Trade The Journey

Trade The Journey

Looking for sideways action

This past week, I’d say I was lulled to sleep by the uneventful week where economic data releases were sparse, and the earnings season concluded. I thought it’d be the perfect opportunity for me to open butterfly trades to take advantage of the forecasted sideways price action. The last two weeks, I’ve been exclusively focusing on indices ETF’s.

Every week I post technical levels for the indices, so why not use this information to place trades instead of searching for stocks. While using indices ETF’s have cut down on the stock research time, I’d say there are considerable number of factors that could affect the indices’ performance.

While the Dow is price-weighted, the Nasdaq, Russell 2000 and Nasdaq are free-float weighted/market cap weighted indices. This means that the number of shares held by the public which is the free-float weight is multiplied by the stock price to come up with a market cap.

 For the S&P 500, nine companies account for 27.8% of the market cap of the index. The top weightings in the index are Information Technology, Healthcare, Consumer Discretionary, Financials, and Communication Services.

Nine Stocks Comprised of: Apple, Microsoft, Google, Amazon, Tesla, Berkshire Hathaway, UnitedHealth Group, Johnson & Johnson, and ExxonMobil.

The Nasdaq is heavily weighted towards technology, making up 52.61% of its weight and the second largest weight being tilted towards consumer discretionary at 18.15%. There are ten stocks that are heavily weighted on the Nasdaq.

Ten Stocks Comprised of: Apple, Microsoft, Amazon, Nvidia, Tesla, Google, Facebook, Broadcom and Pepsico.

The Russell 2000 is also market cap weighted and consists of 2000 small cap companies. The top five sector weightings in the Russell are Healthcare, Industrials, Financials, Consumer Discretionary, and Technology.

Ten Stocks Comprised of: Super Micro Computer Inc., Shockwave Medical, Inspire Medical Systems, Apellis Pharmaceuticals, Emcor Group Inc., Saia Inc., Iridium communications, Karuna Therapeutics Inc., Texas Roadhouse Inc., and Celsius Holdings Inc.

These stocks should be closely monitored to gauge how the indices are likely to perform. Although the weightings may change based on the stock price, most of these stocks have maintained their weightings for quite some time. For some time, I was trading these ETFs based on the chart patterns without knowing how the indices were weighted.

When I recognized this trading error, I quickly moved these stocks to a stock list where I could monitor their performance, knowing that their performance would dictate how the index moved. This is especially important when trading an index ETF.

The first trade I placed using an indices ETF was a butterfly trade with a one-day expiration date. The second trade I placed was another butterfly trade on the QQQ which is based on the Nasdaq 100. The third trade I placed was the same butterfly trade on the QQQ with a two-day expiration date. I was successful on only one of the trades.

The major challenge placing a trade with such a short duration is that there isn’t much time for the trade to work. A surprise event or reaction by market participants could move your position to a loss quite quickly. With only one trade closed with a profit I can’t assess how successful this strategy might be.

Here is the trade review written after closing the trade:

Earlier this week, I decided to try placing butterfly option strategies with a one- or two-day expiration, only one position ended well. I was closed out of the position due to pin risk. The position I closed or let the exchange close was dead in the water after dropping over nine dollars due to Canada surprisingly raising rates and stoking fear here in the US that the federal reserve would do the same.

 With a two-day expiration, I did not have much time to be wrong. With no economic reports and earnings season practically done, I thought a sideways market would exist for the week, but I was wrong. I planned to risk the premium for the butterfly trade since it wasn’t that much, and I did. I opened the position without strategizing the night before, only with the idea that a sideways market was in order. I created a scenario analysis page, but I am still working on what is important and what isn’t. April was the month with the last profitable trade, and it’s been rough but not discouraging.

Lesson: Even when you think that nothing should happen, something always does. The markets are full of what events or circumstances you won’t expect. There must be a way to strategize for this.

With several weeks of trading in the books, I haven’t had a profitable trade since early April. It’s been rough maintaining my enthusiasm as each trade adds to the total amount lost. So far, I am down close to $500 and for many that might seem insignificant but for me it’s a setback. While the market has been tricky, I was hoping to etch out at least a few profitable trades between the losses.

But I am making progress, limiting my losses with each trade, and avoiding the major drawdowns. Luckily, I’ve kept my position size small as I learn more about how the markets work.

The biggest surprise so far has been how fast the market can move against you. There’s literally no way to know how far it might move up or down especially when there’s catalyst. There have been times when I remained in a position while the market moved against me, thinking that it can’t go much further. It always does.

Another surprise has been how little control you feel you have when the market is moving. When I experienced the large drawdown a few weeks ago, I felt like I had little control or power to stop the pain. However, this isn’t true. While you have no control of the market’s performance, you have total control of how reactive or proactive you can be.

If I can continue to limit the amount I lose on each trade, things should turn in my favor. With the experience I’m gaining and confidence I’m building, I’ll be able to take advantage of the profitable trades.

Below is a picture of the scenario analysis page:



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