont-fear-the-yield-curve/

Setup a Watchlist from a Scan in ThinkorSwim (TOS) From TDAmeritrade (Revised)

In this video we explain how to convert a scan into a watchlist on the think or swim platform from TD Ameritrade. This can be useful if you want to limit your underlying stock or ETF decisions based on a smaller group of stocks that have certain guidelines in common, for example, average trading volume.

The video shows an average trading volume scan and how I converted it into a watchlist. Additionally, I show how to customize the columns on the watchlist. I have found this is an easier process to find stocks of interest than to use the scan tab for my basic trading guidelines. This is the perfect way to find high IV rank stocks quickly.

This video was previously posted on Selltheta.com, however, we’ve consolidated our posts to reside on ChristianMeadows.com.  Instead of forums, please feel free to post a comment below and we’ll try answer your questions.

 

 

Five Things Your Broker Won’t Tell You About Options

ES on 041918

Before we get started, please understand this article is to orient you to the opportunities.  This is in no way a “How to” guide, as there are more dynamics at work.  The goal is to hope you will learn more about options.

  1. Options allow you to limit your risk

Options are a unique vehicle for investing in that you can pair two different options and limit your risk directionally. This is called spread trading. For example, if you are bullish on the stock market, you may sell a put lower than the market and then by one of few strike prices beneath the option you sold. What this is allows is for you to profit by selling an option but also protecting the risk if the trade goes against you. Here is an example, if the $SPY is at $265.00:

Sell 1 put at the $245 strike, approximately 45 days out for $1.78
Buy 1 put at the $240 strike, at the same expiration for $1.30

The potential profit is $48 dollars, and your risk in the trade is $452.00.  That is a 10% return for 45 days.  Now, this is somewhat oversimplified, but bear with me.   The market is currently at $265 and your short strike is $20 below the market.  That equates to 200 points on the S&P 500 index.  That means the market has to go down that much, and stay down, at the time of expiration.  What are the odds of that happening?  About 16%.  You have an 84% of the market staying above that amount.

There are many places to learn more about how to trade vertical spreads. You will have to invest some time and effort, but as you can see in the example above there is profit to be made. If you make 10% every 45 days (not that I recommend holding these options to expiration), you wonder why people invest a lot more, have a lot more risk, only to make about 8% per year which is the average S&P gain over time.

  1. Options allow you trade without direction

Option traders can also trade without bias as to the direction of the market. One of the simplest trades involves two short vertical spreads as I explained under header number one. To make this a nondirectional trade, one would simply add a short call spread at the same time they traded the short-put spread. This is called an iron Condor. Here’s the trade you would add to the trade we talked about above to complete your iron Condor trade:

Sell 1 call at the $275 strike, at the same expiration for $1.69
Buy 1 call at the $280 strike, at the same expiration for $0.77

Your profit on this trade is $92.00.  Add this amount to your $48 in the example above and your potential profit is $140.00.  Now the interesting part is the risk on your short put vertical and the short call vertical is the same risk.  Why?  Because the market can be up at expiration, or down at expiration, but it can’t be both.  Therefore, your risk in the trade is now $360.00.   This is where the magic happens.  Now your profit is $140, your risk is $360 and your return is 39% (rounded).

If your underlying stock stays between $245 and $275, you make money.  Without getting into the nitty-gritty, you can see the potential for profit is great, with no bias towards direction.  This is not to say you will profit, because there are other factors at play with options.  Volatility, interest rates, time to expiration, etc.  For the other benefit of this type of trade, let’s move to #3.

  1. Options Allow you to profit in your sleep

Options which are sold gives the seller the benefit of positive theta. Theta is one of the option Greeks which everybody should know about. Positive theta of say, one dollar, would yield you approximately one dollar a day, or $30 per month. If you own a stock that you’re holding anyway, why not write a call against it and make that money each month? There’s quite a bit to options trading and a lot of people will tell you that is more risky than stock. Let me pose a question. If you were long stock that you purchase for $10, you would have $1000 a risk if you owned 100 shares. If you were to make $30 per month for 12 months, you would profit $360 on your covered calls. All things being equal your risk would only be $640 at the end of your first year. After two and half years roughly you own the stock for free. If you made $30 a month for the rest of your life, you can easily see that positive theta has many benefits even if you are a buy and hold stock purchaser.

 

  1. Options can insure your portfolio (and other things!)

Many people use long puts to ensure portfolio against downside movement. This is a good strategy if you’re worried about a short-term event, say a few days. The problem is if you’re worried about an event so is the rest of the world. Concern about the event could increase the volatility and thus the price of the option. Once the event ends, the volatilities deflated in the option becomes very cheap. This makes insurance using options a little more expensive. Buying long puts creates negative theta, which means you’re losing money each day. This is not the best strategy, you options traders and stock owners should be aware of the possibility of insuring your portfolio.

 

  1. Options can simulate stock purchases (for much less!)

Most people do not know the you can simulate a long stock purchase for much less than the cost of ownership of that stock. This is done by buying a long call and selling a short put.  If you were to purchase of Twitter by now at approximately $31, a $30 strike long call and short put it would cost about $220 and hundred shares in equivalent stock. Because you have a short put your risk is a little higher in that the margin would be around $1000. Your risk in the underlying stock would be $3000. Therefore, you have about a 60% reduction in risk. There is more to this and that this is also a negative theta training, however, if you expect a short move to the other side in a stock, this may be a way to make that play with last investment.

The intention of this article is not to make options traders out of everybody, but to make everybody aware of some of the benefits of options. There is much more to options and can be covered in a single blog post. There are many ways to learn options, one of the best however, is to watch TastyTrade. I would love to make the videos myself, the wife created the wheel and somebody’s doing such a good job of it now.

Please understand that options involve risk, just as stock purchases. Please read the OIC’s document characteristics and risks of standardized options for more information.

#Delta for #Value and #Retirement Investors

Account Showing Beta Weighting to the $SPX

But First, an Explanation

Before I get started speaking about Delta I want to correlate what I’m about to talk about to another aspect of life. Most of us learned to drive when were about 15 or 16 years old. We get the basics, we get formal education, and we learn mainly from our parents how to be good, defensive drivers. Most parents do not teach and do not know how to teach their children to be racecar drivers. However, we can all agree that racecar drivers are probably a cut above the average driver from the standpoint of understanding the dynamics and physics of speed. If a parent is a racecar driver, the child that he’s teaching most likely will have a better understanding of the dynamics that the parent knows. The discussion in this article is really designed to learn the best tactics that a racecar driver will know and apply it to every day driving. Replace that with stocks and options and you’ll understand my goal in explaining this to the average value investor.

What is Delta? A little-known concept know by retirees, those wanting to retire, and value investors is the concept of Delta. Delta is an option Greek that measures the options movement in relation to the price of the stock. Therefore, if an option has a delta of .5, it would move up $0.50 for every one dollar in the stock’s price move.

What is Delta?  Why should I be concerned?

Every stock has a Delta of 1.0 for every share you own. So, if you own 100 shares of Apple you have a Delta of 100 and Apple stock. Generally, people investing in their retirement accounts are usually only long stock. When you are invested in long stock alone your portfolio Delta is always long the number of shares you own.

Unfortunately, most people do not know what Delta is nor do they know why they need to understand Delta. In retirement accounts, it is often hard to hedge against a down market with long stock. Many will balance with value plays like consumer staples, energy, or some other hedge against a down market. With a better understanding of Delta you can have a better understanding of what you need to do to protect against a down market.

What is my delta?

As I explained before, every stock has a Delta value of 1.0.  You may ask, how you reconcile a Google stock ($GOOG) valued at $1100 in relation to a silver index fund ($SLV) valued at $15. This is where the concept of beta weighting comes in.

Beta Weighting

Beta weighting is simply the value of a stock in relation to another stock or index. Using the example above, Google has a beta weighting of 1.36, which means Google will move $1.36 for every one dollar move in the $SPX. $SLV on the other hand has a beta weighting of .176, which means again the stock will only move about $0.17 for every one dollar move in the $SPX. The $SPX, or S&P 500 index is one of the more broad indexes. To gauge the overall market against the $SPX seems the most reasonable, especially for a retirement account.

By the Numbers, How to Hedge Delta Risk

probably the easiest way to create a true hedge of Delta risk is to know exactly what your risk is by the use of beta weighting. Not every platform offers beta weighting. Generally, to get beta weighting information you must have an options trading platform. You can use an options trading platform even if you only trade stocks. Two good trading platforms are TD Ameritrade (please click here, as we get a finders fee and you help us produce good content) and TastyWorks (again, click here to help us out). If TastyWorks does not have beta weighting when you read this, they will shortly.

Many people are limited to the account type in Brokerage of their employer. For example, in my retirement account I cannot use either the brokerages listed above. However, do not fear as you can often approximate Delta risk or more simply use some tech simple technical indicators to hedge off that risk. In my retirement account, I will start buying long stocks that are either reverse ETF’s, or long volatility. As of this writing, I prefer $TZA which is an inverse Russell 2000 stock; $SDS, which is an inverse S&P ETF; and $VXX, which is a long volatility product. Please stay away from ultra short products, 3X products, and products that are cash settled. If you don’t know what these are, perhaps stick to the indexes and products mentioned above. When a stock market goes down $TZA will probably out perform in the short term, followed by $VXX. $VXX will outperform at the market bottom. $SDS will most likely hedge against a long-term down move.  Be aware all these products do lose money if they’re held too long on an up move. Market timing is almost impossible, so the best way to hedge is to actually hedge. By this, I mean you should buy a small amount of shares of these hedging products when you feel the market is topping. If the market continues to be go up, simply by a few more shares over the days, weeks, and months. Please be careful not to buy too much. I’m suggesting the use of these products as a hedge, not as a directional investment. If you must use these products as a directional investment to the short side, consider using an options strategy, if your Brokerage allows.

The screenshots below compare the same portfolio at the same time with no beta weighting (left) and with beta weighting against the $SPX (right). You can see the extreme difference in looking at the same portfolio through a different lens. When you beta weight your deltas and get close to zero from a portfolio standpoint, you are lowering your directional risk to one side or the other. If the market were to go down and you had positions in the hedge products I mentioned above, you would sell these products when the market bottoms, or what you think is the bottom. If you make 15% – 25% I would recommend edging out or selling your hedge entirely. Remember, bulls make money, bears make money and pigs get slaughtered. If you think the market has further to run down then maybe keep a portion on the table but take the rest off. The beauty of the strategy is you now have your hedged money in cash to invest in long positions that pay dividends or you can write calls against (covered calls).

Account Showing Beta Weighting to the $SPX
Account Showing Beta Weighting to the $SPX

Account Showing NO Beta Weighting
Account Showing NO Beta Weighting

 

 

 

 

 

 

 

 

 

 

 

 

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