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Book Reviews

"This is a great book for novice and experienced traders. Soaking up its wisdom distilled from experience and introspection will help you become more successful. And that's true even if it doesn't make you a penny." --Aaron Brown, AQR


In this episode, Michael Martin speaks with faculty member Victor Sperandeo about US Interest Rates and the upcoming elections in Europe. Sperandeo teaches the in-person Master Class was featured in New Market Wizards by Jack Schwager and has been trading since the late 1960s.

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themis trading

We have long been concerned about the information that is leaked through proprietary exchange data feeds. One suggestion that we have made to fix this problem is to limit the amount of information that these data feeds are allowed to distribute. This can be accomplished by requiring exchanges to obtain an “opt-in” from their customers before they include sensitive information (such as information on individual order cancellations and revisions) in their data feeds. Another way to limit information leakage is to aggregate orders by price level rather than distribute order by order information. This is exactly what IEX has just proposed. In a February 28th filing, IEX proposed:

“The Exchange proposes to amend Rule 11.330(a)(3) to describe a new market data product to be known as DEEP. Currently, the Exchange offers TOPS, an uncompressed data feed that provides aggregated top of book quotations for all displayed orders resting on the Order Book and execution information (i.e., last sale information) for executions on the Exchange…As proposed, DEEP will disseminate, on a real-time basis, aggregated depth of book quotations for all displayed orders resting on the Order Book at each price level for securities traded on IEX (i.e., displayed top of book and full depth of book quotations) and execution information (i.e., last sale information) for executions on the Exchange. DEEP will be provided free of charge.”

The IEX depth of book feed is different from other exchange data feeds in two significant ways:

1) No information about individual orders is disseminated through the IEX feed. Only aggregated quantities for ten price levels will be distributed. An aggregated view provides information about displayed supply and demand but does not sacrifice individual order information. Other exchanges that provide individual order feeds are distributing information that could be gamed. In addition to blatant leakage examples like the Retail Attribution identifier, other data feeds provide constantly changing quotes and queue position on their depth of book feeds. These flickering quotes are often representative of HFT and electronic market maker quotes. And by deduction, orders that do not have retail attribution or are not flickering must be institutional.

2) There is no charge for the IEX data feed. This differs dramatically from the other major exchanges that have turned data feeds into substantial profit centers.

IEX continues to innovate and provide the market with investor friendly tools as opposed to the other exchanges that only seem to care about their own bottom line. While other exchanges try to appease their HFT clients with new order types and more favorable rebate schedules, IEX continues to focus on the traditional investor. While other exchanges try to sneak proposals past the SEC like Nasdaq’s failed Retail Post-Only order, IEX continues to try to level the playing field. While other exchanges try tricks like an inverted fee schedule, IEX maintains a conflict-free flat take/take fee schedule.

Other exchanges are trying to copy IEX with speed bumps of their own but they don’t seem to understand that copying a speed bump alone doesn’t make you an investor-friendly and trustworthy stock exchange. To gain this status, they would need to rid themselves of all their other conflicted products such as colocation and individual order data feeds. And we just don’t see them giving away that type of revenue.

This is a guest post by Sal Arnuk and Joe Saluzzi of Themis Trading LLC. It is published here with their permission. All emphasis is by original authors.

I can’t think of two guys who have been more at forefront of fairness in trading. This effects everyone who trades now and who will trade going forward. Along with their partner Paul, Joe and Sal have been relentless in their campaign to fight HFTs and charlatanism in trade execution.

Follow Joe Saluzzi on Twitter

Follow Sal Arnuk on Twitter

My own take is that the exchanges have become cable companies: they distribute entertainment. You subscribe to the exchange data feed like you would for HBO or Showtime, but you still have exchange clearing fees and execution fees to pay on top of that. That’s like subscribing to a premium channel such as HBO and still having to pay a Pay-Per-View fee on top for each show you watch on HBO.

Decimalization was supposed to cut the cost of trading by eliminating pricing in 1/8ths and fractions that had been the mechanism since forever and thereby decreasing the bid-ask spread. But technology and capitalism have evolved in step with decimalization.

If the exchanges want to continue to colocate servers and provide an edge to the HFTs on execution, then they ought to give away real-time quotes to trader/subscribers since they will undoubtably lose a great deal of capital due to slippage and skid caused by the very traders who have been sold the trading edge by being allowed to colocate their server.

Given these changes, it’s time for the exchanges to stop double-dipping and significantly lower or cut the “live” exchange data fees.

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call delta

The following is an excerpt from Managing Expectations by Tony Saliba

Option Delta


The risks related to options are many and include path dependency, implied volatility, and the passage of time. These risks can be calculated with figures produced by simple mathematical formulas known as greeks, as most use greek letters as designations. Each greek estimates the risk for one particular variable.

Delta is the sensitivity of an option’s price with regards to the movement of the related underlying future or security. It is expressed both as a percentage and a total. A call option with an estimated 25 delta suggests that the call option is one-quarter as sensitive as compared to the corresponding underlying. It implies that you would need 4 25 delta options to replicate the performance of a one-point move in the underlying.

• Professional traders think of an option’s delta as a hedge ratio; to what extent the option offsets or emulates the underlying. Professional traders learn very quickly that an option’s delta is only useful for a fractional move within that precise snapshot of time which it is calculated. An option’s delta can and does lose its relevance when there are changes in time, movement, and implied volatility.

• From a pedestrian viewpoint, it appears logical to envision an option’s delta using a simple equiprobable decision tree (i.e. a 50% chance of either an up or down move in the underlying) to price a call option. Yet this mind thought is dangerously flawed due to the conceptual problem of linking the resultant delta value with a probability.

Probabilities are beneficial when assessing risk with defined and limited outcomes. Applying probability or overemphasizing them in a financial world chock-full of infinite combinations can be dangerous indeed. Delta is a best-guess estimate at a given point of time and place – it’s nothing more and nothing less.

Delta Details – Positive & Negative


To reiterate, an option’s delta is a mathematical expression that estimates how much the theoretical value of an option will change with a 1-point move in the corresponding underlying. It is the amount whereby an options trader would consider himself “dollar-neutral” compared to the underlying.

The delta of a call option spans from 0.00 to 1.00; the delta of a put option spans from 0 to (-1.00). Positive delta means that the option is estimated to rise in value if the asset price rises and is estimated to drop in value if the asset price falls. Negative delta means that the option position will theoretically rise in value if the asset price falls and theoretically drop in value if the asset price rises.

• Long (purchased) calls always have a positive delta; short (sold) calls always have negative delta.

• Long (purchased) puts always have a negative delta; short (sold) puts always have a positive delta.

• Long (purchased) underlying always have a positive delta; short (sold) underlying always have a negative delta.

• The nearer an option’s delta is to 1.00 or (-1.00), the more the price of the option responds like the actual long or short underlying when the underlying price moves.

Delta Details – Changes in Volatility & Time


Delta is a best-guess estimate – susceptible to changes in volatility and time to expiration. The delta of at the money options (i.e. .50 delta call or put) is relatively invulnerable to changes in time and volatility. This means that at the money options with six months remaining to expiration compared to at the money options with one-month to expiration both have deltas very similar to .50.

However, the further divergence away from the money an option is, the more susceptible its delta will be to alterations in volatility or time to expiration. Fewer days to expiration or a decrease in volatility push the deltas of in the money calls closer to 1.00 (-1.00 for puts) and the deltas of out of the money options closer to 0.00.

Consequently an in the money option with 10 days to expiration and a delta of .80 could see its delta grow to .90 (or more) with only a couple days to expiration without any movement in the underlying.

Similarly, an out-of-the-money option with 10 days to expiration and a delta of .15 could see its delta drop to a .10 delta without any movement in the underlying. Lastly, an at the money option with 10 days to expiration and a delta of .50 will see its delta remain at .50 up through and including expiration day.

Delta & Synthetic Relationships


Synthetic long underlying is constructed with a long call and short a put at the same strike price in the same month. Therefore, the delta of a long call plus the delta of a short put (at the same strike in the same month) must equal the delta of long underlying. Conversely, synthetic short underlying is short a call and long a put at the same strike in the same month.

It must be recognized that options delta can be calculated with various input formulas. Using the Black-Scholes model for European style options, the total of the absolute values of the call and put is equal to

Using varied input models for American style options and other exclusive circumstances, the sum of the absolute values of the call and put (at the same strike in the same month) can be marginally more or slightly less than 1.00.

Options Portfolio & Position Delta


Realistically speaking an option’s delta becomes more complex – less reliable – with the complexity of a position. A successful trader will view their delta holistically – balancing it with the risks of time and volatility.

That said, a trader can add, subtract, and multiply deltas to determine the “net delta” of a position and underlying. The position delta is a way to estimate the risk/reward character of your position in terms of sensitivity to the underlying. The calculation is very straightforward:

Position Delta = Option’s Theoretical Delta x Amount of Options Contracts

A trader owns five of the ABC June 60 calls, each with an estimated delta of +.40, and short (sold) one hundred shares of ABC stock. The traders position delta would be +100 or (short 100 shares of ABC or
-100 deltas, long 5 +.40 delta = +.40 delta x 5 – 100 = +100).

What does +100 mean? The mathematics estimates that if ABC stock should increase by $1.00, the trader will earn $100. On the other hand, if ABC drops $1.00, the trader will lose $100. Once again, it is imperative to realize that these numbers are mere approximations. Remember that delta is relevant for insignificant moves and for brief time periods. Beyond that it gets fuzzy fairly quickly.

The Relationship between Volatility and Delta


As mentioned earlier in this chapter, delta is an estimate and that estimate is partially produced on the trader’s assumption about implied volatility levels.

At its core, options implied volatility embodies the degree of uncertainty in the market and the extent to which the prices of the underlying asset are expected to change over time. When there is relatively more uncertainty, people will pay more for options – thus raising the level of implied volatility.

In August 2015, for example, as the markets reflected on China and its currency devaluation, participants became fearful and bid up the prices of options or the implied volatility. But when people feel more secure, they tend to collect option premium through the sale of options. This would cause implied volatility levels to drop.

The Change in Delta with Changes in Implied Volatility


All other factors (movement, time to expiry) being constant, an increase in implied volatility causes all option deltas to converge towards .50. In fact, during the unprecedented volatility spike of “Black Monday” (1987) option models did produce .50 deltas for every strike available for trading!

During a rising implied volatility environment, in-the-money call option deltas will decrease towards .50 while out-of-the-money call options will increase towards .50. Reiterating our Chapter 2 discussion on synthetics would imply the opposite would hold true for put deltas. Other words, in a rising volatility environment, in the money put option deltas will decrease towards -.50 while out of the money put options delta would increase towards -.50.

This should begin to make sense, for when ambiguity increases (the reason for higher implied volatility levels) it becomes less clear where the underlying will wind up at expiration. Thus, the absolute value of an in the money option delta will decrease, the absolute value of an out of the money option delta will increase, while an at the money option delta will always remain near a .50 delta.

A somewhat drastic yet helpful approach to understanding this is to look at expiration. At expiry, volatility is 0; all deltas are either 0 or 1, finishing either out of the money or in the money. Any increase in volatility – like an increase in time – causes probabilities to move away from 0 and 1, reflecting a higher level of uncertainty.

This is an excerpt from Managing Expectations by Tony Saliba.

Tony is going to teach an Options Master Class.

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By Jason Pearce

Anos de los Muertos

Every year at the end of October, Mexico has a three-day festival known as Dia de los Muertos.  This Day of the Dead is a celebration where the people remember and honor those who have departed.

This year, you may want to prepare for Anos de los Muertos, which translates to Year of the Dead.  It is not going to be a celebration, either.  You see, the odds are higher-than-normal that the multi-year equities bull market could come to an end in 2017.

In this post, I am going to reveal a convergence of data that could be pointing to a major disruption, maybe even an abrupt end, to the current bull market.  But let’s get one thing straight right up front: this is not a prediction of what will happen in 2017; it is an assessment of the most probable outcome of what will happen in 2017.  We cannot know the future.  We can only know the likelihood of what’s to come.  There is an important difference.

Let’s go ahead and revise a prior statement to read “It’s not going to be a celebration for most people.”  After all, some people –hopefully you are one of them! – will be well-prepared and positioned on the right side of the market if/when that time comes.

It Ain’t Cheap

The P/E ratio of the S&P 500 recently hit 27:1.  Think about that for a second.  If you bought the companies in the S&P 500 and wanted to pay it off from what those companies currently earn, it will take you one quarter of a century to get your initial investment back.

Just how patient are you?

Patience isn’t the main issue, either.  Investors need to consider the size of the return their getting on their money.  Warren Buffett has reminded investors time and time again that “the price you pay determines your rate of return.”

The historical average P/E ratio for the S&P 500 is 16:1.  That means that the current P/E ratio of nearly 27:1 is 69% above the average.  Based on Buffett’s logic, this historically high-priced market should lead to a period of historically low returns.

Looking at nearly 150 years of stock market history, there are only a handful of times when the P/E ratio hit 25:1 or higher:  Around the Panic of 1893, the start of the Roaring Twenties, the Great Depression in the early 1930s, the end of the Dot Com bubble in 2000, and during the Great Financial Crisis of 2008-2009.  As we all know, these were not optimal times to be invested in the stock market.

Furthermore, let’s remember that price was plunging during these bear markets, even though the P/E ratio soared.  The reason for this was because earnings dropped at an even faster rate than the price!  As a matter of fact, earnings were negative in Q4 of 2008 for the first time in history.  This is why the P/E ratio rocketed into triple-digit territory for the first time ever.

Accounting for Inflation

Economist Robert Shiller decided that the P/E ratio can sometimes be misleading because it does not reflect where the market is in the business cycle.  In response, he created a ratio that measures the current prices to average earnings over the past 10 years adjusted for inflation.  His Cyclically Adjusted Price/Earnings (CAPE) ratio reveals a market that is even frothier that what the standard P/E ratio shows!

Currently, the CAPE ratio stands at a nosebleed level of 29:1.  Going back to 1881, there are only two other times when the CAPE ratio was at 29:1 or higher: Right at the end of the Roaring Twenties in 1929 and right at the end of the Dot Com bubble in December 1999.  I would not consider this to be a good omen for today’s stock market.

In light of the current P/E valuation, I think it’s an understatement to say that the stock market is certainly not a bargain for investors right now.  One could even say it’s getting into overpriced territory.

It is important to remember, though, that the P/E ratio only tells us about the market’s value.  It does not tell us anything about timing.  We need to look elsewhere for that.

Dog Years and Bull Years

The equities bull market that began off the March 6, 2009 low celebrated its 8th birthday on Monday.  Eight years may not sound like much, but in dog years the bull market would be a mature 56. It’s certainly not young anymore.

But we’re not talking about a dog here.  We’re talking about a bull.  And in bull market years this one is beyond old; it’s now ancient!

Over the last 130 years, there have been 15 different bull markets in the US.  The average lifespan of these fifteen bull markets was 2 years and 11 months.  Therefore, our eight-year-old bull market is nearly 175% longer than the average.

As a matter of fact, the current bull market is the third-longest in history.  It will move up the ranks to being the second-longest bull market if it can last beyond St. Patrick’s Day on March 17.

As a note of interest, the current bull market duration ranked in the #2 spot ended in September of 1929.  We all know that wasn’t exactly a gentle landing.

Maybe this current bull market is destined to match the nearly nine and a half year record bull market duration that peaked at the Dot Com bubble top of 2000.  Heck, it could even set a new record.  But knowing the typical lifespan of prior bull markets, you can see that the odds are against it.

Sizes Really Does Matter

In addition to the maturity of the bull market, we also need to consider how big it is.  So far, this bull market has gained 260% from the lows.  That’s an average annual return of roughly 18%!

When we examine those 15 US equity bull markets that have occurred since 1888, we discover that the average size of a bull market is 120%.  Therefore, the current bull market is a little more than double the average size.

As far as rankings go, the 260% gain from the 2009 low is the fourth-largest in history.  If the S&P 500 just adds another 46 points to the current record high of 2400.98, it will match the 267% gain of the 1949-1956 run that occurred during the Nifty Fifties.  All it would take to make that happen is a favorable Tweet from the President!

The largest and second-largest bull markets in history were substantially bigger than the current one.  The second-largest was the 427% advance off the 1990 low that ended when the Dot Com bubble burst.

The largest bull market in history was a mind-blowing 504% gain that ended with the 1929 stock market crash.

The takeaway from this study is a paradox of sorts.  On the one hand, most bull markets don’t gain much more than our current one.  Therefore, we should not be complacent or unrealistic in our expectations going forward.  Average annual returns of 18% don’t last forever.

At the same time, we know that in the couple of instances when the current size of gains was trounced, it was done by a huge margin.  Why?  Because some bull markets experience a blow-off stage at the end where prices go parabolic.

You have to remember that the improbable is not the same as the impossible.  The informed trader/investor needs to bet with the odds, yet not fight the trend.

Will the Honeymoon Be Over This Summer?

Another potential headwind for equities right now is where we are in relation to the Presidential Election Cycle.

The S&P 500 is up nearly 13% since the Friday before the election as Donald Trump is supposed to be the best thing since sliced bread for the US economy.  Stocks have not been shy about pricing that in.

However, history indicates that the market could hit a rough patch in the second half of 2017.

Looking at the stock market since 1897, the typical year following the US Presidential election is bullish for the first half.  But the second half of the year is where the trouble begins…

On average, the stock market peaked out in the summer after the Presidential election.  It then declined sharply into November and wiped out several months’ worth of gains.  After a bit of a recovery, the market was then locked into a choppy trading range for nearly a year.  At best, it would stabilize and then tread water for nearly a year.

Using a shorter data set makes this pattern look even uglier.

If we start the data at 1928 instead of 1897, the summer peak and November bottom still show up.  However, the final low does not hit until autumn of the following year.

If the data set begins with 1965, the stock market once again peaked in the summer and dropped into November.  This time, however, the market hit new lows for the year before it finally bounced off a November low.

No matter how you cut it, the Presidential election cycle indicates that prices will peak this year when the temperatures peak.  A bottom would not be expected until November at the earliest.

Not-So-Lucky “7”

An additional cycle that investors and traders need to be aware of is the Decennial Cycle.  Everyone either remembers or has at least read stories about the Crash of 1987.  But do you know what happened in many of the other “7” years?  For some reason, the US stock market has a bad history with the “7” years.  Consider the following list:

2007 – Although the financial crisis occurred in 2008, the market peaked in October of 2007.  It dropped nearly 58% over the following eighteen months before all was said and done.

1997 – Although it was a short-lived event of just a few weeks, the stock market still experienced an “unlucky” 13% drop from the top during the Asian Contagion in October of 1997.

1987 – This infamous stock market crash racked up a 36% loss in just two months.

1977 – A modest 20% bear market was torturous, due to the fact that it stretched out for nearly a year and a half before it was finally over.

1957 – The stock market lost 20% over a three-month timeframe.

1937 – Stocks dropped a whopping 46%.  The wipeout lasted for nine months.

1917 – After peaking in 1917, the bears dominated for thirteen months and knocked 40% off the stock market.

1907 – This was the start of a 45% price markdown that lasted for ten months.

Amazingly, this Decennial Cycle even had an influence in the 1800s!  The stock market lost 50% after the peak of 1857 and it lost 53% from the 1807 top.  These bear markets lasted nine months and thirteen months, respectively.

Despite how this year has started out, history indicates that 2017 could have some bad juju in store for investors.  But if you prepare yourself ahead of time and know what to look for, you can sidestep disaster.  If you play your cards right, you could even be in a position to profit from it!  There’s certainly wisdom in the old saying, “One man’s misfortune is another man’s fortune.”

Synergy Effect

We are only days out from becoming the second-longest bull market in US history.  The age factor alone suggests that it could be nearing the end of the line.

Furthermore, the size of this bull market also indicates that there may not be a whole lot of upside left.  Add another 60 points or so to the current S&P 500 high and this will rank as the third-largest bull market in history.  Although there were a couple of prior bull markets that were substantially larger than the current one, that’s precisely the point: Only two of them in history gained more than this!

In addition, the US Presidential cycle indicates that the “Trump rally” could reach its completion this summer.  From there, sizable reversals tend to follow.  This was corroborated by data with three different starting points.

Finally, the Decennial cycle is casting a dark shadow over the stock market this year.  There are way too many “7” years that have experienced corrections, bear markets, and even crashes to ignore or dismiss as mere coincidence.  In five of the last six decades, the “7” years handed out double-digit losses to investors.  Don’t bet against this streak.

When you know the valuation history of a market, you can determine what levels are unsustainable because of being too expensive or too cheap.

When you have a metric, such as the historical sizes and durations of prior market moves over the last century, you can calculate the probabilities of what may occur in the future.

When you have seasonal or cyclical patterns, you can also begin to draw out a market roadmap that’s a bit better than a random guess.

But when you put all of this data together and find that they are all pointing to the same thing, you have a synergy effect.  With several non-redundant measurements coming to the same conclusion, it seems that the probabilities set by a unanimous consensus of the group are higher than the probabilities of each metric on their own.

Those probabilities are pointing to a bearish event in 2017.  So even if you agree with the current bullish market fundamentals or you have a positive outlook based on President Trump’s agenda for the country, you should not dismiss the unanimous conclusion compiled from several decades of data.  Caution is definitely warranted here.

Watch the Weather

Despite all the dark clouds looming on the horizon, the market price behavior should be the final judge and jury of whether or not the bear market comes out of hibernation.  Don’t liquidate your stocks, buy portfolio insurance, put on hedges, and/or go short unless the price indicates that it is the right time to do so.  Being right but early can have the same effect on your account as being dead wrong.

A couple of things that one could use to gauge the weather in the current market environment are the market’s price structure and the trend relative to moving averages.

On the long-term timeframe, the price structure is bullish.  The S&P 500 has made higher monthly highs for five consecutive months and it has not broken a prior month’s low since November.  A series of higher highs and higher lows is an uptrend.

On the daily timeframe, the market is well above the most widely-watched moving averages.  The day after the election, the S&P 500 rocketed higher and has closed above the rising 50-day Moving Average every single day since.  In addition, the market has only closed below the 200-day Moving Average once in nearly a year.  (That was the short-lived break right after the Brexit vote.)  Staying above the moving averages and posting a string of new record highs is not what you see in a market that’s bearish.

The combination of P/E ratios, market stats of prior size and duration, and market cycles are forecasting a major storm ahead.  But when we observe the current price behavior of the market, there’s nothing in sight but blue skies.

Our first indication that the storm clouds are moving in would be a close below the 50-day Moving Average.  Once that happens, a trader could start looking for setups on the short side.

A break below the 200-day Moving Average (one of Paul Tudor Jones’ favorite metrics) would tell us that we’re in a downpour.  You don’t want to have any long exposure when that happens.  Also, a break of a prior month’s low would be a lightning strike.  If it hits at the right place and time, major damage can occur.

As storms start rolling out across the US this spring, remember that the deadliest storms for the stock market are expected to hit in the second half of the year.  When it rains, it pours.  So it’s best to start prepping for it now!

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Tony Saliba Managing Expectations

The following is an excerpt from Managing Expectations by Tony Saliba

The Making of a Successful Trader

Until you’ve traded, managed a position, or risked your own money, it’s hard to understand the importance of discipline, mental awareness, along with handling the various emotional facets that will – no doubt – come your way. The discipline to have a pre-determined and iron- clad risk management plan in place ahead of time, possessing the willingness to allow your winners to run, and most importantly – acquiring the humility to lose money without making situations worse – are all part and parcel of what makes a good trader.

Decades of experience have taught me that a pre-trade risk management plan has helped to remove me from the situation – perhaps keeping me from making less than optimal trading decisions. A good trader simply cannot be afraid to lose money – for it happens to everyone. The chief problem with losing money in a trade is not merely the money – it’s the enticement to make irrational decisions – no doubt making things exponentially more risky.

We are trained to equate losing with shame. We are prone to avoid it at all costs. Sometimes losing stimulates a reaction to fight back. But for most of us, we permit losing trades to cause us to deny responsibility, avoid situations, and think irrationally. The result may well be a foolish decision to remove a stop in an options trade. Making blunders and losing trades no doubt have varying effects on individuals.

But if you can value and appreciate that traders will lose money, and sometimes lose money on a consistent basis, you will be well on the road to successful trade management. Guaranteed.

How to Deal with Market Outliers


The hardest part about successfully trading options is being willing to put in the days and weeks and months and years of discipline required. Many trade options attempting to chase the dream of “quick riches” and for some that does happen. However, for the most part, good traders spend most of their waking hours dreaming of the big payday yet knowing the realities of what could happen if they don’t do the hard mental work of remaining disciplined.

Baseball has a saying that, “the ball will always find you.” It’s uncanny but it seems the minute a player is out of position or not physically 100%, the ball seems to be hit to him! This parallel can and does apply to options trading as well. The biggest – sometimes catastrophic – losses occur when the trader lets his guard down with regards to position and trading discipline. You may get away with being overly “short options units” for months – perhaps years. However, one day you will experience a market event that could very well wipe away all the meager gains you achieved with your undisciplined approach.

Think back on some of the bigger market events we’ve had in the last three decades:

  • The U.S. stock market collapse in October 1987
  • 1994 U.S. bond market crash
  • Asian Financial crisis in 1997
  • Russian debt default and LTCM in 1998
  • Tech bubble of 2000
  • Great Recession of 2008

I was personally able to make large sums of money as the result of these major events. I didn’t make money due to luck nor due to skill. I was profitable because of my daily position, trade, and risk management routine. That self-scrutiny kept my options risk well defined. Additionally, my thorough, in-depth knowledge of options strategy and more importantly, how they perform during crisis, allowed me to make markets aggressively when everyone else was hiding.

Market outliers are sometimes very daunting to live through. Yet, I challenge you to always remember the following:

• Always know what strategies will do during extreme periods. Example: during very high periods of volatility, wingspreads will naturally become very cheap.

• Always know exactly what happens to your current position during both a “melt-down” or “melt-up”.

• Be aware of skew shifts and shadow deltas when hedging your position.

• Economic events seem to come in episodic waves and the next one is sure to be different from the last one.

• Volatility is typically persistent and it seems to persistently overshoot and undershoot what conventional wisdom otherwise believes.

• The vast percentage of your profitability is made in very small slices of time. Opportunity knocks very briefly.

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