Sunday, September 7, 2014

A review of my rolling adjustments on TBT

I sold option premiums on TBT in the last couple of months as TBT fell fast. Initially, I sold naked puts (P1S) of Delta 30 as TBT broke down its support line around $60. I planned to get assigned if TBT would drop below the sold strike as I had the view that interest rate would not continue to fall for too long. On the 2nd day after the opening short, I watched TBT failing to rebound and decided to sell bear call spreads to collect some premium on the down side. For about 4 weeks after that, TBT maintained a slightly downward trend and got a relative large increase of its implied volatility. Thus, there was not many premiums that could be materialized as shown in the chart below.

In the meantime, I developed a new general trading plan for selling premiums using some principles from Karen and some paper trades. It had enough rules for me to test it with the real money using TBT. So I started to trade it for the following occurrences. I also realized that rates may take 10 to 15 years to bottom historically. This puts the rising date to 2020 since we had a record low rate period.
Around 8-15, TBT broke down another level of support and fell hard. On that day, my short put had its Delta reached over 0.65 (which was my adjustment Delta). So I decided to roll it down to the next 30 Delta in the next cycle (October). I bought back the original short put and sold more bull put spread with 20 to 30 short Delta to cover the deficit. In this process, I made an mistake in selling less contracts, because I failed to consider my profit target was 50% of max potential. The proper formula for the new contract size should be the following:
Adjustment size = original size + 2 x (Deficit / new credit).

TBT started to bounce back immediately after my adjustment. After the 3rd and 4th day of the re-bounce, it became apparent to me that TBT was resuming its fall. So I sold more bear call spreads on the 5th day which TBT tried a weak pull-up. Luckily, the 50% profit target of the bear call spreads were reached in about 4 days. Thus, I closed it according to my rule. On the next day, I felt TBT dropping too low and too fast. I was able to find a lower put strike which was beyond my projected downward target. So, I sold some other bull put spreads (P3S & P3B). Since then, TBT started to pull up again. I followed it up closely and was trying to close the new bull put spread around 50% profit target. But I found this time, the re-bounce was more powerful especially the pull down on the 2nd day of the re-bounce was overcame on the 3rd day. Thus, I decided to let the profit accumulate. I may let it expire worthless if the market does not create a big ripple to shake me out. I plan to let the 1st bear call spread (C1Short/Bought) to expire as its short strike at $62 appears to be safe for me.

In retrospect, if I did not adjust around 8-15, my profit today would have been double that of the actual profit as shown in the bottom sub-graph. It also showed the P&L would have lager swing had I not adjust. This is a typical example of adjustment at the worse time. But I believe it's an uncertainty that we have to take. There are a couple of actions I could take that would make it better for the adjustment. First, I could have exited the P1S trade after 3 weeks when TBT kept testing lower side and did not show any sign of rises as the overall down trend was prevalent and persistent. Second, I should have sold more contracts when calculating the adjustment size. Overall, these trades were experimental and thus not consistent. I should be able to firm up my rules and apply them consistently in the coming weeks.

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