Oh, do I have an investment story for you today!

Vertical Options Spreads:

Over the past few days, I’ve been listening to VectorVest Options Specialist, Ron Wheeler, talking about Bull Put Credit Spreads and Bear Call Credit Spreads as a way to add income to your portfolio.  I went through his class a couple years ago – The Options Paycheck Course – and was pretty comfortable in doing Bull Put Credit Spreads when the market is going up. Because I believe that the market goes up more than in tends to go down (and for longer periods) I was always hesitant to do the Bear Call Credit Spread in a down market.  Whenever I attempted them in the past, I’ve lost money due to “being on the wrong side of the market.”  In other words, I attempted them in an up market rather than a down market.  Also, in many cases I was a “Hog” rather than a “Pig.”  More on that later.

I have re-signed up for a refresher course with Ron Wheeler and VectorVest since they have come out with an all-new Options Paycheck Course.  The return is well worth the cost of the course.  If interested you can contact them at https://www.vectorvest.com/options-paycheck-experience.

Yesterday, 04/27/2022 I took a look at a darling of a company that has made me a lot of money in both stocks and options from time to time.

Figure 1 – Vector Vest 5-year Graph of NVDA

The graphic above shows NVDA over the past five years from 11/04/2016 – 11/04/2021.

The stock literally went from $16.88 per share to $313.65 per share for an overall gain, from the opening on 11/04/2016 to high on 11/04/2021, of 1,758.12%.

If you look at the top bar there were a whole lot more Buy and Hold Recommendations than there were Sell Recommendations over this period.

Now let’s take a look at that stock since 11/04/2021:

Figure 2 NVDA VectorVest Graph Since 11/04/2021

We see here the stock continued to trend up to it’s all time high to close at $319.56 after on 11/22/2021 after hitting a high that day of $346.47 – and it has been on a downward trend since then.

Take a look at the next chart (the same as this one) with the 10-day, 20-day, 50-day and 100-day moving averages added.

Figure 3 – Same as Figure 2 with Moving Averages Added

You can see the moving averages really starting to trend down along with price since about March 29th.

Yesterday, April 27, 2022 I noted that the stock was really looking like gloom and doom.  Here’s what the prices and moving averages were …

Figure 4 – VectorVest Prices and MAs of NVDA 04/27/2022

We can see the stock opened at $185.98, hit a high price of $191.67 and a low price of $182.90 and finally closing yesterday at $184.15.

Now this is the story I have to tell:

Assuming that the stock would continue to head down I decided to do a very short-term Bear Call Credit Spread.  This is how it worked:

First, I sold the NVDA 04/29/2022 195.00 C.  This means I was obligating myself to buy NVDA stock if it went as high as $195 per share by two days later (it was Wednesday 04/27/2022 when I placed the order due to expire on Friday 04/29/2022).  I placed the order for 10 contracts.  With each contract equaling 100 shares of stock, I was obligating myself to buy 1,000 shares of stock at $195 per share if the stock went that high in the next two days.  That would be a cost of $195,000 or potentially more.  I did not have $195,000 in this particular account, I only had $29,000.  It is important to note that for taking on this obligation, the person buying these options paid me $2.0264 per share or a total of $2,026.40.  That money immediately was mine to keep.

However, I did not have $195,000 or more to purchase 1,000 shares if the buyer of the call options decided to buy the stock from me.  You see since the call was known as being “naked” … if the stock increased to say $200 per share by Friday, I could have easily had someone call it from me for $195 per share and I would have to spend $200,000 for stock to sell for $195,000.

So … I bought some INSURANCE to cover my risk.

What I did was turn around and purchased 10 contracts of NVDA 04/29/2022 200.00 C.  For me to do this I had to pay $0.9796 per share or $979.59 for the entire 1,000 shares obligated by the 10 contracts.

Therefore, the net result to set up this $195/$200 NVDA Bear Call Credit Spread was as follows:

  • Income Received from Selling 10 $195 Contracts                = + $2,026.40
  • Cost to purchase insurance (buy) 10 $200 Contracts         = –  $   979.59
  • Net income posted to my account 04/27/2022                   =    $1,046.81

I gotta tell ya, it took a total of 2 minutes to find and place this trade.  So, making potentially $1,046.81 in a period of 2 minutes is not a bad income.  It would sure be nice if I could do it every two minutes the market is open … but I will settle for 1 time each week for now.

Now, by purchasing the insurance to reduce my risk … I actually reduced the risk of having to invest $195,000 or more (unlimited risk) to a maximum risk of just $3,953.19.  How do I figure that?

  • The difference between the two options strike prices (195/200) is $5.00.
  • $5.00 times 1,000 shares is $5,000.
  • $5,000 minus the premium I earned ($1,046.81) leaves a maximum risk of $3,953.19 which is far better than unlimited risk of simply selling the Call Options.

You may be wondering why I said, making potentially $1,046.81 in a period of 2 minutes” in the above paragraph.  I’ve learned in investing (and I learned it the hard way) that …

Figure 5  Stolen from the internet

After listening to Options Coach, Ron Wheeler, I learned that it’s usually best to accept a 50% gain on these types of trades rather than to hold till expiration in hopes of keeping all the income.  After all, 50% of something is far better than 100% of nothing or even worse … in this case 100% of minus $3,953.19 which was my maximum risk in this strategy.

So, what I did as soon as I placed the trade to OPEN the Bear Call Credit Spread was to immediately set a Good till Cancelled LIMIT ORDER to CLOSE out the spread if and when the cost to do so got to as low as 51¢ per share.  After all, if I was paid $1.04 to place the trade and was able to unwind it at 51¢ … I’d still make and keep 53¢ per share (or in this case $530.00 less any expenses).

In this case a limit order simply means that once the price hits $0.51 per share my position will be closed at the next market order price (which could be a little higher or lower or even right on the money, as it was here).

Here’s what happened at about 9:40 this morning: Just about 1 hour and 10 minutes after the market opened and while I was at the Doctors Office with my wife …

Figure 6 – from Charles Schwab Trade Notification

I was paid $280 to close out the 10 NVDA 04/29/2022 200.00 C contracts and it cost me $790 to close out the 10 NVDA 04/29/2022 195.00 C contract for a total cost of $510 or $0.51 cents per share.

Therefore, this is the end result of this trade from start to finish in ONE day!!!

Figure 7 – Personal Calculations using Excel

Now you will notice I have calculated % return two different ways.  Most people will calculate it as follows:  Net income after closing the trade ÷ Gross income when setting up the trade.  The idea being that if you made $1 and got to keep 50¢ you have a return of 50%.

I prefer to calculate like I would if I were buying a stock for 50¢ and later selling it for $1.00.  This would calculate out to a return of 100% (e.g., $1.00 income – $0.50 cost = $0.50 ÷ $0.50 = 100%).

This is why you see a return on Gross Income of 50.02% and a return on Net Cost of 100.07% in the above graphic.

Now let’s conclude this story with what could have been …

Had I not set my Good till Cancelled Limit Order by now I would most likely be at a loss on this Bear Call Credit Spread.  See the chart below:

Figure 8 – VectorVest 3-month NVDA Graph

As you can see, the price of this stock opened at $189.67 and high price of $198.83 and a low price of $185.90.  It is currently trading at $198.82 at about 2:00 PM central time with an hour remaining for the market to be open.  Since the price is above my low strike price of $195.00 the option would have been “In the money” and I would likely be “Out of the money.”

Just one more reason not to be “HOGGISH” and make sure to set stop limit orders when you set up the trade.

Will I be doing trades like this in the future?  You betcha … at least on the account I have designated for these kinds of trades.  I basically have four accounts.  One is set up for income using options spreads such as this.  One is set up for higher risk of buying calls and puts for growth, one is my IRA and I will do things such as ETFs and Covered Calls in this one and the final one is my Long-term Buy and Hold portfolio that holds Dividend paying stocks and ETFs.

If you have any questions, please let me know by commenting at the bottom of this article or writing to me at freewavemaker@gmail.com.

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