Technically Speaking, February 2022

It’s the second month of the year already. So, if your New Year Resolutions haven’t taken off as you thought they would, don’t fret. You have another 11 months to get that in order. But if even one of those resolutions had anything to do with jumping into the market when the consolidation is over, the we know how that turned out.

What we thought were early signals of trend resolutions in the last quarter, quickly morphed into prolonged consolidations. With the consolidations playing out as they do, we’re back in a ‘wiggly worm’ market.

But is this playing out across all asset classes? Not entirely. Commodities and Bonds have been pretty clear with their respective chosen directions. Commodities have been showing continued strength and Bonds (true to their intermarket relationship) are heading lower. What does that leave us with? Equities and Currencies of course (DXY taking center stage). Both of which have been a mess. But as every philosopher will tell you, there’s beauty to be found in a mess too! This loosely translates to there being opportunities in a few global equity markets that are faring better than others.

Go through the major world indices and you’ll see certain economies outperforming others. Singapore, South Africa, Czech Republic to name a few, have been displaying strength at a time when several major markets are moving sideways or lower. A good exercise is to go through the world indices on a regular basis to get a bird’s eye view of the prevailing trends. It’ll save you a lot of ‘false alarms’ of the ‘the sky is falling’ chatter. This is because our mind works like the weighted moving average. We tend to give more weight to the factors we think matter most. While that is not an entirely wrong approach, it is not always helpful, or may not paint the most accurate picture. Sometimes a simple moving average is the order of the day! Even if the market is messy and you want out, keep your mind in. Keep following the trends. The best time to learn the market’s idiosyncrasies is when it’s at its messiest! So go down the rabbit hole, it’ll be good I promise!

Until next time, Think Technical!

Rashmi Bhatnagar, CMT

Editor

What's Inside...

When Will Pricing Be Normal Again?

Ryan Hysmith DBA, CMT

In last month’s Technically Speaking, we showed the price of downside protection has risen dramatically, with longer-dated, low delta put...

Stacking Credentials: A CPA’s Perspective on Pairing the CPA with CMT Designation - Part 2 of 2

John Letizia II, CPA, CMT, CFTe

In Part I, I provided a simple approach to integrate technical and fundamental analysis. This is essential because most...

Fill The Gap Episode 14 with : CMT Association's official Podcast

Tyler Wood, CMT

David Lundgren, CMT, CFA

Summary:

When not skiing Lake Louise or surfing off the California coast, this month’s guest...

President's Letter

Brett Villaume, CMT, CAIA

One of the greatest benefits of membership in the CMT Association is gaining access to the wealth of research that...

Small Cap, Big Potential

Jay Thakkar, CMT

The NIFTY Smallcap 100 Index is designed to reflect the behaviour and performance of the small cap segment of the...

Modern Technical Analysis of Cryptocurrencies using On-Chain Analytics

Louis Sykes

One of the most underappreciated elements about Bitcoin is the transparency of transactions that enables us to gain deep insights...

[Options] My Favorite Strategies: Bull Call Spreads

Sean McLaughlin

A Vertical Spread is one where you are long options at one strike and short an equal amount of options at another...

Board Nominations for June 2022 Annual Member Meeting

Alvin Kressler

The Governance Committee of the Board of Directors is seeking nominations for the role of Director at Large on the...

In Memoriam

Robert Francis Hill, age 75, of Nahant, former head of Fidelity’s...

Job Postings on CMT Association's Discord Server

Joel Pannikot

As part of our growing effort to create career opportunities for our members, we have set up a Job Board...

When Will Pricing Be Normal Again?

In last month’s Technically Speaking, we showed the price of downside protection has risen dramatically, with longer-dated, low delta put options experiencing the highest increase.

While the post-pandemic environment is historically unique, how does it compare to the 2008 Financial Crisis and 2018 trade war sell-offs? What can those examples teach us about the duration of inflated protection pricing?

How long does it take for pricing to normalize after a spike in volatility?

Duration of Pricing Spikes

To answer this question, we looked at spikes in out-of-the-money SPX put option pricing during the Financial Crisis, 2016, and 2018.

We calculated the mid-price for the contract that best fit our criteria (.05 delta puts with 60 days to expiration) each day at 3:45 PM EST. We evaluated all expiration types, tracking the contract that best matched our defined DTE and delta, regardless of weekly, monthly, or quarterly expiration.

To visualize the duration of the spikes, we calculated the 60-day average contract cost before the pricing increases. The blue horizontal line shows the average in each plot.

We defined “normalize” as when the pricing scatter plot fell below that 60-day average line for multiple trading days. As you will see in the plots, this did not always happen.

SPX Put Pricing: Financial Crisis

Figure 1 shows protection puts had a historic price spike in late 2008, the largest on record before the Pandemic Crash in 2020.

However, the scale of Figure 1 prevents us from seeing the pricing fluctuations produced by the volatility of the Financial Crisis.

In Figure 2, we plotted the same data as in the previous figure but removed the 11 high-magnitude data points from Figure 1. This lowered the left y-axis scale from 1-100 to 1-10. The pre-event 60-day average and VIX values are unchanged. On this updated scale, it’s easier to see that pricing did not truly mean-revert for nearly six months.

SPX Put Pricing: 2015-2016

In 2015, protection pricing rose as the market entered correction territory. Prices slowly reverted to their mean following the initial spike. While they did fall below the 60-day average about two months after the initial pricing increase, contract prices did not persist below that level until April 2016, nearly eight months after the initial price increase.

SPX Put Pricing: 2018

2018 offers a unique look at the duration of elevated put pricing. Starting in February with inflation fears and ending with volatility due to the onset of the China-USA trade war, put protection pricing remained elevated for the entire year.

It is interesting to note that throughout 2019, leading up to the Pandemic Crash, put protection prices never reverted to their previous level.

These historical examples bring us back to our current focus. The Pandemic Crash elevated put pricing beyond its already historically high levels.

Looking back through the charts, this pricing level relative to the VIX would have been unimaginable during previous volatility events. Protection pricing has fallen some since the Pandemic Crash but is still well above the already-elevated previous levels.

The magnitude and duration of protection put pricing is largely unpredictable. The price to protect your portfolio with OTM puts has still not mean-reverted since the 2018 increase. The volatility from the Pandemic Crash has taken these prices to another level despite new ATHs throughout the second half of 2020 and 2021.

Tying It All Together

The past does not give a reliable indication of how long this pricing will persist or if it will mean revert, but we do know that traders are preparing for the “unknown unknown” by prioritizing downside protection.

Since the Pandemic Crash, hedge pricing has dramatically risen, with longer-dated options experiencing the highest increase.

After a market correction or significant spike in volatility, hedging is on many investors’ minds. With the pain of the last portfolio decline still fresh, traders line up for portfolio protection in hopes of preventing it from happening again.

As markets settle down and volatility subsides, investors tire of paying premiums for portfolio protection and demand subsides, causing put prices to decline. Then, when a volatility event happens again, the unhedged are exposed yet again, and the cycle repeats.

The price of portfolio protection ebbs and flows. When protection pricing is high, perhaps pursue alternative hedging strategies. When it is low, don’t get lulled into complacency and skip out on protecting your downside.

@rthysmith

Contributor(s)

Ryan Hysmith DBA, CMT

Ryan loves thinking about, talking about, and writing about markets. Ryan is the Chief Market Strategist for Option Alpha, a no-code automated trading platform for stocks and options. Before joining Option Alpha, Ryan taught undergraduate finance and worked in institutional fixed-income sales....

Stacking Credentials: A CPA’s Perspective on Pairing the CPA with CMT Designation - Part 2 of 2

In Part I, I provided a simple approach to integrate technical and fundamental analysis. This is essential because most fundamental analysts have a disproportionate bias to the upside. In many respects, it is understandable because fundamental analysts follow particular companies continuously and there is no reason to do so if the performance of a company will not improve over the next twelve month period. Additionally, there is an inherent nature to believe that the future will be better than today. What is more, the market indices are designed to go up over time since laggards are replaced without restatement. Such logic is difficult for a CPA to fathom.

For example, the S&P 500 spot compared with the median target price from December 2022 through November 5, 2021 is shown in Exhibit 1. Over this period, the index was reconstituted with new leaders added and laggards replaced, and despite several major pullbacks, including The Great Recession and The COVID-19 Recession, the forward S&P forecasts were always higher, with an average 250 point spread between the spot and forward median target price.

Exhibit 1: Consensus Suggests Fundamental Analysts are Naturally Bullish

Source: FactSet as of November 7, 2021

At the time of this writing (early November 2021), the market is at all-time highs. The first of Ned Davis’ nine rules “don’t fight the tape” along with broad-based participation does not give any technical indication that the current uptrend is in jeopardy. Therefore, when looking at the individual companies included in several well-known indices, it is not surprising to expect an overwhelming consensus of buy/hold ratings as set forth in Exhibit 2.

Exhibit 2: Consensus Suggests Underlying Companies’ Fundamentals are Strong

Source: FactSet as of November 7, 2021

Euphoria does not last forever and eventually this bull market will end. The question is will fundamental analysts recognize the macro change when it does occur? There is a recent real world example that suggests the answer to that question is no.

From the January 3, 2020 closing high of WTI Crude Oil to its closing low on April 27, 2020, WTI dropped 79.7% and the XLE fell 41.4%. The energy stocks included in the S&P 500, the S&P Mid Cap 400, and the S&P Small Cap 600 indices during the aforesaid period (see Exhibit 3) remained an overwhelming consensus buy, despite many analysts forecasting WTI oil prices to remain below $70 per barrel through 2026. Even today as WTI consensus is at $68.73 and $67.55 for December 2022 and 2023, respectively, and the commodity trading above $80.00, it seems odd to be overly bullish on energy names while bearish on the underlying commodity which has had a 0.76 correlation to XLE over the past 20 years.

Exhibit 3: Energy Sentiment Remained Bullish when Macro Fundamentals Collapsed

Source: FactSet as of November 7, 2021

Before I am accused of unfairly picking on energy – after all, nobody could have anticipated the demand destruction of COVID-19 – I looked at analyst ratings of all companies underlying today’s S&P 500 Index as of October 9, 2007 (the index’s closing high immediately before The Great Recession). At that time, there were 304 sell ratings across 6,631 analyst ratings or ~4.6%. On March 9, 2009, (the index’s closing low during The Great Recession), there were 577 sell ratings across 6,879 analyst ratings or ~8.4%. While there may be cases in which valuations are skewed, if markets are even close to being efficient, it should not be this widespread, especially in a post Regulation FD world which has persisted for over 20 years.

After staying relatively range bound from $75 – $115 from December 2010 – November 2014, WTI broke support and ultimately fell to 63% from November 14, 2014 to February 9, 2016 versus the S&P 500’s decline of 9%. WTI eventually bottomed in February 2016 and subsequently rose to $73 in September 2018 before staying range bound between $65 – $50 until February 2020 and the COVID-19 demand destruction (see Exhibit 4). Despite the structural shift in domestic production due to the shale revolution, fundamental analysts remained bullish on energy stocks (see Exhibit 5).

Exhibit 4: WTI Monthly Chart

Source: StockCharts.com as of November 7, 2021

Exhibit 5: Energy Sentiment from 2014 – 2020 when Macro Fundamentals Deteriorated

Source: FactSet as of November 7, 2021

I often remind people that there is much more to technical analysis than lines on a price chart. While this is an important part of technical analysis, modern technical analysis also includes risk management, statistical analysis, security screening, and understanding human psychology. These very important categories usually are ignored in fundamental analysis. A great story does not matter if no one else is buying the stock.

Exhibit 6 is an illustrative example of First Trust Global Wind Energy ETF (NYSE: FAN). Despite a federal administration that was pro-fossil fuels, FAN broke to new highs in mid-2020 and continued its ascent rising 62.3% from July – December 2021 versus the S&P’s rise of 20.5%. However, when a pro-renewables administration entered last January, as well as substantial investments in wind projects both domestically and abroad, FAN has spent the majority of 2021 in a trading range. This example demonstrates that despite favorable fundamentals due to the bullish prospects of renewable energy, particularly wind, by federal and state governments, prominent political and business leaders, and Wall Street firms, technical analysis could have provided greater alpha by exiting a long position when there was a confirmed trend changed (and either shorting FAN or finding another opportunity), trading the range, or passing all together until FAN’s price breaks out of its range. The opportunity cost of staying in a sideways trade for months often is overlooked and may not be the best use of capital.

Exhibit 6: Technicals Navigate 2020-21 better than the Macro Environment

Source: StockCharts.com as of November 7, 2021

The integration of technical and fundamental analysis results in actionable ideas beyond buying or holding for the next twelve months or selling a position today. The goal of an investment is simple – make money. While investing in companies with strong fundamentals has a long history of success, if positive returns are not occurring, a fresh analysis using different tools should not be dismissed. The time value of money or opportunity cost is seemingly often overlooked when in an underperforming investment. Being tactical, with at least a portion of the portfolio, can drive greater returns.

The case to integrate technical analysis with fundamental sell-side research is simple:

Enables a holistic approach to the market
Provides a real-time understanding of the market environment
Looks at price/executed orders and not assumptions
Facilitates efficient timing in position entries/exits
Allows for strategic hedging to maximize alpha and reduce a portfolio’s volatility
Enables the sell-side firm to offer a proprietary and differentiated product
Helps drive increased client votes

Simply stated, technical analysis helps to identify when an action should be taken and when to simply “ride the wave” as opposed to discrete buy, hold, or sell decisions as of a moment in time.

Accounting and chart analysis clearly require different skillsets, but many of the core tenets that make for a good CPA also make for a good market technician. As a result, while there are few CPA – CMTs, in time, the combination may be more common, especially as more buy- and sell-side firms look to hire CPAs to assist in their fundamental analysis. For the time being, I will relish being one of the few to have both designations and continue working with friends, colleagues, and clients to better understand the value in pairing the two disciplines.

Contributor(s)

John Letizia II, CPA, CMT, CFTe

John J. Letizia II, CPA, CMT, CFTe is a sell-side equity analyst. Prior to his time on the sell-side, John worked as a proprietary trader employing technical analysis for three years. John also has worked in both KPMG’s and Ernst & Young’s...

Fill The Gap Episode 14 with : CMT Association's official Podcast

Summary:

When not skiing Lake Louise or surfing off the California coast, this month’s guest is helping investors catch the next big wave in the markets. For our listeners not already familiar, Mebane Faber, CMT is the:

Author of 5 books and editor of 2 compilations
Creator of the Idea Farm – a market research library
Host of the Meb Faber Show, one of the most widely received podcasts on financial topics
Scores of white papers
and hundreds of blog posts

As the co-founder and the Chief Investment Officer of Cambria Investment Management, Faber is the manager of Cambria’s ETFs and separate accounts. This month’s discussion covers all the tools and process that drive the investment practice of Cambria including, the guiding pillars of value and momentum. Known for advocating for diversified, multi-asset portfolios, this interview tugs at the challenges of global investing and the home bias that has worked to the advantage of American investors during the past decade. As regimes shift however, leadership may shift again to ex-US equity markets and alternative assets within the commodities space.

Mr. Faber graduated from the University of Virginia with a double major in Engineering Science and Biology. This background undeniably shaped his investing practice with a firm grounding in the scientific method. Meb is an ardent researcher exploring the persistent anomalies of the market and continuing to discover and explore the nuances of multiple strategies in practice.

Enjoy episode #14 with our special guest Meb Faber, CMT

Contributor(s)

Tyler Wood, CMT

Tyler Wood serves as Managing Director of CMT Association with the aim of elevating investors’ mastery and skill in mitigating market risk and maximizing return in capital markets through a rigorous credentialing process, professional ethics, and continuous education. He is a seasoned business...

David Lundgren, CMT, CFA

David Lundgren has more than three decades of investment industry experience, with a focus on technical analysis strategies, particularly momentum and trend following. He is the former Director of Technical Research at Wellington Management, where he was also a Managing Director and portfolio...

President's Letter

One of the greatest benefits of membership in the CMT Association is gaining access to the wealth of research that is available in our archives. This month’s President’s Letter is a reminder that within the field of Technical Analysis, you don’t have to reinvent the wheel.

When it comes to figuring out how to analyze price data to exploit market inefficiencies, it’s all been done before! You just have to apply the concepts that have already been discovered and documented by the technicians who came before us.

ICYMI, on January 19, 2022, George Schade, Jr., CMT presented “The Wisdom In The History of The Advance-Decline Indicator©” for the CMT Association’s Educational Webcast Series. You can access the recording here: https://cmta.dev/video/the-wisdom-in-the-history-of-the-advance-decline-indicator/

George received the Charles H. Dow award in 2013 for his paper, “Origins of the On Balance Volume Indicator”. In my opinion, he is the most knowledgeable member of the history of technical analysis in the CMT Association currently.

His lecture began with an introduction of Leonard Porter Ayres, who first conceptualized the Advance-Decline indicator in 1926. I’ll repeat that year again, so it sinks in…1926. Ayers’ assistant, James Fearl Hughes, then “activated” the concept by performing his own studies.

George then explained the work done over the decades within the subject of market breadth, including the contributions of Harold Gartley, Richard Russell, Joe Granville, Martin Zweig, Walter Deemer, Sherman and Marian McClellan, and Robert Nurock.

Much of the work performed by these now famous technicians that George referenced was done in the mid-Twentieth Century, but some as far back as the 1930’s and 1940’s.

“Study the history of your technical craft because you will learn much wisdom you can use every day to beat the Stock Market,” says George at the end of his presentation. He went on to add that one of his favorite expressions is, “The work of technicians is always on the shoulders of giants that have come before them.”

Here’s an example of another famous technician who really took that concept to heart.

In a 2020 presentation, John Bollinger, CFA, CMT explained how he applied a relative strength stock selection system called “cast-out investing” that was first described by Robert Levy in his 1968 book, “The Relative Strength Concept of Common Stock Price Forecasting”. The concept is simple and John explained how he used it to create a sub-index of ESG-oriented stocks that significantly outperformed the S&P 500 over a multi-year timeframe. John remarked how amazing it was to him that this 50-year-old system was still effective after all these years! The work has been done for us, John noted. All we have to do is apply it.

As a CMT member, where can one find all this great information? Well, there are a couple of easy-to-access places to get you started.

The Journal of Technical Analysis archives: https://cmta.dev/development/journal-technical-analysis/
The CMT Association’s official podcast, Fill the Gap: https://cmta.dev/development/podcasts/
Visit the Technical Analysis Library at Baruch College: https://www.taeducation.org/about/library/
Attend our Annual Symposium in late-April 2022 (an announcement is forthcoming) to learn about all kinds of TA methods, new and old.

Additionally, the CMT Association is planning to launch a new platform to provide members with curated access to hundreds of video recordings and articles that will make it even easier to access the wealth of historical research on TA in our archives. More information about this new platform will be announced soon.

I also encourage you to reach out to your fellow CMT members and ask them to guide you about where to look and which technicians have influenced them the most over the course of their careers.

Contributor(s)

Brett Villaume, CMT, CAIA

Brett Villaume, CMT, CAIA, is Past President of the CMT Association, having served on the Board of Directors since from 2014 to 2023. Additionally, Brett is a Wealth Advisor at Dogpatch Capital, a registered investment advisor in San Francisco, CA. From 2015...

Small Cap, Big Potential

The NIFTY Smallcap 100 Index is designed to reflect the behaviour and performance of the small cap segment of the Indian financial market. The index comprises 100 tradable stocks listed at the National Stock Exchange (NSE). NIFTY Smallcap 100 Index is computed using free float market capitalization method, wherein the level of the index reflects the total free float market value of all the stocks in the index relative to particular base market capitalization value. This index can be used for a variety of purposes such as benchmarking fund portfolios, launching of index funds, ETFs and structured products. Today we’re going to take a look at this index and see where it stands from a market strength standpoint.

Above is the Quarterly chart of Nifty SmallCap 100

After 7 consecutive positive quarterly closes Nifty SmallCap 100 Index is displaying weakening momentum with a sharp price reversal indicating that it’s now time for a pause in its upward trajectory. In the above chart, the price is reversing from the long term trend line for the second consecutive quarter. The quarterly MACD is well in the buy mode. However, on a lower time frame i.e. daily as well as weekly charts the momentum has weakened with a negative divergence indicating a likely reversal in the price as well.

Above is the weekly chart of Nifty SmallCap 100 Index

In the above chart it’s very clear that since August 2021 the price is making higher highs whereas the momentum is making lower highs, hence there is a negative divergence. Recently, the price bounced back from its support at its minor uptrend line, however, once the recent lows of 10541 gets broken followed by a break below its previous swing of 10306 and 10249 the price reversal will be confirmed.

As per the Elliott wave Theory it appears that the five waves rising structure is now complete, marked from the low of March 2020 i.e., 3202 to the recent swing high of 12047. Generally, there is a negative divergence in the fifth wave which is quite visible in this case. On the monthly charts, the MACD is trading at an all-time high level indicating an overbought scenario.

A minimum retracement of 23.6% of the entire up move from the March lows will get the Index to 9971 levels and 38.2% retracement level comes to 8666 levels. Now, on the upside, the recent swing high of 12047 is a very crucial resistance and until that is not taken out the overall trend appears negative.

Above is the monthly chart of Nifty SmallCap 100

In the above chart it’s quite evident that the momentum is weakening hence a price reversal is more likely on the downside. The Relative Strength Index (RSI) has shown a second divergence from quite an overbought region. In the past 2 occasions the RSI had reversed from 77 levels. This time the case looks much likely as there is a second divergence.

Non participation from the small caps in a market rally doesn’t spell doom, but isn’t a promising sign either. It is important to track all these developments to make sure the developing trend is identified well in time.

Contributor(s)

Jay Thakkar, CMT

Jay Thakkar is Head of Equity Research and Structured products department at Marwadi Shares and Finance Ltd. He has more than 11 yrs of experience and he has been representing the companies he has worked with in print and television media for...

Modern Technical Analysis of Cryptocurrencies using On-Chain Analytics

One of the most underappreciated elements about Bitcoin is the transparency of transactions that enables us to gain deep insights into the behavior of investors. One of the many implications of blockchain mechanisms is that analysts and traders have access to a wide array of data that cannot be replicated in traditional asset classes, like stocks, commodities, and bonds.

At All Star Charts, we’ve been supplementing our traditional price analysis of cryptocurrencies with an entirely new set of on-chain data to find increasingly reliable and actionable signals. We wanted to share a handful of these metrics, and how they provide an incredible edge to effectively evaluate capital flows.

The Long-Term Holder Supply Shock is a great metric to visualize the long-term supply dynamics underpinning the entire crypto market. It’s calculated by dividing the amount of Bitcoin that hasn’t moved (been sold) in over 155-days by the remainder of the supply that’s moved in a window between 0-155 days. It’s shown below:

This metric does a great job of telling us whether investors are in a regime of accumulation or distribution. When more coins are being held over that 155-day threshold, Long Term Holder Supply Shock approaches local peaks, signalling accumulation from investors. As it currently stands, we’re currently in one of these zones of peak accumulation.

Furthermore, on-chain data allows us to see the holdings, buying, and selling of every trader cohort in real-time. For this chart, we’re looking at the 30-day sum of the movement of coins to/from wallets that belong to whales (entities that hold more than 1,000 BTC). This tracks the buying and selling of whales, institutions, and the largest players in the asset class. The institutional money that left in October is coming back in.

In many cases, this data not only supplements price analysis but can even warrant replacing a variety of traditional indicators. Unlike traditional market-caps which measure price as a product of the float, the realized-cap is the sum of coins as a product of their last moved price. By extension, the realized price is a measure of the aggregate cost basis of the entire Bitcoin network.

We can take this one step further and evaluate the respective cost basis’ of both short and long-term holders using the same 155-day threshold as previously mentioned. The short-term holder realized price is an incredibly reliable indicator for determining macro support and resistance levels, as well as a tool to manage risk in this volatile market. We’ve included the chart below to reflect the market’s responsiveness to these prices; it currently sits at $47,650.

These are just a few of the many ways we incorporate this data into our cryptocurrency analysis. The level of transparency we’ve observed compared to traditional asset classes is unrivalled and has provided us with immense value as an input to our weight of the evidence approach.

All data supplied by Glassnode.

Contributor(s)

Louis Sykes

Louis Sykes is a candidate currently undergoing his CMT charter. Based in New Zealand, Louis is an undergraduate student at the University of Auckland majoring in Finance & Accounting. He is also a technical analyst at All Star Charts where he primarily...

[Options] My Favorite Strategies: Bull Call Spreads

A Vertical Spread is one where you are long options at one strike and short an equal amount of options at another strike, both in the same expiration series. These can be done both for debits or credits, depending on whether you purchased the more expensive option (debit) or sold short the more expensive option (credit). And these can be done with either all calls or all puts.

But my favorite version of the vertical spread is a Bull Call Spread, where I purchase an at- or slightly out-the-money call and sell a further out-of-the-money call against it to lower my net purchase price.

An example of a Bull Call Spread when a stock is trading at $99 per share would be one where I purchased a 100-strike call for $4.25 per contract and sold short a 110-strike call for $2.00 per contract, for a total net debit of $2.25. The PnL graph for this spread might look something like this:

You’ll notice that with a debit spread, the most I can lose is the net premium I paid at trade initiation — $2.25. The stock could go to zero overnight, but it would be no matter to me. My loss is capped at whatever I paid to enter the trade. No more. This provides a certain degree of freedom from concern, as long as we size our positions properly (I will rarely risk more than 2% of my capital on any one bull call spread).

You’ll also notice my max potential profit is capped. This $99 stock could get a buyout offer from a big conglomerate and the next day gap higher to $400 a share. While that’s great news for stock position holders, unfortunately for me, I won’t be able to participate on any additional gains beyond my short $110 strike. While I like the idea of selling the short strike to lower my cost of participation, it comes at this cost of limiting my potential gains. The most I can gain in a bull call spread is the max value of the spread (the difference between the long strike and the short strike – $10), minus the premium I paid ($2.25).

I will employ a bull call spread rather than simply buying calls for a few reasons:

I don’t have an incredibly high conviction that the stock is going to make an explosive move higher.In this case, instead of buying a 25 delta out-of-the-money call (my preferred bullish play), I’ll buy the slightly out-of-the-money call which has a higher statistical chance of making money, while selling a further out-of-the-money call (creating the vertical spread), to help finance the purchase.
Somewhat related to #1, there may be some overhead resistance that will likely pause any bullish momentum.While I’m bullish on the stock, I’m bullish up to this point. In this case, it makes sense to sell the short strike for the spread at or near this resistance level.
Options premiums are elevated. I track how implied volatility is trending for the stock. If implied volatility is in the upper end of the 6-12 month range for this particular stock, then this means the premiums in these options will be expensive. One sure way to put myself behind the 8-ball is to overpay for a long call. A great way to neutralize the effects of expensive premiums is to create a debit spread like a bull call spread where I’m using the elevated premiums in the call strike I’m shorting to offset what I’m paying for the call I’m buying.
The underlying stock is expensive.Volatility may be low in a stock like Amazon $AMZN, meaning the options premiums are “low” (in relative terms), but when it’s shares are priced at $3,300 per share, even one out-of-the-money call might cost me $10,000 or more per option contract. I’m not comfortable risking $10k on a 1-lot trade! So in this case if I wanted to participate in a bullish thesis in $AMZN, a Bull Call spread allows me to size my risk far more responsibility. I can design a spread width that more closely aligns with my risk tolerance.

Like with long calls, I will manage risk in two ways:

I will accept the possibility that I can lose 100% of my invested capital in this trade. Therefore, I’ll size my position accordingly. As I mentioned above, I will rarely risk more than 2% of my capital in any one Bull Call Spread position.
I will also have a level I’ll be watching on the chart that would signal to me that the bullish trend is busted. If I’m below that level, then I know it’s time to exit the trade and salvage whatever I can to minimize any further losses, if I can. Depending on the timing of when this violation occurs, there may or may not be any premium left in this spread to salvage. If there isn’t, then thank goodness for #1 above.

When my bull call spread is winning, I look to take profits when I can capture 50% of the maximum potential profit in this spread. So, in the case above where the most I can win is $7.75 (if held all the way until expiration and the stock closes above my short 110 strike), I’ll close the trade and book the gain when I can walk away with around $4.00 in profit.

Why?

Because as the value of the spread approaches maximum potential value, it conversely means I’m risking more and more of my open profits to earn less and less potential additional gains. I don’t like that math. And the more time we give Mr. Market to take back his profits, the more likely it is to happen. I’d rather just take my “easy” profit and let the rest of the potential profit be someone else’s problem. I’ll just move on to the next fresh new idea.

Any questions on any of this? Hit me up.

~ @chicagosean

Contributor(s)

Sean McLaughlin

Sean McLaughlin is a 25-year trading veteran, with trading experience in US Equities, Futures, Forex, Cryptocurrencies, and a current focus on equities and index options. A Former Member of the Chicago Board of Trade, Sean first began as a high frequency...

Board Nominations for June 2022 Annual Member Meeting

The Governance Committee of the Board of Directors is seeking nominations for the role of Director at Large on the Association’s Board for terms beginning in Fiscal Year 2023. Please read the January Technically Speaking letter from Board President Brett Villaume, CMT President’s Letter, January 2022 on nominations. You will also find in the same issue a note from Salma Abdulla, CMT, CFA, Chair, Governance Committee, on Director qualifications and the process on how to nominate someone: Board Nomination Process. If you have any questions regarding the nominating process, please contact our CEO directly at alvin@cmtassociation.org.

Further, if you would like to become more involved with the Association and aren’t sure where to start you can reach out to us here: Join a Volunteer Committee – CMT Association or send us an email here: admin@cmtassociation.org to let us know and the Association’s staff will help you get involved in the area that interests you.

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Alvin Kressler

Alvin Kressler is Executive Director & CEO of the CMT Association. Alvin was previously Director of Research and Corporate Access at Bloomberg Tradebook. Before joining Bloomberg, he was the Executive Director of The New York Society of Security Analysts (NYSSA). At over...

In Memoriam

Robert Francis Hill, age 75, of Nahant, former head of Fidelity’s Technical Department, died on Wednesday, October 20, 2021 at North Shore Medical Center, Salem Hospital, surrounded by his loving family, following a brief illness. He was the devoted husband of Cecelia J. (Walsh) Hill with whom he shared over 51 years of marriage. Born in Boston, MA in 1946, he was the son of the late Rita G. (Francis) Hill. Bob grew up in West Roxbury, MA and later settled in Nahant. He graduated from both Boston Technical High School and Northeastern University.

He felt at home in Fidelity’s chartroom, a 30 year passion for the economy and stock market. He enjoyed golfing, long early morning walks along Nahant Beach, time with his grandchildren and cooking for family on the grill. Bob and his wife Celia travelled frequently to South Carolina, enjoyed trips together throughout the US and Canada and have hilarious tales from travel abroad, in particular from Ireland and Italy. A man of measured actions and responses, he lived a life balanced with risk and benefit, a purposeful direction. He appreciated diligent work, honest effort, humble presentation and good value. He was a man of few needs and wants. He appreciated a clear sunset, a good banter about the day’s market performance and holiday traditions. Bob was not one to freely express emotion, except at the TV while watching the Red Sox, or Patriots. But, when he said “I love you”, you knew he meant it. His heart grew more tender around his grandchildren, great nieces and great nephews. A smile or a laugh revealed his joy and love. A man of fierce independence, he made the plans and the decisions. Not one easily swayed without persistent persuasion and calculated reconsideration. He was thoughtful with his time and attention to his family.

In addition to his beloved wife, Cecelia of Nahant, Bob is survived by his daughters, Amy McDonald and her husband Jason of Hillsborough, NC and Karen Hill and her partner Jenn Craft of West Roxbury; his sister Nancy Hannon of West Roxbury; his 5 adoring grandchildren, CJ, Andy, Cecelia, Sami and Lucy and his many nieces and nephews. In addition to his mother, he was predeceased by his son Andrew Francis Hill, his brothers James and Fredrick Hill and his sister Barbara Ann Hill.

First published on: https://www.legacy.com/us/obituaries/itemlive/name/robert-hill-obituary?id=31131623

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Job Postings on CMT Association's Discord Server

As part of our growing effort to create career opportunities for our members, we have set up a Job Board in the Premium Access section of our Discord server. We use this channel to post roles that are directly communicated to us, typically from the hiring firms directly.

If you are aware of any roles within your own firm or any other that would be relevant for CMT charter holders and even candidates, please feel free to reach out to CMT Association Staff and we will be happy to post the role on the board.

To access the Job Board, you need to have premium access in the CMT Association Discord Server:

Premium access is granted only to active CMT charter holders, affiliate members and CMT Program candidates registered for the upcoming exams.

Steps to claim Premium Access: Join the server by going to https://go.staging.cmtassociation.org/discord and filling the from in the #get-premium-access channel.

Contributor(s)

Joel Pannikot

Joel Pannikot (pronounced as Punny-Quote) is the Managing Director of Chartered Market Technician Private Limited and serves as the Head of the Asia-Pacific region for the CMT Association. In this role, he is committed to advancing the field of technical analysis through...