Trade The Journey

Trade The Journey

Trade Review: June 23

Asset: IWM (Russell 2000 ETF)

Hypothesis: Not much economic data, the IWM or Russell 2000 is using 185 as support forming a doji.

Position Strategy: Bull call debit spread

Leg 1: Buy $185 call

Leg 2: Sell $187.75 call

Premium Paid: $1.03

Expiration: One-week expiration

Premium Received upon close: $0.75

Profit/Loss: ($0.28)            

Observed that IWM had been trading in a range between $185.11 and $188 for over a week. With few market-moving economic data reports at the time, I anticipated a potential short uptrend towards $188 based on a recent bull run in each of the major indices although a pullback wasn’t unlikely. IWM formed a doji candlestick pattern at the closing price of $185, which prompted me to enter the trade.

In my experience, a doji with a long wick indicates a possible reversal, particularly when buyers step in at a bargain price. I had previously seen successful trades where a doji marked the end of a downtrend, specifically the dragonfly doji. However, it’s important to acknowledge that market outcomes are not certain.

One mistake I made was failing to complete scenario analysis and assess the probabilities for the trade. While I knew that Fed Chairman Powell would be testifying before Congress and the Senate on monetary policy, I didn’t anticipate any significant deviations from the press conference.

From Powell’s testimony and the subsequent questions, I gathered that lawmakers were concerned about tighter credit conditions and higher interest rates. Although the tightening monetary policy was producing the desired effects, most officials were worried about the possibility of a recession, with constituents pressuring their representatives.

IWM provides exposure to small U.S. public companies, with its top four sector holdings being Financials (21.04%), Industrials (18.43%), Healthcare (14.04%), and Technology (9.37%). While volatility in the indices remained low, each index experienced a pullback from the previous week’s highs or upside trend. I was unsure if IWM could break above $185 without a catalyst, and indeed it did not.

As I observed IWM retracing, my confidence in its recovery dwindled, and my apprehensions were proven correct. After I exited the trade, IWM briefly surpassed the resistance area at $185.11 but closed below it by the end of the day. I didn’t hesitate to close the position, which marks a significant improvement compared to my previous trades. The following day, IWM continued to decline, eventually ending the week at $180.

The problem with holding onto a position during a recovery, especially if the stock or ETF is weak, is the uncertainty surrounding the timing and speed of a potential return to a downward trend. I remember thinking, “Do you really want to travel down this rocky road?” There is no guarantee of a full recovery in profits, and as the options’ theta decreases the premium daily, it becomes crucial to expedite position closure to mitigate further losses. Options can move in unexpected ways.

Reviewing the trade on the day I closed the position, I believe it was a wise decision to exit when I did. IWM closed with a doji after fluctuating between 183 and 185. I doubted that IWM could sustain a level above 185, and my prediction proved accurate. This trade could have gone either way. I could have chosen to stay in the trade and wait, or I could have panicked when IWM hit a new low. Sometimes, a market low can be a game aimed at shaking out weak hands. Thankfully, I exercised patience and closed the position with a better loss.

Lesson learned: Although I exited the trade before it turned worse, I still lacked preparation. Neglecting preparation in favor of relying solely on trading skills is a mistake. Trading requires diligent effort.Placing a limit order under the assumption that IWM wouldn’t reach it was a misjudgment. If I had adjusted the limit order, I could have incurred a smaller loss.


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