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Deep OTM NP Strategy – February Results

Posted by mounddweller on February 18, 2011

Fellow Traders,

February results are in for our Deep OTM NP Strategy.  Overall our results were slightly better than those experienced in January.

This month we had 56 trades in our strategy to choose from.  After the market close on Friday (2/18), 50 of them closed OTM.  That’s a success rate of 89.3%.  I feel good about the “win rate” especially considering we are in the middle of earnings season.  Five of the six trades that finished ITM were the result of poor earnings releases.  The sixth, LPHI is a “special situation” as it is embroiled in a class action lawsuit.

Had you chosen to sell puts (using the capital allocation plan I outlined in an earlier post) on all 56 selected trades this month it would have required a capital balance of $423,600.  Remember, this assumes you are trading in a tax-advantaged retirement account which does not allow the use of margin.   Doing so would have generated total premiums of $6,136.05 (net of commissions).  This equates to a 1.45% ROIC, which is 18.23% annualized.

How did the losers impact our results?  Glad you asked.  We had 6 trades that finished ITM.  On Monday we will have to purchase these 6 stocks.  They are ENTR, LPHI, CHTP, SWIR, TKLC, and OMX.  Assuming we did nothing to mitigate our losses by either (1) buying to close the puts at the first sign of trouble, or (2) holding the stock after assignment and possibly selling CCs against it, our total capital losses (based on Friday’s closing prices) would equal $5,763.70.  The net result (premiums plus capital losses) would be a very small gain of $372.35.

However, once again (like last month) on most of the trades we had an opportunity to cut our losses at the first sign of trouble  and could have ended the month with a more substantial gain had we proactively managed the trades.  Let’s look at each of the six losers and see what our best course of action might have been.

ENTR:  We sold 10 FEB $10 puts at $0.20 back on 01/21/2011 when the stock was trading at $12.26.  It closed Friday at $9.65.  This leaves us with a capital loss of $0.35/share or $350.00 on 10 contracts.  However, we had plently of time to recognize the trade was in trouble and could have avoided the loss by not holding the contract to expiration.  The stock has steadily moved lower over the past few weeks.  On Tuesday, February 15th it finally closed below our $10 strike price.   Alternatively, we could have chosen to take assignment and hold the shares until they get back above $10.  It’s not unreasonable to assume this could occur over the course of the next week.  We could also accept assignment and immediately sell the MAR $10 calls which today closed at $0.50 bid.  Doing so would give us a cost basis of $9.30.

LPHI:  This was one of our biggest losers ($1,918.95).  However, it could have been easily avoided.  You’ll recall LPHI was one of our losing trades last month as well.  Common sense (which isn’t always so common) hopefully would have kept us from executing another trade in this stock.  As I mentioned earlier the company is facing a class-action lawsuit and allegations of fraud. 

CHTP:  On 1/30/2011 we sold 10 FEB $5.00 puts at $0.25.  CHTP was trading at $5.96.  Friday it closed at $4.32.  CHTP gapped down on 2/2/2011 closing at $5.02.  It then hovered around our $5.00 strike price for several days before resuming its fall again earlier this week.  Clearly the best course of action here would have been to close out the trade at a small loss after it failed to recover from its gap down on February 2nd.

SWIR:  On 2/4/2011, with the stock at $14.30, we sold 5 FEB $12.50 puts at $0.15.  On Friday the stock closed at $11.11.  On February 9th after announcing earnings it gapped down closing at $11.45.  There really wasn’t a good way to avoid this loss.  However, we could have slightly lessened the size of the loss by buying to close our puts when the stock gapped down on 2/9.

TKLC: On 2/4/2011 we sold 10 FEB $10 puts at $0.15.  The stock was at $11.58.  On February 10th it gapped down closing at $8.36.  Once again the culprit was a bad earnings release.  This was our biggest loser ($1,928.95).  I have egg on my face with this one as it was my favorite pick back on February 4th.  I still like the stock though.  It has zero debt, substantial cash reserves in the bank and now trades at less than book value.

OMX:  We sold 5 FEB $15 puts at $0.15 back on 2/13/2011 when the stock was trading at $17.00.  It closed Friday at $14.69.  This leaves us with a capital loss of $0.31/share or $163.95 on 5 contracts.   Like most of our other losers it gapped down earlier this week after announcing earnings.  Given the closing price of $14.69  the best course of action would seem to be accept assignment and immediately sell the MAR $15 calls which today closed at $0.50 bid.  Doing so would give us a cost basis of $14.35.

Well, there you have it my friends.  I’ll be back later this weekend with another post to announce the first round of March selections in our Deep OTM NP Strategy.  I’d be interested in hearing if anyone selected any of the picks from my strategy in February.  If you’d like please post your results as a comment to this message.

Regards,

Troy

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