I've been amazed by what I've seen and heard since I began trading
and giving trading seminars. Many students and other traders have been
quite insightful and have made good, intelligent suggestions and have
demonstrated great acumen in their trading. I want to talk about some of
the others today.
Once, during a seminar, I had a student complain that he didn't
like a trade I had completed the preceding month. On our CutLoss Club,
I had mentioned a spread that I did on the Q's. As you probably know,
the "Q's" (QQQQ) track the Nasdaq 100 and the options have a $1.00
strike price. I had sold a put at one strike price and bought another
put at a $1 lower strike price. Both had the same expiration and I took
in a $0.20 a share credit. The student was complaining because he
thought it was a waste of time to make a trade for only 20 cents. Let's
look at an example to see what that does. Assume I sold 20 contracts
of the 27 put and bought 20 contracts of the 26 put with 25 days to
expiration. Since this was a $1 spread on a spread, the original risk
was $2,000 (20 contracts x 100 shares per contract x $1). However, the
market gave me $0.20 a share to enter the play so I took in $400 (less a
$25 commission). Now my risk was only $1625 after commission. The
return on risk for 25 days was 23%!!! That's the net credit after
commission of $375 divided by the risk of $1625. The Q's expired that
month above the strike price of my short leg so I incurred no additional
commissions. Now, tell me what's bad about earning a 23% return on risk
in less than a month. My student still didn't like it because I only
took in 20 cents. He has his money in CDs. Oh, by the way, what are
they paying a month?
I sometimes get letters complaining that the profits on my trades
are often too small. (No one ever went broke making a profit is the old
saying). I don't pretend to know which position will yield a profit at
all let alone which one will really take off and I truly doubt that
anyone else does either. Though the big hit does come sometimes, it is
not the norm.
I once had a student with a mid six figure bank account who wanted
to know whether I thought it would be a good idea to also borrow money
against a free and clear home for additional trading money. While I
understand principles of leverage, I advised that I thought borrowing
money to trade was a very bad idea. In my estimation, trading should be
done with "risk money" only. Money that is needed for things like
groceries, car payments, clothing, shelter, and mortgage payments should
not be put at risk. In my opinion, people should only trade with money
they can afford to lose because the fact is that trading is risky and
they can lose money. Of course, traders can and do make money, but each
of us must be aware that we can lose in any trade.
Another issue I have heard raised by would be traders is the cost
of trading education. Many would "invest" $1,000 or $2,000 or even
$5,000 on a friend or relative's tip, but wouldn't even consider
spending a like amount on training. In my view, that is penny wise and
pound foolish. Trading without knowledge is like jumping into a river
when you don't know how to swim. I rarely give seminars anymore, so
please don't think this is an ad. Many years ago, I read a book that
advanced the idea of trading for income rather than employing the "buy
and hold" strategy. I liked what I read. It made sense. Shortly after
that, the author came to town with a free seminar that I knew would be a
"come on" for an expensive seminar. My wife and I went to the freebie
after deciding we would get out of it what we could, but wouldn't pay
for the seminar that was being sold. Well, we went to the free one and
we bought the expensive one. We paid for the seminar that was being
sold and we have paid for many others since then. Yes, they have cost a
lot, but they have been more than worth it in the long run. My point,
as it often is, is to continue to educate yourselves. The education
doesn't have to be seminars, it can be books, tapes, videos, DVDs, but
without education almost none of you can succeed in trading. As in the
earlier examples, common sense would help. The risk is always your own;
the money at risk is yours. Only you can decide what risk to take.
Only you can decide whether a 23% return on risk in less than a month is
good or bad.
Good Trading!
Bill Kraft
Mr. Kraft's past articles are posted on our website for your review.
-- by the Dividend Investor Team
