Picking the Perfect Trade: A Trading Guide for Beginners (Part 2)

In our last entry, we introduced the procedure for initiating a new trade. In essence, it boiled down to three things: Decide on a direction, a time frame and a strategy. So for example, let’s say we’re bullish over the next three to four weeks and plan to take advantage of that bias with a bull call spread. That’s the extent we got to last week.

But it goes far beyond just those three things. Now we need to do what we refer to as “whittling.”

No, not a wood carving, but whittle down our trade opportunities. While Option Party users can simply scan for bull call spread trades over the next three to four weeks and have the system rank the best results, there are other considerations too. 

This broad of a scan might return inverse or leveraged ETFs. There could be stocks on the list that are or are not paying a dividend. Companies may be reporting earnings before the option expires. There’s a whole host of criteria for investors to discern.

Size Matters

Before we determine what type of trade we want, we have to decide on how big of a trade we’re looking for. Increased confidence calls for increased size. Conversely, less confidence should equal a trade with lower capital risk on the line.

Once on the “Screeners” page for a given strategy, investors can head to the “Trade Details” tab on the right to select their minimum and maximum levels. In this case, we can set the minimum credit we receive or the maximum debit we’re willing to pay. We can also select the minimum and maximum size of the trade (in dollars), which will determine how many contracts we trade when the final results of the screener come out.  

finding the perfect trade

Stock Stats and Financials

In the next two sections on the Option Party platform, we can be as broad or as specific as we’d like. It’s where we can do the most or the least whittling. Under “Stock Stats” we can decide on things like: Stocks or ETFs, share price, P/E ratio, market cap, volume, beta, institutional ownership and 52-week highs/lows.

finding the perfect trade

Under “Stock Financials” users will be able to bore into the security’s specifics. For example, they will be able to apply filters such as dividends, earnings per share, earnings growth, assets, liabilities and debt.”

finding the perfect trade

Other Factors to Consider

Earnings dates, dividends and P/E ratios are all security-specific measurements. For some traders, these honestly won’t be a factor. However, some of Option Party’s other filters are a bit more wide-reaching, in that most traders can take advantage of it.

For instance, under the “Options” tab, investors will be able to choose how far in- or out-the-money their option trade is. An invaluable time-saving component for investors scanning hundreds, if not thousands of trades looking for specific setups. Trust us, if you’re looking for a specific trade when it comes to ITM or OTM, this tool is immensely helpful.

Beyond that, traders can also choose how much delta to allocate to each leg of a spread or to the overall trade as a whole. Option Party users can also decide how wide of a spread they will trade with the “Spread Width” option. When combined with minimum/maximum security price, this allows traders to decide how wide they want their spread. Altering the spread size can also help ensure the trade fits the investor’s risk profile.

finding the perfect trade

One last factor to consider? “Ticker Filter,” which allows investors to hand pick what tickers to scan for exclusively or to exclusively avoid during scanning. In this manner, users can scan any number of stocks they’re highly confident in to find the very best trade. Say you want the top 10 holdings in the Dow or Nasdaq. Well, now we can scan exclusively for the best trade setup in those 10 stocks. Conversely, say there’s a handful of stock you don’t want to see. Well, now you can block those from the scanning results as well.

finding the perfect trade

Executing the Perfect Trade

Say we’ve narrowed it all down: We want a bull call spread expiring in three to four weeks, on a stock or ETF not reporting earnings before expiration. We have no other preferences aside from excluding commodity and volatility-based ETFs.

Fairly simple right? Well, one of the top trade results is a long bull call spread position in Bank of America (BAC). The trade requires us to buy the $28 call and sell the $30 call set for regular expiration in February. Do you know what to do at this point?

Now we need to fill out an order ticket, purchasing — for simplicity — one $28 call expiring in February and selling one $30 call with the same expiration. Most ordering tickets will look something like the one below:

finding the perfect trade

First, we need to select whether we are trading calls or puts, for which we are dealing the former. From there, we need to buy-to-open the $28 call and tell our broker when we’d like the option to expire. In this case, that is February 16th. Next, we will select the sell-to-open option for the $30 call with the same expiration. This is telling our broker that we are opening a new position. If we were looking to close the trade, we would sell-to-close the $28 call and buy-to-close the $30 call.

Why? It’s simply undoing the first action we did to open the trade. We opened a long position on the $28 call, so now we must sell-to-close that position. Likewise, we sold the $30 call when we initiated the bull call spread, so now we must buy-to-close it.

We must next choose how much we’re willing to pay. Say the bid-ask spread is $1.71 to $1.86. Selecting “market” price will purchase the call spread at $1.86, the highest price in the spread. We may be fine with that price, but as a general rule of thumb, we always want to use a “limit” order, which tells our broker exactly how much we’re willing to pay. If they can get a better price, then hey, we’ll take it. But we won’t pay a penny over our limit price and from a risk-reward perspective, it’s good to know our minimum or maximum amount. 

In this case, let’s say we set a “net debit” limit price of $1.80. The midpoint of the spread is $1.79, so it’s likely we’ll get a quick fill. However, if we chose something like $1.75 as our limit order, it will likely take some time to get a fill. If BAC stock stumbles a bit, so too might the value of the bull call spread. From that perspective, our $1.75 limit price may trigger and we’ll get our fill.

In a nutshell, that’s how you pull off your first trade.

Read More

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