Do the market indicators really work?

  Recently, a friend of mine was questioning, how can a stock not follow the performance of the company and follow a market indicator. I, myself have asked this question at one time.

  Yes, if you are a long term investor in a stock and your company performs well, your stock will perform well, most of the time and yes, market indicators will predict direction for the short term. Any time you open a position, you will be questioning yourself if the entry point is good. If the stock has been on down trend for the last few days, there is good chance you are buying for a bargain and conversely if the stock has been on uptrend for few days you might be paying premium. So, why not use an indicator if one is available to predict this condition.

  Over bought/over sold indicator are tools used by traders to find buying or shorting opportunities or to predict the market direction.

Williams % R and Relative Strength Index  are couple of technical indicators you can find on many stock charts and are very easy to understand. They oscillate between 0 and 100. While 80 to 100 indicate the underlying equity is overbought, 20 to 0 indicate oversold condition. These are based on most recent trading days, usually set for past 14 days and can be changed as you want. Following is a 6 month chart of Caterpillar with Williams % R, courtesy of stock charts:

\                                                 Source: stockcharts.com

  The above picture shows that indicator predicted right most of the times. But you can also see that the indicator hit over bought condition around December 30^th and stayed there for past 17 days, and during that period, stock has appreciated more than 10%. So it simply tells you to be on look out for buying and selling opportunities. It can’t predict exact buy and sell points because markets can stay overbought and oversold for a while.

Conclusion: If you like a stock and want to buy, it’s not a bad idea to buy the stock in phases during oversold conditions and to sell the stock in phases in overbought conditions, if you are thinking of selling your stock. Besides, if millions of traders or programs try to buy and sell the stock using this indicator, it is bound to work even betterJ.

IOC January options Iron condor looks attractive

 InterOil Corporation (IOC) an energy company had an excellent run in the past 20 days gaining more 30% from Dec 19^th low of $45. Stock is currently trading at $58.48 at close of today’s market.

 IOC has crossed both the 50 day and 200 day moving averages in the last few days. 200 day moving average is at $54.23 and might provide support level in the short term. Stock is likely to face resistance around $60 based on trading patterns from July 1^st to September 20^th.

  Iron Condor: This is a combination of credit option spread and credit put spread. Following trade was selling for a credit of $4 towards today’s close.

Buy 1 January,2012 $50 put

Sell 1 January, 2012 $57.50 put

Sell 1 January, 2012 $60 call

Buy 1 January, 2012 $67.50 call

 

If the stock is trading between the inner strikes of $57.50 and $60 on options expiration date, this trade will make a profit of $4. If the stock crosses the outer strikes of $50 and $67.50 maximum loss will be $3.50.  Since 1 contract is 100 shares, max profit is $400 and max loss is $350. Break even for the trade is $64 on high side and $53.50 on low side.

 I do not expect to collect the entire $4, but if the stock trades between the support and resistance levels in the next 7 trading sessions, this trade can be closed for profit on or before January 20^th options expiration.

 The graph below illustrates profit and loss for this trade:

 Source: Yahoo finance.

  Disclosure: I own the above trade.

Alternative investment yielding 10% +

  Real estate investing is some thing that would turn off most people in current times, but there are some opportunities in commercial real estate that every investor should consider. In this article, I will try to explain how any investor can take advantage of investing in triple net properties, possible limitations and dangerous involved.

  If you buy a property for $100,000 and rent it out for $700 a month, it produces income of $8400 per year, returning 8.4% and is called 8.4 cap. If this property is bought with $40000 down payment and borrowed the rest for 6% interest, it would yield 12 % ($8400rent - $3600 interest).

  With one exception, the above statement is deceiving and frankly offensive to anyone even with slightest idea about real estate investing for following reasons and more:

1. There are several expenses like real estate taxes, insurance, repairs and maintenance.
2. If the property is vacant, landlord is not only stuck with mortgage but also expenses.
3. It is not only difficult to find a decent tenant, but a mess to deal with, if the tenant defaults.
4. Since the banks are dealing with real estate losses, it is not quiet easy to get loan for investment properties.

 Exception: In case of absolute triple net lease, the above statement about yield is completely true.

Triple Net lease: Net-Net-Net lease is commercial real estate lease in which, tenant pays for all taxes, insurance and maintenance. So, almost, all of the expenses are passed on to the tenant. The property is already occupied by a tenant with long term lease in place. Tenants can vary from stand alone business like a single unit restaurant to a corporation with few thousand locations.  Several NNN properties, backed by corporate guarantee with 8% cap rate can easily be found in the market.

 These properties are expensive and mostly start around one million dollars and go up to several millions. But the price of the property should not discourage you, because you can partner with a group of friends or find firms that offer Tenants In Common. Following are couple of links where you can find TIC properties:

http://www.tm1031exchange.com/property/tic1-0404a.html#item

http://www.cornerstoneexchange.com/

   If you like greater control in making decisions, you can find your own group of friends interested in investing, form a company such as LLC, find property that every one likes and buy the property.

Where to find triple net properties?

There are several online sites that show the database of NNN properties available for sale. Some of the sites are listed below:

http://www.nnnex.com/

http://nnnpro.com/content/

http://www.nnn-properties.com

http://www.nnnsales.com/

http://www.loopnet.com/NNN-Properties-For-Sale/

Triple net lease vs Absolute triple net lease: While triple net lease covers some maintenance of the property, might exclude some like structure and roof. But absolute triple net lease is true triple net lease, covering all maintenance.

Purchasing the property:

Once you found the right property and have a purchase contract, do your due diligence and apply for the loan. Loan approval requires some patience and hard work as most banks will offer to finance the second loan for your company, but not the first loan and will only finance for a maximum of 65% loan to purchase price. All partners will be required to provide their financial statement and last three years of tax documents. A corporate backed lease, by a corporation with a good credit rating will come in handy for the loan approval.

Drawbacks:

     The value of these properties is mostly based on weight of the lease signed by tenant and is not worth whole lot if tenant defaults. This is why it is extremely important to look for lease backed by corporation with good credit rating. It is also important to diversify your portfolio, if you are going to invest in more than one property.

      This is long term investment and investment in these properties is not as liquid as a CD in the bank. It might take several months for the property to be disposed and if it is only one partner trying to cash out, must convince other partners to buy out their share.

Disclaimer: This article is for information and not an investment advice. It is responsibility of the reader to cross check this information against other sources and take help of an accountant and attorney in the process.

Will 30 year Treasury bond fund, TLT continue its uptrend in 2012?

 Investors chasing performance, tend to push an expensive stock or asset even higher and in fear of even loosing more, tend to push a cheaper stock or asset even lower. It is like mass hysteria.  This mass hysteria coupled with investors trying to find safe haven in dollar from euro mess, global recession and currency devaluations in emerging markets, has pushed TLT to new heights. TLT had a phenomenal run in 2011, returning almost 30% and is trading today at $119.50.

   Past performance of TLT shows that it mostly found the floor at $85 and topped around $95 for several years, with only exception being 2008. It broke the upper range in 2008 and returned almost 25% only to give up all the gains next year.

   If global economy led by china does not go into recession, or euro does not blow up as expected or US economy shows growth, investors will flee this bond fund pushing it back to normal levels. It would hurt loosing more than 15% trying to chase a 3.38% yield.

How to trade?

   For those wanting to bet on the downside of TLT can look into buying put spreads or butterfly for cheaper trade.  Following is an example of TLT butterfly put spread costing today around $1.50.

Buy 1 Jan 2013 105 put

Sell 2 Jan 2013 95 puts

Buy 1 Jan 2013 85 put

  In the above trade, if TLT is trading between $86.50 and $103.50 by options expiration date, trade will be profitable. Maximum possible profit is $10.00 if TLT is trading at $95. Maximum loss on trade is $1.50 if TLT is trading outside the range of $85 and $105 on options expiration date.

Disclaimer: This article is not an individual investment advice, it is only for entertainment.

Source: Yahoo Finance.

Disclosure: I do not own any position in TLT. Do not plan on initiating any position in the next 72 hours

One trade for uncertain markets

  My favorite ETF is EWZ which tracks Brazilian Index. It is trading 8 times earnings and yielding 6.17% in dividends. Just for comparison, IWM, Russell 2000 index trades at 15 PE and yields 1.39%. INP, tracking Indian Index trades at 21 PE.

    I am bullish on EWZ, don’t mind outright buying the shares today at market price of $56.92 but would be a greater buy, if the shares drop lower. In this article I will discuss about a trade called Put Ratio Spread and how I can place that trade on EWZ, to suit my situation.

   In a put ratio spread, we buy puts at higher strike price and selling more puts at lower strike price to offset our cost. In case of EWZ, I can buy one Feb,2012 57.00 put for $2.80 which will cost me $280 and sell three Feb,2012 51.00 puts, for $0.96 which will give me credit of $288.  Placing this trade will cost me nothing or almost nothing and I will be buying the stock for $48.00, if it craters below $51.00

   On the options expiration date, for every dollar the stock drops below $57.00, this trade will gain $100 up to $51.00. For every dollar the stock drops below $51.00, this trade will loose $200. Maximum possible profit is $600. Break even price is $48.00. Maximum loss will be $9600, if stock goes to $0.00.

  If the stock is higher than $57.00 on options expiration date, we neither gain nor loose anything. Even if the stock is higher this trade could be closed for gain, few days before options expiration because lower strike puts decay faster than higher strike puts.

Disclaimer: This article does not constitute individual investment advice. It is only for entertainment.

Source: Yahoo Finance.

Disclosure: I own put ratio spread on EWZ.

How will I trade your $100000?

"They say a good chess player can see up to twenty moves deep. That means that in some games, you've calculated every possible move in your head. The game's over before it's even really started”.               –Confidence.

   Let us see if we can come up something close to the above statement, in our field, trading stocks. 

A trading strategy, which can factor every possible scenario! Give us an upper hand to outperform the market.

  One doesn’t need to be a genius to realize the possible outcomes after you buy a stock; stock goes up, stock goes down or remains flat at the same price, depending on your time horizon.  So all we need to do is capture the upside and not loose on the down side. This can be done easily by simply buying puts. But protection is not cheap. If we spend 10% of the underlying position to buy puts, that will protect us for a year and our position does not move more than 10% in that time frame, we have lost money.

If I know, my stock is not going to bankrupt, all I would need is limited protection. If the stock is trading at $100, instead of protection for $100, all I might need is downside protection for first $20 or $30. Only way, I can be confident that my position will not decimate completely is to get into indexes.  What are the chances of SPY or IWM going to zero?

  My ideal portfolio should always maintain cash. If we are fully invested or borrowed on margin, we panic when the market crashes. On the other hand, we will see it as an opportunity to increase our position or open new positions at sale price, if we have cash. At the same time, if the market is on rise, we will underperform the market because we are not fully invested. This can be offset by using options.

  If I am, a portfolio manager or running an insurance company, this is how I would invest your one hundred thousand dollars:

 Inception date: Dec 25, 2011

Symbol	Description	Quantity	Price	Value
IWM	iShares Russell 2000 Index	400	$74.55	$29,820
-iwm130119c75	IWM Jan2013 75 call	5	$8.91	$4,455
-iwm130119c90	IWM Jan2013 90 call	-9	$2.89	-$2,601
-iwm130119p75	IWM Jan2013 75 put	6	$10.81	$6,486
-iwm130119p60	IWM Jan2013 60 put	-10	$5.13	-$5,013
EWZ	iShares MSCI Brazil index	500	$58.33	$29,165
-ewz130119c58	EWZ Jan2013 58 call	6	$7.75	$4,650
-ewz130119c70	EWZ Jan2013 70 call	-11	$3.00	-$3,300
-ewz130119c58	EWZ Jan2013 58 put	8	$8.70	$6,960
-ewz130119c45	EWZ Jan2013 45 put	-13	$3.90	-$5,070
Total				$65,552
Cash Remaining				$34,448
Total portfolio				$100,000

    Now that I have shown the portfolio, let us run few scenarios.

 Market is down: Let us assume both IWM and EWZ are down 15%. IWM would be trading at 

$63.37 and EWZ would be trading at $49.58. IWM position will be worth $25,348 and our 6 puts will be worth $6,708. EWZ position will be worth $24,790 and our 8 puts will be worth   $7,000. Portfolio value will be $98,294 plus the dividends earned. I would be extremely happy at this situation and also increase positions with cash on hand.

 Market is up: Let us assume both IWM and EWZ are up 15%. IWM would be trading at   $85.73 and EWZ would be trading at $67.08. IWM position will be worth $34,292 and our 5 options will be worth $5,590. EWZ position will be   worth $33,540 and our 6 options will be worth $5,250. Portfolio value will be $113,120 plus the dividends earned.

 Market is flat: If both positions are flat, we have to close all options and puts two months before expiration to break even. This was the specific reason, we paired Russell index with Brazil index. 

There was no year, in which both Russell and Brazil index ended in flat line. If the global economy does not end up in recession next year, I would bet two cows and three goats that Brazil index would outperform over the next year.

 Market crashes: If both positions crash 30% our portfolio will be down around 8% and we will be doubling our core positions, waiting for markets to rebound. It will hurt that we are down, but will have the pleasure that our neighbors lost more than us.

   I will be tweaking this portfolio once or twice a year and review the portfolio every Dec 25^th for next four years. You can see how you would have done, if I was your portfolio manager for five years.

   Feel free to leave comments and poke holes in my strategy, to outperform the markets.

  Disclaimer: This article should not be treated as individual advice. Consult your financial adviser to review your risk tolerance and strategy that suits you.

 Source: Yahoo Finance

Disclosure: I have short and long puts in EWZ and do not plan on initiating position in IWM in next 72 hours.

Four ways to trade Rio Tinto plc (RIO)

In this article we will look at four strategies using our tools of the trade, options and puts, to trade RIO and possibly buy the stock below market price.  Rio Tinto plc (RIO)  is  a mining company with almost half of the revenues derived from Iron ore and around a quarter of revenues from gold, but also mines and process several other metals and minerals. RIO has an operating cash flow over $19 billion and pays a dividend of $1.07.  RIO currently earns $8.16 per share, has an average price target of $92 and currently trading for half that price.

Covered call option:  This is the most basic and safest strategy for an options trader. You simply buy the stock and sell later dated options, at the strike price, you are happy to sell the stock. While RIO is trading today at $47.40, options for January, 2013 $60 strike price can be sold for $4.50. So, using this strategy, one can buy the stock for roughly 10% below market price and still have a chance for $17.10 in upside. Also, earn a $1.07 in dividend.

Covered call option and option spread combo: In this strategy you buy the stock and open, a one by two credit spread. RIO January, 2013 $50 strike price option is trading for $8.50 and $60 strike price option is trading for $4.50. So following this strategy, for every 100 stock bought, you buy 1 contract of $50 strike price and sell 2 contracts of $60 strike price option, getting a credit of $0.50. You not only bought this stock for $0.50 below market price, but also have a chance to gain $2 for every $1 increase in stock price, up to $60.

Selling a put option: While waiting for the stock to fall to the predetermined price, you may generate revenue by selling put options at that strike price. So if you want to buy RIO for $40, you can sell April, 2012 $40 puts for $3.  Sell 1 contract for every 100 stock you want to buy. If the stock doesn't fall to $40, by April, 2012, you have made $3 in profit. If the stock dips to $40 or below, you are obligated to buy the stock and our buying price is $37.

Put and put spread combo: In this strategy, you buy one put at the money and sell two puts out of money. RIO April 2012, $45 strike price puts are trading for $4.60 while $40 puts are trading for $3. So, for every 1 contract of $45 puts bought, sell 2 contracts of $40 puts and you get a credit of $140. If stock falls to $40 by April, you made a profit of another $500. If stock falls below $40, you are obligated to buy the stock for $35, no matter how much the stock dips below $40. If the stock continues to climb higher from today, this trade can still be closed for profit before expiration, because with time, $40 puts deteriorate faster than $45 puts.

  This article is just a starting point. Do your due diligence before investing and according to your risk tolerance.

Source: Yahoo Finance

Disclosure: I do not own any position in RIO, but might initiate in the next 72 hours