One of the best things about this website is that I come to know some amazing and some not so amazing traders in India.

Well unfortunately most traders are losing money. 🙁 Why people lose money is that they do not have a trading plan to execute when their prediction goes wrong. They simply do not know where to take a stop loss or to book a profit. I mean when you trade you should have a trade plan in place. You should know clearly when to take a stop loss and when to take out profits.

If you take a stop loss at 50% of your profits – even if you are right 50% of the times – you will make money. Risk management is the most important decision in trading which everyone forgets.

Some get too aggressive and lose money. (Aggressive traders lose the most). Some book profits at an early stage when more profits may have come. Some just start praying to Gods for help when losing money. I mean what can Gods do if you never had a trading plan or you over-traded? Some hope that one day before expiry Nifty will reverse trend and they will be able to book profits. And you know what – it gets worse on the expiry day.

Trying to make money on hope and praying to Gods when in trouble is a different chapter of trading altogether. Out of scope as far as this article is considered. 🙂 (BTW I have been there done that 😉 )

If these are your trade plans, how on earth you are going to make money?

When I lost 7 lakhs trading I thought I am one of the worst trader in the world. The day my losses touched 7 Lakhs I slapped myself – yes literally slapped. How can greed overcome me? How can I lose so much? I was young – I could have just kept the money in a FD and it would have grown at least 50% in 4 years. But once money goes it goes – it never comes back. You will have to work hard to make more money. This hard work has nothing to do with the lost money. That one pain is going to stay for long.

Today I consider 7 Lakhs as tuition fee to the stock markets. Today I know that 7 lakhs I lost was nothing compared to what some big traders lose. At least I stopped there, learned a lot from my mistakes and started learning options trading.

But traders out there just do not want to learn. If they earn a rupee they think they are smart and can earn more. And when they lose double that they blame on luck. This continues until losses runs into lakhs.

Read this and you will be in shock too. Some of the traders are running in losses amounting to tens of lakhs. One of them living in a small town in Andhra Pradesh is currently sitting at MTM (mark-to-margin) loss of Rs. 90,000,000.00 (90 Lakhs). Are you nuts? I mean most people on Earth cannot even earn that money in a decade and here is one guy who is just destroying his wealth. All this in span of two months. When I asked him why he did not take a stop-loss he said he hates taking stop loss. What an answer. Trading is a business and when in loss – you should take a stop loss or hedge your positions.

There is more. He told me there are many more people in that town who have lost more than that amount. If a small town in AP can have retail traders trading with more than 1 crore capital, then imagine how many traders are there in India trading with that much capital?

Another software engineer was sitting at a real loss of 45 Lakhs. He buys options. Well if you also do the same take this as a warning.

If its true that 95% of retail traders are losing money – imagine how much money is being sucked from the retail traders by the FIIs, DIIs, and smart retail traders.

I have found that losses do not accumulate in a day. If you put a frog in hot water, it will jump to save his life. But if you put it in cold water and boil it slowly – the frog will not come out and boil itself to death.

Which means losses keeps on accumulating and the trader brings in more money and keeps loosing. Only to realize one day that his looses are running into lakhs. By this time it is too late to recover.

All these things happen because we never have a risk management plan in place. Well most do not even have a financial plan in place. Risk management is a small portion of your financial plan. Below I will try to address both.

How do you make sure that Risk is properly managed and you do not lose more than you can afford while trading?

Here are some steps that you need to take immediately if you want a sound financial future:

1. Do not bring more than 25% of your savings into your trading account. First of all why do you want to bring too much money into your trading account? To make more money? Well if you cannot be profitable in a small account how can you be profitable in a bigger account? In fact traders who are losing money should not bring any more money into their trading account. You will lose even more. First prove yourself that you can make more than 2% profits per month in a small account on an average for the last 10 months. Once you have crossed that threshold – you can bring more money every month. Keep a fixed amount to add to your trading account every month for a certain period. Because if you bring in a lot of money at once and take a stop loss in a big trade – you can lose a lot of money. But a fixed amount will ensure a small loss.

2. If you trade on a leverage you should always hedge your position. Future and Options both are traded on leverage because you only trade with 10-15% of the value of the trade. If you make money that is good, but if you lose you will lose on the value of the transaction not on the margin blocked. This is even more important if you are keeping the position overnight. Lets say you have Rs. 50,000 in your account and you bought 2 lots of Nifty future risking everything you have in your trading account and next day there is a gap down of 300 points.

I bet you will square off your position in panic. This is what you will lose then 300 * 50 * 2 = Rs. 30,000.00. This is 60% of your trading money. Do you think you will have enough courage to ever trade again?

But had you done some kind of hedging – like buying OTM puts I am sure you losses would have reduced to 20% of your money. This will leave you with some courage to trade again.

In stock markets always risk what you can afford. The money that you cannot afford to lose should be kept in fixed return instruments. Let the financial analysts say that Fixed instruments are boring and all that – the fact is they themselves are doing exactly opposite to what they are saying.

They have a job right? So they will say what looks good, but may not work as suggested. Which is better – losing money trading or putting money in an FD that generates 9% return every year for doing nothing?

Long back I had written an article on investment opportunities in India. It is highly recommended that you read that.

Here is how you should divide you savings. I believe in 25-25-25-25 rule.

(This is my belief – yours may differ – but I believe dividing money in different assets class. This will ensure less volatility in our financial portfolio.)

This is what I do (and you can do too):

25% of what you save should get into fixed return instruments guaranteed by Government of India. These are bank fixed deposits, post office schemes, EPF, PPF etc.

25% of what you save should get into diversified equity mutual funds. Select 3-4 different mutual funds based on their last 5 years performance. Invest only in 4 or 5 star rated funds by value research. These funds should be from different fund houses and their investing style should also be different. For example you can select one large cap fund, one mid cap fund, one small cap fund, and one thematic fund in a sector you believe in. Invest through SIP (Systematic Investment Plan to take advantage of averaging your cost of buying these funds). If possible invest in Direct plans to save money. Review every year to change any fund that is not performing.

I was surprised to know that most option traders do not invest in mutual funds. Why? They do not need your time and hard work. A very qualified fund manager works on your behalf. The fee they charge is also less – so why not make use of this great opportunity? Over a long period of time good mutual funds can generate 12-15% returns a year. Without any work I think it is a fantastic return.

25% of what you save should get into good large and mid-cap equities. Yes direct buying of stocks for long term. Here too buy systematically every week or month. Never buy any stock in bulk. If you have any stock that you want to sell, its better to start a covered call rather than direct selling. That way you will still make money if the stock does not reach your call strike price.

25% of what you save every month may come into your trading account. Since this is the most riskiest of all the above investments – you should have a limit to how much big your trading account should be. This will differ from person to person but you should know your limit here. Once that limit is reached – you know that it is the maximum you will lose if anything horrible happens. Once this limit is reached – do not bring any new money to your trading account. Just reinvest the profits and compound it. Compounding is magical and therefore you need not bring more money to it once the limit is reached.

One more thing – instead of putting surplus money in your bank you can put them in a liquid mutual fund. These funds generate 8-9% returns a year. This is much more than 3.5% Indian banks give as interest. Liquid funds have no entry or exit cost – so they are as good as any bank deposit. What’s more you can invest online and withdraw money to your bank account online.

Also if you are the head of the family and your family depends on you financially, you should always buy a term insurance policy. In case something happens to you – your family will get the sum assured and at least financially they will not be worried. Buying them online will be cheaper.

Of course now days everyone has a medical/health insurance. If you don’t have one – buy as soon as possible. Don’t forget to have a family floater plan that will cover all your family members. One major health issue to any family member can make a huge dent into your savings. Health insurance is a must.

As you can see I have not included real estate, gold and ULIPs in my investments. These are one of the most sought after investments in India. But I do not like them for the following reasons:

Real Estate: Will eat up a significant portion of your savings. If you have not timed your buy correctly or were not able to negotiate well, you will find it hard to find a buyer to sell in profits. Its a big investment – it carries a major portion of your savings so you will always be worried. (I hate worrying about money) Every month you will have to pay the mortgage, pay electricity bills, municipal taxes, clean the house etc. Repairs costs money too. Mortgage costs money. If you want to rent then finding a good family for renting is not an easy job. When they leave you will have to spend a lot on repairs, paintings etc.

People like us can invest in at most two houses. One where we live and another for investments. Investment in just one real estate is a hit or a miss thing. Either you make good money when you sell or you make average or even a loss. To make good profits you have to keep it for ten years at least. And if you make only 10% compounded annually minus your expenses, you made less than what a good mutual fund could have made without any work on your part. Not a smart choice in my view. If you want to invest in real estate just buy one property where you can live.

Here are more links about why real estate is a bad investment:

http://www.iwillteachyoutoberich.com/blog/surprising-real-estate-investing-myths/

http://www.cbsnews.com/news/history-says-home-real-estate-is-a-bad-investment/

http://www.myonemoney.com/inside-edge/money/278-why-owning-a-home-is-a-bad-investment–but-often-a-smart-decision

Gold: This is another investment I hate. Gold will never beat equity returns over a 10 year time frame. Still if you want to invest in Gold – you should invest in Gold ETF every month or do a SIP in a good Gold fund. Redeem them when your kids get married to buy gold and/or when you want to buy gold for any occasion.

ULIPs – Unit Linked Insurance Plans: Worst investment ever. Government of India should ban ULIPs. Even if markets give a return of 30% – ULIPs will only generate 10-15% or even a loss. Because its a costly investment. A major portion goes into buying insurance for the owner. Yes you may not get anything in return in a term insurance if you survive the term – but if something happens to you then ULIPs will not give your family the kind of money they need. It won’t solve any purpose. Moreover its market dependent. When it is redeemed and markets are down you may lose money. Keep your insurance and your investments separate and you should get better returns. ULIPs do not solve the purpose of either insurance or investments – so they should be avoided.

IMP: Every quarter you should count your worth. This will help you know your wealth and what you can expect from future. It will also tell you any mistakes you made in the past. This will help you to plan well. If you are strict with your finances, I assure you will only get richer with time.

Happy Investing and Wishing You the Best For Your Future!

Disclaimer: The views expressed in this article are of the author. Please do your own research before investing money in anything. This is the way I manage my finances and am comfortable. Your situation may be different. Therefore you may want to take a different approach. The only benefit of the above investment approach is that the finance portfolio is less volatile. However it is recommended that you do your own research before taking an investing decision. Do not take investment decision in a hurry.

If you have read my post on Long Call Butterfly, this trade will be easy for you to understand. Results for the Short Call Butterfly will be exactly opposite of the Long Call Butterfly.

Lets discuss the trade straight away.

When should you trade Short Call Butterfly?

You should trade this strategy when you think that Nifty will move away from the current strike and expire 100-200 points away on the either side – up or down does not matter.

Three trades are involved (note that these trades are exact opposite of the Long Call Butterfly):

1) Buy 2 lots ATM (at the money) Call Options
2) Sell 1 ITM (in the money) Call Option
3) Sell 1 OTM (out of the money) Call Option

Risk: Limited
Reward: Very Limited

Now lets take a real world example and what profit or loss the trader can make.

(Spot Nifty – 7905. Prices as of August 26, 2014 after markets closed. India VIX (Volatility) – 13.90 – Average. Taking September 2014 expiry as August expiry in 2 days. Option prices rounded off for clarity.)

1) 25-Sep-14 CE 7,900.00: 135.00

Buying 2 Lots = 135*50*2 = 13,500.00 (Debit from account)

2) 25-Sep-14 CE 7,800.00: 200.00

Selling 1 Lot = 200 * 50 * 1 = 10,000.00 (Credit into account)

3) 25-Sep-14 CE 8,000.00: 83.00

Selling 1 Lot = 83 * 50 * 1 = 4150.00 (Credit into account)

Total credit: 10,000 + 4150 – 13,500 = 650 (This is the maximum possible profit)

Total margin blocked: 62000 (approx)

ROI: (650/62000) * 100 = 1.04% in 30 days. In my view this is slightly better than a bank fixed deposit, and at par with many mutual funds. Any strategy that makes less than 2% in 30 days should not be traded. Trading is a business and returns should be attractive.

Return on investment is poor – in fact it is very poor. Such trades with low ROI and high risk are best avoided.

We will now see that risk-reward ratio in this trade is pathetic too – but success rate is good as there will be a movement in Nifty and near expiry if Nifty is away from the strike price of the bought calls – on either side, the trader can book his profits. But unfortunately one loss can take away months of profits. So lets try to find what happens if this trade is successful and what if not.

Lets take an example of when this trade is successful:

Nifty is exactly 200 points above bought call strike price of 7900: 7900 + 200 = 8100 on expiry day.

Calculations:

1) 7900 CE is 200: Profit: 200 – 135 = 65 * 50 * 2 = 6500
2) 7800 CE is 300: Loss: 200 – 300 = -100 * 50 * 1 = -5000
3) 8000 CE is 100: Loss: 100 – 83 = 17 * 50 = -850

Total profit: 6500-5000-850 = 650

Note that profit remains same if Nifty is above this anywhere.

Lets take an example of when this trade is successful on the down side:

Nifty is exactly 200 points below bought call strike price of 7900: 7900 – 200 = 7700 on expiry day.

1) 7900 CE is worthless: Loss: -13500
2) 7800 CE is also worthless: Profit: 10000
3) 8000 CE is also worthless: Profit: 4150

Total Profit: 10000 + 4150 – 13500 = 650

Note that if Nifty is anywhere below this on expiry day, the results will be same. The trader will make a small profit.

Now lets analyze the situations where the trader can make a loss.

Nifty is exactly on 7900 on expiry day – the strike price of the bought calls.

1) 7900 CE is worthless: Loss: -13500
2) 7800 CE is 100: Profit: 200 – 100 = 100 * 50 = 5000
3) 8000 CE is also worthless: Profit:: 4150

Total loss: 5000+4150-13500 = -4350

Nifty at 8000:

1) 7900 CE is 100: Loss: 135 – 100 = 35 * 50 * 2 = -3500
2) 7800 CE is 200: No Profit No Loss as it was 200 = 0
3) 8000 CE is worthless: Profit: 83 * 50 = 4150

Total Profit: 4150-3500 = 650

We have already calculated 8100 and above will be same.

Nifty at 7800:

1) 7900 CE is worthless: Loss: -13500
2) 7800 CE is also worthless: Profit: 10000
3) 8000 CE is also worthless: Profit: 4150

Total Profit: 10000 + 4150 – 13500 = 650

We have already calculated 7700 and below, the results will be same.

So what do you make out from this trade? This is one of the worst trades to try out. Agreed mostly you will make a profit, but one loss will take away nearly 7 months of profits (4350/650 = 6.7). I have not even added the brokerage to this profit of 650. 4+4 = 8 trades are involved to open and to close. Calculate yourself what kind of profits remains even if this trade is successful most of the times.

My advice: Stay away from such trades when risk-reward is pathetic and on top of that you may be hoping that Nifty is nowhere near the bought strike price during the expiry week.

How To Adjust A Short Call Butterfly:

This is also a set-and-forget trade. If you see profits (even a small one) on any day before expiry – it is advised that you close the trade because at any cost you should not take the maximum loss.

If you keep rolling over whenever Nifty comes near the bought calls strike – you will take a loss every time you do. Therefore rollover is not recommended.

You cannot wait till expiry as this trade can make a big loss on that day. Also you will not get good profits when Nifty is away from the bought calls strike price and expiry is not near. When you close it few days before expiry, you may make some money but that will be less than the max profit. On top of that, eight transaction will involve a lot of money in brokerage.

Therefore this is a trade better avoided.

Have you ever traded a Short Call Butterfly? I am eager to know the results.

Most traders who call me to inquire about my course tell me that they know how to trade a butterfly. In fact this is first of the many trades they tell me they know. Strange it seems, but it looks like most Indian retail traders love to trade butterfly. Well frankly butterfly trade is not as easy as it seems and contrary to what many traders believe, it is a trade where some kind of prediction is required. Technically therefore it cannot be considered a non-directional trade.

Personally I stay miles away from a trade that needs any kind of prediction.

Do not get me wrong – a butterfly trade can be very profitable if the stock behaves the way the trader wants it to, but for that matter which trade does not make money if the view of the trader was right?

Anyway lets discuss the long call butterfly trade:

Traders view: If a trader believes the stock/index will be trading in the near term in a very narrow range, they can initiate a long call butterfly trade:

1. Sell 2 ATM (at the money) Call Option
2. Buy 1 ITM (in the money) Call Option for protection, and
3. Buy 1 OTM (out if the money) Call Option for protection.

All of the above options should have the same expiry date and of the same stock or index. Note that since 2 options were sold, 2 were also bought for protection.

Risk: Limited
Reward: Limited

Just like any other trade I explain in my website let me take a live example. Nifty on 12-Aug-2014 closed at 7727. So let me assume that for the next few days until August expiry, Nifty will remain range bound and will expire at around 7700.

Lets do some paper trading. Here is 12-Aug-2014 closing prices rounded off:

28-Aug-14 CE 7,700.00 107.00 (ATM) – We sell 2 lots
28-Aug-14 CE 7,600.00 178.00 (ITM) – We buy 1 lot
28-Aug-14 CE 7,800.00 55.00 (OTM) – We buy 1 lot

Lets do the long call butterfly trade:

1. Sell 2 7700 CE: 107*50*2 = +10700
2. Buy 1 7600 CE: 178*50 = -8900
3. Buy 1 7800 CE: 55*50 = -2750

Total money debit: 10700-8900-2750 = -950. This is the maximum loss this trade can have.

Lets examine the results on the expiry day:

Scenario 1) Nifty expires at 7700:

7700 CE expires worthless: +10700
7800 CE also expires worthless: -2750
7600 CE loss 78 points: -3900

Total profit: 10700-2750-3900 = Rs. 4050.00

ROI: Assuming Rs. 60,000 was blocked as margin for the whole trade. (Rs. 25,000 approx is blocked as margin for selling one lot of option. For 2 lots approx 50,000 will be blocked plus one ITM option was bought for 8900 – so the figure 60,000 was reached.)

(4050/60000) * 100 = 6.75% returns in 16 days. Excellent returns considering the number of days. Note that such an expiry is rare. So the profit depends on where exactly Nifty expires. 6.75% return is a gamble. 🙂

Scenario 2) Nifty expires at 8000:

7700 CE is 300. Loss: 300-107 = 193 * 50 * 2 = -19300
7800 CE is 200. Profit: 200-55 = 145 * 50 = +7250
7600 CE is 400. Profit: 400 – 178 = 222 * 50 = +11100

Total profit/loss: 11100+7250-19300 = -950

Scenario 3) Nifty expires at 7400:

7700 CE expires worthless: +10700
7800 CE also expires worthless: -2750
7600 CE also expires worthless: -8900

Total profit/loss: 10700-2750-8900 = -950

Conclusion: The reward though limited in the call butterfly is excellent if the prediction goes well and the stock expires very near the sold options. The risk is less compared to the reward. Unfortunately even though the risk-reward ratio is good in a call butterfly trade, the problem with the trade is predicting where the stock will be on the expiry day.

As a trader I am extremely averse to trades that need me to predict the direction of the markets. This particular trade needs predicting, so I do not trade butterfly.

Note that one can also do a put butterfly trade using only the put options and the results will still be similar. But for some strange reasons traders usually trade butterfly using call options.

Adjusting the butterfly:

You can rollover the butterfly upwards or downwards as the stock moves, but every time you do it there is a chance of losing money. Therefore rolling over is not a good adjustment to a butterfly. On top of that it will involve eight trades in every adjustment. This is not a good way to trade options.

So the best adjustment is to take a stop loss.

Now in real world scenario. How many times do you think in a 30-day period a stock or index will be trading in a very tight range? I do not see it doing in any 30 day period. A big movement will come someday or the other and the trader will have no option but to take a stop loss. I will go on to say that if you take a stop loss with every 100 point movement in Nifty, then for sure you will take it 100% of the times. You can never make money taking a stop loss or rolling over in this strategy.

Then what is the best way to play long call butterfly?

Basically a butterfly is a set it and forget it trade. Since risk is very small compared to the reward, a trader can set the butterfly trade and leave it till expiry. You already know your max loss, and if you are comfortable losing that money – just do not adjust. On expiry day if you are lucky, you can make a decent return. That is why the long call butterfly is more a gambling than a trade.

Another idea is to play it only on the expiry week. Traders can get some idea on where the stock may expire and those are the options that you may sell. For five days Nifty may be in a very tight range and there are high chances that this trade may be profitable.

Note that risk-reward is the same even in the expiry week, so trading this in expiry week makes sense.

Short strangle is exact opposite of long strangle. I will discuss it soon but before that I would like to tell something. Since I started the options trading course many traders have called me. Most of the traders actually trade this particular trade and you know what, they lose money.

I feel bad when I see that most traders lose money. I can only see that the main reason is greed. You will soon learn that short strangle is such a trade that it will tempt you to be greedy. This is a trap and most traders fall for it. The results? They lose money.

How to Trade the Short Strangle?

In Short Strangle a trader will SELL an OTM (out of the money) call option and simultaneously SELL an OTM put option. Remember in long strangle a trader buys an OTM call option and an OTM put option.

IMP: The total lots sold for the call option should be equal to the total lots sold for the put option if you want a neutral Short Strangle.

Reward: Limited to the premium received
Risk: Unlimited. Let me warn you – losses can be severe.

In other words – we do not sell the call option to make money, also we do not sell the put option to make money. We sell call option as a hedge against the put option and we sell the put option as a hedge against the call option. Therefore lots of both the options should be same.

Now you should understand this – if the call option loses money, the put option makes money. And when does that happen? When the underlying goes up. Similarly if the put option loses money, the call option will make money. When does this happen? When the underlying goes down.

What happens if the underlying does not move? This is an excellent situation. Time will eat the premiums of both the call and the put option. If the underlying does not move much and remains range bound – both the options will expire worthless and the trader can keep the premium.

As you can see, at least one position always make money or both positions makes money. Good news right? Well this good news is actually a trap and many Indian traders fall for this trap.

They just sell both out of the money call and the put options. Next day when they see money in their account – they feel very good as if they have actually won the trade. Little do they realize that they are sitting on a hot tub and the day it gets overheated – they will burn their fingers.

Do not underestimate this trade. I used to trade this trade myself. Trades who trade Short Strangle know that getting returns of 15% or more per month is possible in this trade. Its a nasty trade, when all goes fine – its a superb trade, but when it does not work – it takes away all your profits made for the last few months and then some principal amount too.

When trades win, they think they are masters. And when they lose – they just blame it on luck.

3 months of laughter, and 1 month of destruction. Overall in 4 months time the trader looses money. Then he thinks OK, this was the last time I lost money and it will not happen again.

Unfortunately, the cycle repeats again and again. They remain where they were years back.

If you are trading Short Strangle you should always buy some protection on the call side as well as on the put side. In my course on trading options you will learn some hedging techniques that will help you to limit your losses.

Let me take a practical example:

Nifty is at: 7750.

So lets do a Short Strangle.

Lets sell OTM call strike price 8000 of August 2014 series. It is currently priced at: 38.00
Lets also sell OTM put strike price 7500 of August 2014 series. Currently priced at: 37.40

The total points received: 38+37.40 = 75.40.

Now lets calculate the break even point:

On the upper side:

8000 + 75.4 = 8075.40

On the lower side:

7500 – 75.4 = 7424.60

Which means if Nifty expires within this range: 7424.60 to 8075.40, then the trader will make money, or will at least not lose money.

It looks like a very easy trade. What is the probability that Nifty will go above 8075 and go below 7424 within the next 30 days? Yes today the chances of moving this much looks small, and the trade looks good. But I can guarantee you the situation will not be same after 10 days.

This is the trap. Traders think Nifty will not move beyond this as today it looks impossible. But when Nifty will move 100 points in a single day – the probability of moving beyond these limits will start to get bigger. If it actually goes there the trader will panic and take a stop loss.

It does not happen every time though. Sometimes both the options expire worthless and its party time for traders. Only if making money was so easy. 🙂

The fact is. It is not an easy trade. When Nifty starts to move in one direction, that side of the option starts swelling in value. The other side starts to shrink – but the problem is it can only shrink to 0. The trader has a limited profit there. After that the losses are unlimited.

How to adjust the Short Strangle trade?

1. One of the best ways is to take a stop loss. Once you take a stop loss – your losses cannot accumulate. Then enter the markets again when the picture becomes clear.

2. Another way is to buy options. But by the time you will want to buy an option for protection – you will see that the options have become very costly. But if you want to hedge, you have to buy it.

I can teach you some great hedging techniques in my Nifty Option Course. Using these hedging strategies you can make monthly income peacefully up to 5% a month. Contact me if you want to learn.

One day a trader from Bangalore called me and told that he does Short Strangles. I asked him what does he do when Nifty starts to move beyond his break even points? He told me then he buy/sell futures.

This is a bad adjustment. Why? What if the markets reverses from that situation? Future moves one point with every one point in Nifty. If next day Nifty opens against the future gap 200 points – 3-4 months of profits gone.

I asked him – do you make money. The answer was obvious – No. 🙂

3. Another good adjustment strategy is to rollover the position. Yes it is good, but the problem still remains. Most of the time when you adjust, you will lose money in Short Strangle. So you should try to rollover soon. In that case you will keep rolling over.

If you do not know what rollover means then it is closing the current position and at the same time or soon opening another Short Strangle of the next month expiry. Traders can also change the strike prices.

So you should know to create a level where you will either take a stop loss or rollover the position. When you rollover you should make sure you have made the trade somewhat natural. Which means the premium collected from the call side is equal to the premium collected from the put side.

This will make sure that profits equal the losses up to certain extend. Also you should try to book profits and exit the strategy as soon as possible as this is an unlimited risk strategy. For example if volatility drops you can make good profit in a few days. You should then exit the trade.

4. And the best adjustment advice: Do not get greedy and trade too many lots when trading Short Strangle. Yes receiving money the next day looks good, but your job is to protect that cash. You will be very worried if Nifty starts to move against your trade.

If you want to trade Short Strangle on Nifty I would advise never increase the lot size to more than two, I mean two lots on the call side and two lots on the put side.

5. Never trade them on stocks. Stocks can rise or fall 10% in 1 day. You may wipe out your account in matter of days.

Have you ever traded short strangle? What was your experience?

A lot of my customers of the options trading course asked me a question – why I do not provide Nifty option tips?

Well two reasons actually:

1. I am an active trader. If I start providing tips my whole psychology will change as my mind will not be free. When my own money is at risk, it is OK to trade freely. I know that even if there is a loss, I will manage it and make money from the next trade. But when I know that a lot of people are following my trading tips blindly, I will either wait for the best time to enter the market which may never come for days and/or try to make money from every trade which is impossible. I will not be able to trade freely. Everyone will suffer.

2. I have started this website to teach traders option trading strategies. Most of my material is free. You can search this website and get a lot of strategies for free. However there are some strategies that almost always work and that is exactly what I teach my customers. There is lack of education in option trading in India, my objective is to teach people options trading through this website so that they can help themselves rather than depend on someone else for tips.

And if you think Nifty option tips providers will make you money, think again. I have also fallen prey to them. Here are some reasons why they won’t make you any money.

1) I have lost lots of money to them – they do not work. Period. You will lose money by paying them AND you will lose money trading their tips. If they were right, why should the option trading tips company give you any hot tips, rather they should invest it themselves and make a lot of money.

Hint: Does any of the insider trading guys sell their tips? They trade themselves.

Some trading tips providers argue that they give these services to raise capital and make more money. This is not true. They show a return of more than 100-300% per month in their performance sheets. Well, even at 100% per month they can very well start with 1 lakh and make it 409,600,000.00 in 1 year. That is 1 lakh converted to Rs. 40 crores and 96 lakhs in 1 year. Almost all of that is profit. Now tell me why should they give you tips?

Do you think this is possible? Even if it’s possible why the hell on Earth will they offer you this great money making tip for a few thousand rupees a month? If they are really that good they should charge 20% or more of the profits, if profits were made.

You will not find any options trading tips providing company offering such a service in India. I have not heard even one. All they ask is a fixed sum for the tips they provide BEFORE offering tips for the month. They know very well that a customer will book a big loss within three months and stop paying.

If they get one customer, they only keep him/her for 3 months on an average. Some customers stay even less. And then these people hop to another tip provider in the hope of making money not realizing that they are making money for someone else. They make the tips providers rich and themselves poor.

These people won’t make you rich. They want your money. That’s the reason why they employ marketing people to market their products. If they are really that good, word of mouth marketing should get them customers. They do not need marketing people to get customers.

If you want to read a practical experience you can read it here.

Do not fall for them. Do not fall for any marketing guy from any Nifty option tips providing company. Educate yourself and learn to trade yourself. Make yourself rich and be proud.

2) Stock markets are more of a strategy and knowledge based industry. People who are looking to make money in the stock market by using someone else’s strategy will not succeed in the long run. Simply because they will never know why the tips providers asked them to buy/sell X or Y stock, and then why asked them to sell/buy at a particular point.

If you make money trading their tips one day, the next day you will double your trade only to lose double the amount. Next day if again you win, you will double again the amount. This will happen until one day you will lose so much that you will stop trading their trades.

It will also affect your quality of life. If they do not send you tips, you will feel bad. Your job will suffer. You will feel like trading their tips even if for a loss. You will keep checking your mobile for their tips. Trading will become a gamble for you, not a business that you should take seriously.

One day suddenly if they stop sending their tips you learned nothing and you will then start looking for another Nifty option tips provider. The poor subscriber starts from scratch. Bottom line – you will never be self dependent. You will never learn how to make money from the stock markets and you will therefore keep losing money. You will keep hopping from one tips provider to another. Until one day you will blow your account and stop trading all together.

Coming to the point – then why I am offering a course in options trading?

I am consulting, not selling anyone any hot tip. You will gain a lot of knowledge, unlike the tips providers where you gain nothing.

Once you get option trading education and knowledge of great strategies that work you need not depend on anyone else for the life of your trading. You can generate your own tips and make money trading options.

If you won’t educate yourself on options, you will keep losing money. And that is guaranteed.

All over the world especially the US, volatility trading is very popular. Its has a lot of benefits. For example if you have a big portfolio of stocks and you feel the stock markets in general may head south (going down) and the volatility will increase, you can buy the volatility futures. In that way if it increases, you can make money.

What is Volatility:

Well volatility is nothing but the “fear factor” in the market. If there is a lot of fear, like a war going on, or some kind of big news coming the volatility usually goes up. If there is any kind of uncertainty in the markets, in the country of the stock market or the world itself (like war between two countries, big bank declaring bankruptcy or any country’s economy showing signs of recession etc), the fear factor will increase.

If fear factor (the risk factor actually – the risk of investing in the stock market) increases, the volatility will reflect that. If volatility increases the option prices – calls and puts – both will increase. If volatility decreases the option prices – calls and puts – both will decrease.

It should be quite obvious now that since most of these are bad news, the fear factor increases and the markets tumble. During normal times volatility calms down and stays in a range.

You can get the current India volatility also known as India VIX here:

http://www.moneycontrol.com/indian-indices/india-vix-36.html

Note: Sometimes the volatility may increase even if the markets are going up. For instance the recent general election in May 2014. Up to the election results’ dates the volatility just kept increasing. WHY? Because the markets had no idea which government will come to power. This was a big news. There was an uncertainty in the markets. Whenever there is an uncertainty the volatility will increase.

Since the market was hoping that BJP will come to power, it was going up – but fear was also increasing day by day – so the volatility was also increasing.

But in most cases, the markets and volatility go in opposite direction. In the US, you can also trade options on volatility. There the traders buy call/sell puts if they think the markets will fall and volatility will increase. If that happens their portfolios worth goes down, but they recover some money from the volatility calls bought or sold puts.

A 10% jump in volatility is very normal if the news is bad. Since it is leverage, the traders make good money.

It was a long demand of the market participants in India to bring in the volatility trading.

In Feb 2014 Nifty introduced volatility trading in their platform and officially the first day of NVIX trading was on 26-Feb-2014. Right now only futures can be traded. After some time they plan to introduce option trading on volatility too. I am eagerly waiting for that. 🙂

Here are some of the contract specifications taken from http://www.nseindia.com/:

Underlying: India VIX Index
Symbol: INDIAVIX
Futures name: NVIX (not Nifty VIX Futures)
Can be traded on: NSE
Instrument Type: FUTIVX
Lot Size: 550 (Revised on circular dated June 24, 2014)
Quotation Price: India VIX Index * 100 (means if VIX is 15.56 the quote will be 15.56 * 100 = 1556)
Contract Value: Minimum Rs. 10 lakhs at the time of introduction
Tick Size: Rs.0.25
Trading Hours: 9:15 AM to 3:30 pm
Expiry Date: Every Tuesday of the week
Contract Cycle: Weekly – 3 contracts
Contracts: Near, Mid & Far
Final Settlement Procedure: Cash Settlement
Final Settlement day: All open positions on expiry date shall be settled on the next working day of the expiry date (T+1)

How does this help option traders in India?

If you are an option buyer, volatility is your friend. But if you feel that volatility may decrease, your option prices may decrease in value. So you can sell NVIX. In that case if volatility decreases, you will make a loss in the options bought but will make a profit in the NVIX sold.

Similarly if you are an option seller, volatility is your enemy. If it increases, your options will also increase in value and you will be making a loss.

In that case an option seller can buy the NVIX futures. If volatility increases, you can make a profit in the NVIX futures, but you may make a loss in the options sold.

Important Disclaimer: Please remember that inverse may also happen. For example you bought a call option and sold NVIX. It can happen that volatility may increase and the index also falls very fast. In that case you will be losing money in both the NVIX futures and the calls bought. Why? Because the volatility is co-related to Nifty. You have bought a call and Nifty is falling – upto a certain extend the volatility increase may help, but if the fall is steep no volatility can help you. To some extend it may, but for that to happen the volatility will have to explode – increase by a huge percentage points. Under normal circumstances that rarely happens. You may lose money in both NVIX and calls bought. Trade with caution. You are better off buying a debit spread.

I am big fan of conservative trading. All my positions are properly hedged. This is one hedge position in my view not a great hedge. If there is a possibility that I will lose money in both the positions, I run miles away from that trade.

However just for reference I am writing here trades that can be done as hedging your options portfolio with NVIX:

Call Option Buy : Sell NVIX
Put Option Buy: Sell NVIX
Call Option Sell: Buy NVIX
Put Option Sell: Buy NVIX
Credit Spreads: Buy NVIX
Debit Spreads: Sell NVIX
Iron Condors: Buy NVIX

Investors can also straight buy/sell NVIX if they have a view. For example if an important news is awaited, you can buy NVIX, and on the day of the news before the news declared, book your profits and then sell NVIX.

Caution: Timing is not that easy.

Lets see how much risky is NVIX trading:

NVIX Futures price is the current volatility * 100 + some premium.

For example if the volatility is 18.1325

18.1325 * 100 = 1813.25 + 1.5 premium (approx) = 1814.75

Lot size is 550 = 1814.75 * 550 = 9,98,112.50

Ticker size is: 0.25 (If volatility increase by 1 ticker it is equal to 0.0025 and NVIX will then increase by 0.25 (0.0025 * 100))

Lets suppose volatility increased by 0.0025. So NVIX also increased by 0.25.

= (1814.75+0.25) * 550 = 9,98,250.00

Lets check the difference:

9,98,250 – 9,98,112.50 = 137.50

You can also get this figure by: 550 * 0.25 = 137.50

Which means for every ticker move a trader makes or loses 137.50.

Please note that lot size can differ from time to time. NSE will release the circular when the lot size will change. Currently lot size of NVIX is 550.

How volatility is calculated?

Its a complex mathematical formula. But in short it is computed by NSE based on the order book of options. All options and not just Nifty options.

Only near and next months bid and ask quotes are taken. If there is too much of sudden demand of options, VIX increases. If everything is normal VIX will reduce. The VIX that you see is the perception of the markets for the next 30 days.

When the VIX is high you will see that markets will have wild swings. It will go up and/or come down swiftly. During these times it gets very difficult to predict market direction.

When the VIX is high, most traders sell options. When its low they buy it. But today you can make more money by selling VIX futures if you think the volatility will calm down, and buying it if you think it will go up.

Some other important things on volatility:

1. VIX has a strong co-relation to Nifty movements. If Nifty falls, VIX increases and vice-versa.

2. India Vix has a mean of 26.65 and a median of 23.83. VIX reverts to mean, so option traders can make a note of it.

3. VIX is always expressed in percentage terms. It can never be lower than 0 or greater than 100.

4. Its easier to predict volatility. For example if a news is pending the volatility will increase until the news is out. Buy before news, sell after it.

5. You will need around 2 lakhs rupees as margin to buy/sell VIX Futures. Most retail traders do not trade VIX futures. One lot value is almost 10 Lakhs. But if your prediction is right, you can make amazing returns. However losses can also be huge.

Disclosure: In full disclosure I have never traded NVIX (VIX Futures). Although I have the intention to trade VIX options if they are introduced in India. This article is written for people interested in trading VIX. I am a conservative trader and am happy trading Nifty options. I like to take small profits and small manageable losses. Please use your own discretion before trading VIX Futures.

Some important references:

http://www.nseindia.com/content/indices/India_VIX_Brochure.pdf
http://www.nseindia.com/content/circulars/FAOP25802.pdf
http://zerodha.com/z-connect/queries/stock-and-fo-queries/trading-india-vix-simplified
http://www.business-standard.com/article/markets/10-things-to-know-about-india-vix-futures-114022600305_1.html
http://www.moneycontrol.com/news/market-news/how-will-vix-futures-work-iisl-answers_1045014.html
http://www.moneycontrol.com/news/market-news/tradingvix-futures-to-kick-off-tomorrow_1047948.html

Long strangle is very rewarding if market moves in any one direction rapidly. The last one word is very important – the market has to move in any one direction – up or down – RAPIDLY or Fast. If it does the long strangle trader will make unlimited amount of money else the losses are limited.

I actually hate this “unlimited amount of money” thing. I mean really? When was the last time you made unlimited amount of money? Somewhere a trader will book his profits. Why these so called experts say on this, and some other strategies like options buying can make unlimited amount of money, is what I fail to understand.

Unfortunately technically I have to write this that long strangle makes unlimited amount of money and losses only limited amount of money. Please don’t fall for this trap though. Predicting market direction is difficult if not impossible. However you can see that with this strategy you only have to predict if the markets will move fast and deep in one direction – the direction itself is not important. So here there are some advantages. We will look at that later.

How to Trade Long Strangle strategy:

1. Buy option or options on the Call side any strike price.
2. Buy the same number of options on the same underlying Put side any strike price different than Call strike price.

Note: Most traders buy out of the money options for both calls and puts. How far depends on the trader.

Risk: Limited
Reward: Unlimited

So lets say if you feel Nifty will move within a few days very fast in one direction, due to the upcoming budget on 10th of July, 2014 – you can buy an OTM Call option strike price 7800. And at the same time you can buy a OTM put strike price of 7200. Nifty currently at the time of writing this article is at 7504. Once the trade is complete you just bought a long strangle.

Lets go and check their prices:

31-July-14 CE 7,800.00 56.00
31-July-14 PE 7,200.00 42.00

Once you have put the long strangle trade you should know your break even point.

How to calculate the break even points of long strangle?

Add both the points of call and put option. Now when selling you should get the same points – and that is your break even point.

Since usually traders do not leave this position till expiry I will not calculate the break even point till expiry. In our example our break even is: 56+42 = 98. If you need to make a profit, you need more than 98 points in total while selling the call and the put option.

Disclaimer: By the time this goes live on my blog these prices may have changed. Please do not trade this strategy just because it is mentioned here. This is for example only.

Note: You can literally buy ANY strike price of these options. If they are of the same strike they will be technically called Long Straddle. Both the Long Straddle and Long Strangle will profit if markets take a fast direction either side. However the difference lies in the money you have to pay upfront to buy these options. In a Long Straddle you will have to pay more as either both of the options will be ATM or one of them will be deep in the money. However with long strangle your costs will be less as usually traders buy options out of the money for both the calls and puts. This will limit your risk.

Imagine you bought options closer to the money – you would have to pay more for the strangle. And if the markets did not move and stayed in a range – you will lose much faster than someone who bought the out of the money options. On the other side if markets did not make a significant move but still made a good move – there is a chance that the trader who bought options closer to money will make a profit, but the trader who bought the OTM options may lose money.

WHY?

You see options closer to the money will move faster than the options that are further out of the money. So if the markets are going up – the closer to the money call options will increase in value faster than the OTM calls. Of course the near the money puts will also be losing money fast, but this strategy is profitable only when the market move is significant. If the value of one option moves faster than the one which is losing money – the trade makes money.

If the options are deep out of the money it needs a big and substantial move for it to be profitable. If that move does not happen – the trade will lose money. If the move is indeed significant the trader who bought the OTM options will make more than the one who bought the options closer to the money. Simply because there is not much to lose in any of the option.

It takes us back to the question. Which options to buy when playing the long strangle?

Very tricky to answer this one but I will try. First of all you should trade this strategy only when the markets are expecting major moves. On top of that you should have in mind a risk that you are willing to take. Do not over trade just because you think the markets will move. It may but you may still lose money.

If there is a really major news like general election results, budget declaration, or may be a war between two or more countries – you should buy deep out of the money options. Why? Because the markets may give a knee jerk reaction. In such a case OTM options in long strangle trade will be more profitable.

If the news is as simple as a stock’s quarterly earnings reports or IIP data – you should buy near the money options. Because there may not be a significant move, but a 3% or more should do the trick.

Another note: If trading this strategy please do not wait for unlimited income. There is no trap like unlimited income. You should have a target in mind. Once it is reached – just close the trade. In fact once the news is out you should close both the options – calls and puts – either in profit or in loss. Don’t be greedy. Some traders I know only close the option that is losing money. Well you don’t know when the markets will take a turn. In that case all your profits may vanish and you have already taken a loss in the other option. That’s a bad decision. Close both the trades as soon as your profit target is reached or the stop loss is hit. If markets moved further do not feel bad that you closed the trade earlier – you made a profit and you should be happy.

You know what I do once I close a trade either in profit or a loss. I simply forget the trade. If there was something to learn I write it down in my research papers but I do not look back and try to figure out had I waited what would have happened. That for me is a waste of time.

So what I do if markets do not move the day of the news? I simply close the options at a small loss. I do not wait for the markets to move. If they haven’t moved after the news, they will not move because you have traded long strangle. Just close the trade.

Similarly if markets move very strongly the news day I close the trade before the European markets open and be happy with my profits. Then I start thinking about my next trade.

Very Important Note:

Long Strangles are highly dependent on volatility. Before the news volatility is usually high. Unfortunately because of this the option buyers have to pay a high premium to the sellers. And here is some more bad news – once the news is out there is no more anxiety, therefore the volatility crunches. This means the values of the options erodes on the day of the results.

Which means a long strangle buyer will have to fight not only movement but also volatility. How tough is that?

Lets take an example on the effect of volatility on strangles:

Due to Indian’s general elections results to be declared on 16th May 2014 a trader took a long strangle position on 14th May 2014.

He decided to buy far OTM calls and puts as the day of the results can give the markets a knee jerk reaction. For simplicity lets take closing prices.

On 14th May 2014 Nifty closed at 7108.
India VIX (the volatility) was 32.40.

Lets suppose he wants to buy 5% far OTM calls and put options:

7108 + 5% = 7500 CE (approx)
7108 – 5% = 6700 PE (approx)

Lets get the prices:
7500 CE: 86.00
6700 PE: 84.00

Lets suppose he bought 2 lots each side:

Total investment: (86 * 50 * 2) + (84 * 50 * 2) = 17,000.00 (Rs. Seventeen Thousand)

Now lets see what happens on the morning of the election results day 16th May 2014:

Nifty makes a high very fast of 7563.
India VIX crushed to 24.29. A 25% drop.

Now lets see what happens when the markets made a huge leap and volatility crushed around 10 am in the morning when the trader decided to close his position:

7500 CE made a high of 232.
6700 PE made a low of 6.

Lets suppose the trades closed the call at 210.

Lets see how much he gets back when selling the long strangle.

(210 * 50 * 2 ) + (6 * 50 * 2) = 21,600 (Rs Twentyone thousand six hundred)

Total profit: 21600 – 17000 = 4600.

ROI: (4600/17000) * 100 = 27.05% in 2 days. Isn’t this a great return?

Well frankly I know many people who made more than this including myself. 🙂

On 14th May 2014 the near to the money calls were so costly that I think probably institutional investors only bought them. For example LTP of 7200 CE was 196 and LTP of 7000 PE was 168. Total points 196+168 = 364. For two lots your total investment would have been 36,400. I am personally not in favor of taking this much of a risk. Of course you can trade with one lot. The more costly the option prices – the more the risk.

Did you notice one thing? Volatility crushed by 25% still long strangle traders made money. This was possible because Nifty moved significantly in one direction raising the prices of the calls to even defeat the volatility. If Nifty stayed there or would not have moved significantly, the option prices would have reduced dramatically and sellers would have won.

As I told you earlier, volatility cannot beat the speed of the movement of the stock. If its significant, volatility has a small role to play, if not for long options it can be a killer.

Lets conclude this discussion with important points:

1. Long Strangle is buying both call and the put option of the same underlying but different strike prices.
2. Usually traded before an important news or event.
3. Do not wait till expiry. Once the news is out close your position either in profit or a loss. You can wait for maximum of two days in extreme cases.
4. Long strangle should not be traded too often as option buyers mostly lose money.

If you reached here looking for stock options trading tips from an advisory service provider, you have come at the wrong place. But I request you to please read this article, it will save you from a lot of hassle.

If you are in a hurry to know, I am a trader like you, but I do not provide advisory service on stock/nifty options or any other stock market related trading. Why? Because I trade them profitably, I do not need anyone’s help.

Ask yourself this question first – “Why should I pay someone to trade the stock markets? Can’t I learn some great strategies and make money myself.?”

Yes you can.

People with knowledge make money in the stock markets, and who lose? Those who look for tips providers or those who speculate the markets.

In my early stage of trading I was also one of the guys looking for stock option trading tips and paid a few companies to make money on the stock markets. The result? I lost money. On the one had I paid them almost Rs.40,000/- in six months duration to give me some tips, on the other hand I was also losing money trading their tips. I lost almost Rs.700,000/- (seven lacs) trading their tips. How much worse can that get?

However things have changed now and I am a happy option trader. I offer a course a on trading options profitably, but my simple advise to you is this – even if you do not take my course – please do not pay anyone to get tips. They will not work and you will lose money – Guaranteed with a capital G.

These people will take money from you and put it in a fixed deposit in some bank. While you keep losing money, they are getting a guaranteed return of 6% or more on your money. Stop looking for them. They will not make you rich, rather you will make them rich.

When I lost money trading their tips, you know what I did – I started trading EXACTLY OPPOSITE of what they were sending me as tips. So if they had a buy call on some stock, I would sell it. If they asked me to sell, I would buy it. Interestingly here too I lost money over a period of one month. And these were good reputed companies advertising their stuff all over the internet.

So what did I learn from it? That they send us any random tip they want to send. Since stock markets are speculative game, there is a 50-50 chance that their tips will work. Over a period of time you will see that 50% of their tips hit the target and the rest hit stop loss. So your net income is loss because for every trade you pay a brokerage and also the fee to the tip providers.

There is another problem. These people will send you an on-time SMS that may take a few seconds to reach. You will see that SMS, take time to understand it, call your broker or search for that security on your demat account online. You then look for the price they have sent only to discover that the stock or the option has moved away from that price and you will be unable to trade that stock, or the option price may have changed in the meantime. Same thing happens when you call your broker. Yes you may put a limit order, but who knows if your trade will go through.

Intraday means you cannot miss that stock with even .1 point because you lose money. Usually for stocks profits are booked at 1% or less, 10 points for Nifty options. If you cannot get the trade with that exact price, you have already lost some money. Compound this with losses and you are losing more than you are making. You will then stop giving money to the advisory service provider.

Other problems are there too. Sometimes you will find that there is no internet connection, or the broker site is down. These people who send intraday stock tips usually send 5-6 trades a day. They advise you to trade all the trades they send. If you miss one trade, you will be scared to trade the other trades as that is what they have advised against.

If Internet is down, you will call your broker. His phone may be busy – and your trade is gone. Believe me brokers are least bothered with your account. They want you to trade more often so that they can make money. Sometimes they will do mistakes and then reverse it immediately. Both the time there is a transaction and you will lose money on brokerage even if they reversed the trade at the same price. Note that reversing immediately is mostly losses because of the difference between ask and bid.

Intraday stock trading means you have to leave your job and trade. I strongly advise against doing so. Do not leave your job. It is not easy to make money from the stock markets. If you try too hard, you will lose money – guaranteed.

If you don’t have time to do full time Intraday trading I would suggest start putting money in installments in few good mutual fund or stocks. Do not buy in a bulk – that’s speculation – just buy a little amount every month. And more when the stock falls.

Stock option tips providers will also sometimes play very cheeky and cheap tricks like price inflated/decreased of an option. When it reaches your mobile, you will think that option price may have reached there and you got the SMS late. In reality your tips providers are stealing a point or two to show profits.

For example if YesBank option is going for 10, they will send you message to buy at 9 (best buy price) and after a few seconds will send a SMS to sell it at 10 (best sell price). In their view they made Rs.1000/- for you but in reality the trade was impossible. (1 lot value of YesBank option is equal to 1000 shares.)

Some stock option trading tip providers send SMS before that option reaches that price. That is a good way of sending tips, but its my personal experience that you will still lose money as its hard to make money buying options.

Sometimes in highly volatile stocks you will see that as soon you get a message to buy an option the target is hit and they send an SMS that the target is hit. You will not be able to trade that call.

Now try calling them. These people have an amazing bad service. They never accept that they are bad tips providers. In fact on the contrary they will blame you for not being able to trade properly. You will feel very low, humiliated and stop trading their tips even if you have paid them for a month or more. Your money is lost plus you lost money trading their tips.

You will be highly disturbed too. Your boss has given you a deadline and these SMS will keep coming and keep disturbing you. Will you trade or will you work in your office? On top of that since to get their services you have opted out of DND (do not disturb) service, you will also start getting unwanted unsolicited calls and messages on your mobile phone.

After sometime your whole life will get so irritating to the point that you will stop trading altogether. You will lose interest in the stock markets. Unfortunately you have lost interest in one of the best ways to increase your wealth.

You know what, this has happened to me, therefore I was able to write this article with so much precision.

But I had no other place to go and make money – so I started learning about options. I will not elaborate my story here, you can read about that here.

The point I want to make here is why you cannot learn to trade options? They are not something from the moon. Its easy to make money from them if you know how to trade them. I have been doing this regularly since 2011-12. I can teach you to trade options and make money.

These are all easy trades. No these are not intraday trades, all are positional trades. You may have to trade only 2-4 times in a month and carry on with your job. These are all protected options means either you make limited profit or limited loss. You do not even have to predict the direction of the markets. You do not even have to monitor the trades every second. Just once a day is enough. You do not even need to know technical analysis. And you will still make money trading options. How much easier can it get?

Learn stock option trading yourself, forget the tips provided by the advisory companies and be confident and make money.

Short straddle is a strategy when a trader sells or shorts calls and puts of the same stock, same strike and same expiry. It is a risky trade but can be managed.

Short straddle is exact opposite of long straddle. It is a very risky strategy as the losses can be unlimited. Please do not try this strategy unless you are an expert. You can try this if you have strict stop loss in the system. But in India we cannot put a GTC (good till cancelled) orders. So here in India it becomes a very risky strategy.

What is Short Straddle?

A short straddle is a trade when a call and a put are shorted/written/sold of the same stock/index, of the same strike price and of the same expiry.

For example as of writing Nifty today closed at 7367.00

Now let us suppose a trader feels that for the next 30 days Nifty will not move much, so he plans to sell a June 2014 7400 call and 7400 put. Let us see how much they are available now.

26-Jun-14 CE 7,400.00 142.00
26-Jun-14 PE 7,400.00 136.00

Let us assume he got these best prices and he sold them. Total points = 278. Total cash received in his account: 278 * 50 = Rs. 13,900.00

Do not be happy that this trader has received a huge amount in his account. Now his job is to protect this cash.

I hope now it is clear what a short straddle is. If the trader is lucky it can be a very profitable trade. But how many times were you lucky trading? Can anyone make money trading the stock markets just by luck? No.

Short straddle done. What’s next?

I have written earlier – the trader’s job is now to protect the income received. The first thing he will do is to calculate the breakeven point. 278 was the total points received.

So the upper BE: 7400 + 278 = 7678
And the lower BE: 7400 – 278 = 7122

Hope it’s clear – if Nifty starts to move beyond this range the trader will start to lose money. And he will have to do something very quickly to make sure the losses do not escalate. It is something that every trader should be worried about.

Note: Exact opposite is the long straddle. If the stock moves beyond the break even points the trader will start making money. The short straddle trader will lose and that is the name of the game called stock markets. 🙂

How to adjust a short straddle gone wrong?

1. It’s a very risky trade. In my view you should not trade this at all. But even if you have done – the best way to adjust any trade gone wrong is to take a stop loss. Get out of the trade if it has crossed the break even points or the losses are more than a certain percentage of the credit received. Some people keep this fixed at 50% of the credit received while some keep this at double the cash received.

Taking the above trade as an example:

The trader received Rs. 13,900.00 trading the short straddle. So he will not take a stop loss till the losses are 13,900*2 = 27,800. Once this figure is reached they will close both the positions – the call and the put. Total losses are still at 13,900.00, because from the 27800, 13900 that the trader received will be deducted.

Some traders keep this at a conservative 20% of the cash received. Ideally the stop loss should be kept at the total amount the trader is comfortable losing. You cannot keep it at Nifty Break Even points level or at some Nifty level. Why? Because a short straddle is Vega dependent too.

Lets assume the markets did not move after the announcement. But that does not mean that the short straddle trader is winning. The news could be confusing and the volatility may explode. If volatility increases, both the put and the call will increase in value and the short straddle will lose money.

Note: In reality short straddle is very tempting to play. Usually when a major event is to take palace or some big news is expected in a stock – the market makers will increase the volatility. Why? Because if they don’t, the values of the calls and the puts will be the same as before and for a seller of these options it gets very risky. If you are getting a lot of money for a huge risk you may be willing to take the risk. But if you are getting little money will you take that huge risk? No one will. Therefore to make a level playing field for both the sellers and the buyers the market makers increase the volatility. Moreover trades just wont take place if the calls and puts are not valued attractively before a big news or event. The buyers will not find any sellers.

Now it should be clear its obvious that if the calls and puts are not rightly priced, no one will come forward to sell. In that case if there are no sellers, there cannot be any buyers. So no trade will take place before a major event. Who loses money in that case? The market makers! More trades means more money for the people who own the stock markets and of course the brokers. The owners of the stock exchange want their brokers to be profitable too as they act as marketing agents and get them clients. If they are not profitable they will leave the business and owners of the stock exchanges will also lose money.

This is justified too. Why should a trader take a risk for too little in return during abnormal times?

So short straddle should be played when the volatility is very high and important news is awaited. Once the result is out or the announcement is made – the volatility gets shrunken and the trader makes money because the value of the calls and puts declines significantly.

Both the high volatility and the huge cash receivables is the tempting factor to play a short straddle.

Coming to managing the trade: The best way is to close the trade once your predetermined level of losses is reached. However as said earlier this is a very risk trade. Usually the news is declared when the markets are closed for the day. So you don’t know where the markets will open the next day. One thing is for sure the volatility will get crushed, but you will never know where the market will open the next day and where it will go from there. When they open you may find that markets have already surpassed your predetermined level of losses and therefore you will have to close the trade at a much bigger loss. However if the level is not reached but you feel it may be reached, you can close the trade early too. Your losses will be less.

2. Another great way to manage a short straddle is to buy naked calls or puts depending on where the markets are heading. For example if the news was bad, you can buy closer to the money puts. Remember that now they are available at relatively cheap prices, you can afford to buy them. If the puts are cheaper than the total money received, and if they are ITM than the put sold, you will not lose money if markets go in the same direction. In fact if you buy more puts than the no of puts sold, you will make money. Similarly you should buy ITM calls if there was some good news. But you got to this as soon as possible. Hoping that the markets will not move further can be catastrophic. You have taken unlimited risk. Do not leave this on luck.

3. If buying calls or puts are very costly then you can sell credit spreads against the losing position. For example if the markets are going up after the news, you can sell put spreads. And if markets are falling you can sell call spreads. But this will give you limited profit. And if there is a whipsaw you will start losing money in the spreads sold.

4. Exactly opposite of selling the spreads, you can buy the spreads. Buying spreads will reduce the cost of buying naked calls or puts. But again your gains will be limited. Same as 3 – a whipsaw means you start losing money in the newly bought spreads.

When to trade a short straddle?

As written above, one or two days before a major event is going to happen or some major announcement is to be made on a stock or markets in general. For example, budget announcements or general elections. For stocks it can be earnings report.

For example the India VIX (Nifty volatility) on 15th-May-2014 was around 44 (one year high) and when the general elections results were declared on the very next day – it crushed to around 25. It was still not very profitable for the short straddle traders because the markets open huge gap up of around 4%. People who bought deep ITM calls only probably made money. But ITM calls were very costly. ATM calls were going at around 300. So 300 * 50 = Rs. 15,000.00 was at risk for just one lot of Nifty option. Similarly someone selling a short straddle would get around Rs. 30,000.00. Isn’t this tempting? Still that trader would have lost money.

BTW what did I trade? I did the double diagonals and made small money. 🙂 Better than losing money.

If you stick to my advice, short straddle as a trade should be avoided. There are better trades during these times. Don’t get tempted.

When to exit a short straddle if next day you see that the trade is profitable?

It will be suicidal to wait till expiry. You don’t know where the markets will go in a few days. Even if you are making a small profit, its advisable to exit such high risk trades.

Have you ever tried a short straddle? If yes what was your experience?