Trade The Journey

Trade The Journey

Trade: IWM, July 10

Top of the Afternoon! This past week I decided to place a Bull Call Debit Spread on IWM, the Russell 2000 ETF. Recently, I began focusing on trading indices ETFs’ instead of individual stocks. My reasoning for the change in trading strategy was primarily due to the fact that I spent a lot of time looking for individual stocks to trade. Every week I list reference levels for the major indices, why not use these levels to place trades?

So far, its been working well and I haven’t suffered any major drawdowns since I made the switch. As the Russell neared a key reference level I was unsure if I should place a bull call debit spread or bull put credit spread. Both trading strategies are bullish but the results are achieved differently.

While the bull call debit spread requires movement, the bull put credit spread needs the stock/etf not to fall below a predefined level. I don’t have a preference for either strategy but I do lean towards a bull call debit spread when I am bullish.

To captialize on the movement you can widen the difference between the two calls. I won’t get into a detailed explanation of how the spreads work because most of the tutorials are available online. However, one thing to keep in mind when trading these spreads is that they change, especially the bull call debit spread, as the option spread moves into the money.

Its a good idea to keep a close eye on the greeks because they provide clues on how the risks change as the option moves. For example, when the bull call debit spread moved into the money, the gamma and vega turned negative meaning the spread could be hurt by increased realized and implied volatility. The theta also turned positive meaning I was earning money as time passed.

Trade: Bullish Call Debit Spread

Security: IWM (Russell 2000)

Spread Legs: Buy $187 call/Sell $189 call

Time: One week

Premium Paid: $1.00

Profit/Loss: $1.62

Scenario Analysis

Trade Walkthrough: I thought the CPI report could provide the catalyst needed for the Russell 2000 to breakthrough resistance after the level tested ($188.86) had stopped the previous run ups.

Yields had declined the day before signaling the bond buyers had returned and that traders were optimistic about the coming CPI report. Looking at the charts, I noticed that the Russell had broken through this level only one time after several attempts and only stayed above this level for a few weeks.

Each test showed that volume was low as the Russell approached the $188.86 level but volume was high as the Russell retreated from this level. Placing the bull call debit spread at a price below this reference level might give me a fair chance to profit from this trade. 

As I’m learning, I am noticing the trades that work usually work out pretty quickly and the ones that take a bit of time to profit don’t usually turn out well. This trade was profitable from the start and the only decision I had to make was when to close.

I tried to take my profits on the first day of the trade which was the day before the CPI report was scheduled to be released but I decided against the closing trade. My curosity got the best of me, so I decided to keep the trade open as the CPI report was released. I set my limit order above the opening premium the night before and too my surprise the Russell gapped up and my position closed out with a monster profit.

While I did move my limit order up to capture a larger profit, I would not move my limit order lower to remain in a losing trade. Moving the stop lower, giving the trade more time to work while in a losing trade seldom works and only adds additional stress to an already tense situation.

Fortunately, there wasn’t much to do in this trade. I had a high profitablity setup and I executed the trade without any trading errors. As you can see from the charts, the ADX was above 20 indicating a strong trend and the +di was trending up indicating there was a small bullish trend developing. The RSI was also trending up. 

Implied volatility had been trending downward for awhile and was slightly above the Historical Volatility level. Overall, the Russell hasn’t enjoyed the same enthuasim as the Nasdaq or the S&P 500 which both made new highs at the end of the week.

Trade Review written upon closing the Trade:

This trade worked from the very start, and I decided to increase the size of my position because I thought this trade could work being that the week before inflation was shown to be easing. Yields were decreasing due to the positive sentiment surrounding inflation and I thought this might be the week that the Russell broke through the resistance area.

I took a chance and removed the limit order from the day before that would have limited my profits to $0.68 and decided to raise it. Unfortunately, I didn’t check the position on the open and by the time I did, IWM gapped up and closed above the limit order, bringing the highest profit I had made on a trade to date.This was a good trade in terms of execution, I looked at the volume, the trade setup,had a stop loss limit and was willing to close the trade if it didn’t work out. Don’t be afraid to take a trade if the probability is tilted in your favor.

Lesson: Keep the losses small, so that you can take advantage of high probability trades.



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