The SPY PUT as regular readers know is my first choice for hedging against a market decline. Recently I have received a number of emails from readers asking me what is wrong with their SPY PUT trades as they are continually have trouble making money from them. Looking at all the SPY PUT trades emailed to me, I can spot the problem immediately. These investors keep betting against the trend.
Spy Put And Overtrading
Many investors tend to over trade, particularly those that are trying to make a living from their investments. When an investor wants to make a living from their investments, they feel they should be trading all the time. While for many investors they are drawn to the excitement of the trade, many others are just trying to pay their bills. Most investors do not consider idle cash as an investment, but it is an investment method, as idle cash is sitting ready for opportunities.
Spy Put And Gambling
When using the SPY PUT options investors need to be aware of market direction and the overall market trend. When you buy SPY PUT contracts when the general trend is NOT down, then you are basically gambling and not investing.
When I use the SPY PUT as a hedge I only put it in place when the trend is definitely down. Even by going out several months with your SPY PUT contracts you are still betting against the short-term trend and your SPY PUTS are going to lose premium as the market churns sideways or grinds slowly higher.
Betting Against The Trend Consumes Capital and Margin
You can put together any number of options strategies from iron condors to butterflies to spreads but in essence, betting against the trend does not pay out often enough to warrant the work, the time and the capital which is not only at risk but which can be used for better trades. Every time you use your capital to make a bet against the current trend you are tying up your capital and margin in a trade that may or may not work out.
Stack The Odds Of Success In Your Favor
Instead if you do not bet against the trend but instead stay with the trend you are tying up your capital and margin in a trade that has the odds of success stacked in your favor. Instead of always buying SPY PUT options and hoping for the best, consider the variety of other options strategies that take advantage of the present trend and allow you to continue to trade and profit in the SPDR 500 ETF.
Since Aug 6 2012 I have received about 400 emails from investors who seem determined that the S&P is going to pullback hard and they are going to make a tidy profit. But their trades are not working out. Instead many are ending up with daily losses and having to close their positions for small profits, small losses and in some cases big losses. It’s because the trend is still up.
Many of these investors who have written to me, have gone out two or more months with their SPY PUT options contracts convincing themselves that this will give them more time in case their trade doesn’t work out right away. They believe they can hold on, which many have done. In the end though when they see their losses mounting each day not just because the market keeps trying to push higher but also because options are a wasting asset and premium values decrease, they finally cave and close for losses.
Gambling With Your Capital On Spy Put
With the present overall trend being higher, using the SPY PUT Options to try to bring in some premium on tiny dips is just gambling. This is not investing. Unless you are the most nimble of traders or you have the patience to wait for your SPY PUT trade to hopefully turn in your favor you are helping only the market makers like Goldman Sachs make money.
Don’t Just Stick With The SPY PUT – Beat The Market Makers
Remember that market makers pay no fees. Even one cent is profit to them. When you close for a five or ten cents loss they are winning. Consider options strategies that beat the market makers at their own game.
S&P Chart and SPY PUT Trend Trading
The chart below shows July and August for using the SPY PUT hedge to generate income on downturns.
When the trend is clearly down, that is the time to buy and sell SPY PUT options. When you buy the SPY PUT options when the trend is clearly down you stack the odds of the trade working out in your favor. When the trend is clearly down, you can almost guarantee yourself that your SPY PUT trade will be profitable.
When the market direction is clearly down, even buying the SPY PUT contracts at the wrong time one day, often will result in a profit the next, because the trend is down and your spy put trade odds of success is stacked in your favor.
Even an overbought market is no guarantee that the SPY PUT Option will be successful. Overbought stock markets can surprise even the most seasoned investor to the upside. The S&P has been overbought for 4 trading sessions now and each day it continues to confound investors, retail and professional alike.
Stack The Odds Of Success With The SPY PUT Trade
Instead of fighting the trend, join it. If you want to trade within the SPY options all the time, STOP betting against the trend figuring you are going to make a big profit when you buy SPY PUT options and the market tumbles one day during the week. Instead realize that by following the trend you are going to make profits with every trade and stop the small losses which eventually add up to big losses.
The chart below shows how simple it is to follow the trend in the S&P 500. Even for those investors who scoff at stock market technical analysis, they can improve their trades by adding Momentum, the Ultimate Oscillator and Fast Stochastic.
The settings I use for a 6 month period such as below are Momentum at 10, Ultimate Oscillator periods of 5, 10, 15 and factors of 4, 2 and 1. The Fast Stochastic K period of 20 and D period at 5.
In the S&P 500 chart (SPX) for the past 6 months the Green arrows mark uptrends and the red arrows down trends. Every investor or options trader will have their favorite option trades whether as complex as a butterfly or as simple as buying or selling puts and calls.
The key ingredient is knowing when to apply the different options. I tend to stay to simpler strategies like selling options, buying options or credit spreads. I rarely do debt spreads as I always like to generate a profit from the outset of a trade. I also have a lot of rescue strategies that work well for me against my style of options trading.
Over the past 6 months though an investor could have used a chart such as below and done a lot of options trades and ended up with significant profits by simply not betting against the trend.
Spy 500 ETF and Momentum Technical Timing Tool
By adding momentum you are able to watch the market momentum to see if it matches the overall trend. For example the large pullback in May is confirmed by Momentum. This would have been a great time to be buying puts and either day trading or swing trading them or simply buying and holding the spy puts. In my SPY PUT trades I did exceptionally well in this period through buying and then selling SPY PUT contracts on primarily day trades. You can view those trades through this Spy Put link.
Another option trade that would have been profitable would have been spy call credit spreads. Basically selling spy call options and buying further out of the money spy calls in case the market came roaring back.
Therefore that period showed market down, momentum down which meant buying and holding SPY PUT contracts would certainly have been profitable. Following this period you can see a small green up arrow as the market bounced a bit and then selling continued right into the start of June.
Look at how momentum DID NOT reflect more selling but instead continued to climb despite the selling to a new low in June. This is what told a lot of traders that the lower low of June 4 probably was overdone and the market would bounce back up.
By adding the momentum indicator an investor could have decided to start selling SPY puts as of the start of June and those Spy Put Selling trades would have been incredibly profitable all thanks to the momentum indicator.
As well other option traders could have considered buying spy calls as momentum indicated that the selling was overdone in late May. Buying calls would have been an excellent strategy as well.
Another strategy that would have worked for late May and early June would have been put credit spreads. Basically selling puts and for buying out of the money SPY PUT contracts to protect against the market falling lower than anticipated.
Spy 500 ETF and Ultimate Oscillator Technical Timing Tool
The other stock market technical analysis tool that can be added is the Ultimate Oscillator. All an investor needs to do is set it up for the extreme readings of overbought and oversold. I have marked these with pink circles.
Again these extreme readings warn an investor what action to take. For example an extreme overbought reading can be used as a signal to do spy call credit spreads. In other words sell spy calls and buy further out of the money spy calls just in case the market pushes higher despite the overbought reading. Presently Spy Call Credit Spreads would be performing very well as the market is extremely overbought right now (Aug 15) and the market is having a lot of trouble pushing higher than 1405. Therefore a nimble options trader could have considered Spy call credit spreads.
The same applied to oversold indicators. When the oversold indicator is signaled, an options trader can consider selling SPY PUT credit spreads, the opposite of the spy call credit spread but the same concept.
Further, the Ultimate Oscillator can also be used for timing when to use the SPY PUT Hedge as I do. When the overbought indicator is flashing, such as now, I wait for the market to begin a pullback and then I go back to buying SPY PUT Options contracts for daily profit opportunities. I DO NOT buy my SPY PUT options to hedge until I see the market direction change. I stay with the market direction trend when using my SPY PUT hedge.
Spy 500 ETF and Fast Stochastic Timing Tool
The last tool I add is the Fast Stochastic Technical Timing Tool. The Fast Stochastic looks out just a day or two at most when predicting market trends. I use the Fast Stochastic to confirm both the Ultimate Oscillator and the S&P 500 chart itself. I have marked in blue circles the extreme periods which the Fast Stochastic has identified.
Fast Stochastic Extreme Oversold Signal
An extreme oversold (bottom) reading tells me to sell SPY Puts and I usually prefer naked spy puts but for other options traders consider SPY PUT credit spreads.
I have also tried using the extremely oversold readings for timing buying spy calls for a bounce back higher in the S&P 500 but that has not been as profitable as I would have preferred so I primarily now stay with stocks when the Fast Stochastic tells me that the overall market is oversold. Sell stock puts when the entire market is oversold has provided me with excellent returns and limits the chance of assignment in most stocks at that time as the majority of stocks follow the overall market direction trend.
However an investor could easily sell Spy Put credit spreads throughout a rise in the S&P 500, once they see a Fast Stochastic oversold reading.
Fast Stochastic Extreme Overbought Signal
The opposite applies to the extreme overbought (top) signals. When the Fast Stochastic climbs higher and reaches overbought I confirm this with the Ultimate Oscillator, glance at momentum to see if it has indeed stalled, such as now (Aug 13 – 15) and I would turn to spy call credit spreads and prepare for the market direction to change to down. Once it changes to down I then buy SPY PUT contracts for day trading.
Spy Put and Staying With The Trend
I never understand why traders second guess what the trend is showing them. As an options investor I am looking to profit from the trend. I am not trying to profit by gambling against the trend. I prefer consistent daily profits with the SPY 500 ETF than daily small losses while waiting for that big gain to prove me right. Consistency of income is what is important with options trading. That consistent inflow of profit is what compounds my available capital and increases my margin which again means even more options trades can be made in successive months.
While it is a wonderful feeling when a SPY trade wins big, try to set aside gambling in favor of astute investing. By trading with the trend and adding the above 3 stock market technical analysis tools to the SPY 500 ETF an investor can trade various options strategies throughout the weeks and profit with each trade rather than keep accepting small losses. I have never understood why it seems great if 65% of options trades work out and 35% fail as long as the “losses are small”. Instead consider staying with the trend and when the trend is not clear, staying in cash is always a great investment strategy to use. By reducing those 35% of losing trades to less than 5%, it will more than make up for sometimes having to wait in cash for a clearer signal.
Buying SPY PUT options when the stock market trend is not clear, sideways or up is gambling and betting against the chance of consistent profits by using a variety of option strategies to trade with the trend in the SPDR 500 ETF. When the trend is clearly down, the odds of success are stacked in your favor when buying the SPY PUT options and that’s what investing through options is all about.
Consider reviewing the various Spy Put Trades by years to see the value of trading with the trend.
What do you think? Is betting against the trend more gambling than investing? Post your stance in the comments section.
SPY PUT OPTION LINKS
Understanding SPY PUT Hedge Strategy Part 1
(When I Can Watch The Market During The Day)
Understanding SPY PUT Hedge Strategy Part 2
(When I Am Unable To Watch The Market)
Understanding SPY PUT Hedge Strategy Part 3
(Short version using only ultimate oscillator)