QUESTIONS FOR COVERED CALL WRITERS AND PUT-SELLERS:
Why do retail investors buy high and sell low? Why do we sell our winners and keep our losers? Why do many of us feel that the market is rigged in favor of Wall Street insiders? Boy am I starting off on the wrong foot with this article! I’ll do my best to finish on a positive note.
I have been self-investing with stocks and stock options since the early 1990s but the concept of the Blue Collar Investor was realized and launched ten years ago. During the past decade I have had the honor and good fortune to communicate with thousands of retail investors from all over the world. There are several common psychological aspects to retail investing that I have made mental notes of over the years and will share with you in this article. Since I am not a psychologist or a psychiatrist I prefer to frame these as observations rather than facts you should take to the bank.
Why do retail investors buy high and sell low?
I see greed and fear. A stock price is accelerating exponentially. We want in, so shares are purchased without proper due-diligence. When price declines, panic sets in and shares are sold as there never was a viable exit plan. The conclusion is that the system is rigged.
Why do retail investors sell winners and keep losers?
It feels good to win and lousy to lose. When we sell a winner for a profit we feel great…let’s call our best friends and let them know. Our losers…well they’re not losers until we sell them, right? Let’s hold them until the price goes back up. Well how about Enron, WorldCom, Tyco, Bear Stearns…..where’s that exit plan when we need it?
Why don’t many retail investors achieve consistent success?
Let’s start with the above two paragraphs and move on from there. Here is what we want to hear: “You can achieve huge success for little risk and little effort. Just send your check to….” Human nature is such that many of us are looking for that “free lunch” but it simply does not exist. One of my favorite TV programs is American Greed, a show that depicts anti-social criminals who take advantage of unsuspecting hard-working people…you know, Bernie Madoff types. This show never seems to run out of material.
Why is it so difficult for retail investors to decide on a particular strategy?
I’m going to share two observations for this one before we get into solutions:
1- Premature excitement– Once learning of a particular strategy many retail investors get way too excited and want to start immediately before developing the skill set necessary for success. Education is critical and so is paper-trading (practicing) for a few months.
2- Strategy overload– We learn of five strategies and attempt to master them all. We end up okay at all five but master of none.
Plan to counter negative psychology
I will never stop saying this: Our investment strategies must be crafted on non-emotional decisions and based on sound fundamental, technical and common sense principles. We must master all the required skills necessary for success. For covered call writing and put-selling those skills are stock (or ETF) selection, option selection and position management. All three must be mastered before risking even one penny of our hard-earned money. Once mastered, practice trading comes next and then we will have years and decades to benefit. The plan requires us to know why we enter a position and how and when to exit it. Emotions are not part of the equation.
Psychology to sell losers
It is true that until we sell our losers, those losses are not yet “realized” Is that a reason to allow them to depreciate even further? Of course not. If we think about this scenario, it is not the stock but rather the cash we have invested in it that is important to us. In reality, we could care less about that security. The question we should pose to ourselves is “where should I place that cash at this point in time to give me the best chance to make a profit?” In that stock or another? In many cases we will “realize” the loss, keep the loss to a minimum and move the cash to a better-performing equity.
Which strategy should be adopted?
Needless to say, I am biased towards covered call writing and selling cash-secured puts. I have employed many strategies over the years and these are the ones that have worked best for me and my family. They may or may not be right for you. By educating yourself and paper-trading you will be able to make the appropriate decisions. Whether you use the same strategies as I do or others, it is critical to trade non-emotionally and to have a sound system in place that we have confidence in. It will require some time and effort but will be well worth it as we become CEO of our own money.
Successful investing must be non-emotional. There are no free lunches (ignore those 3 AM infomercials). We must master one or two strategies and depend only on ourselves for success. At the very least, we should be educated to the point where we can evaluate the job an advisor is doing for us. By developing a non-emotional plan based on the required skills for elite investing we will expedite our goals to become financially independent and ultimately CEOs of our own money.
Are you paying trailing commissions for your mutual funds?
(Off topic but important to many retail investors)
These are additional fees paid to advisors each year an investment (such as a mutual fund or variable annuity) is owned. In theory, it is incentive for an advisor to review our investments and provide advice. In many cases, it is simply an additional debit from our brokerage accounts that many retail investors aren’t even aware of. I also have concerns regarding potential conflicts of interest. Is an advisor incentivized to keep us in products that generate an annual income for the advisor rather than moving us into a better investment? Typically, trailing commissions can range from 0.25 – 0.50% per year, a significant debit. Ask your advisor if you are paying this fee or check the fund prospectus under “management fees” It is our right and obligation to our families to ask these questions even to ethical advisors who are working for our financial best interests.
Upcoming live events
December 1, 2016
Blue Hour webinar 3: Registration now open and free to premium members
Thursday at 9 PM ET
Premium members login and scroll down on the left side as shown in the screenshot below (top screenshot). General members can purchase a seat at the Blue Collar store as shown on the lower screenshot:
Event information and registration can be accessed at these links.
December 6, 2016
Options Industry Council Webinar Summit
Tuesday afternoon…1:30 Pm ET:
Those who register but cannot make the live event will be sent a link to the presentation recording.
February 27, 2017
Stock Trader’s Expo
Marriott Marquis Hotel, NYC
1:30 PM ET
Exhibit hall Booth 208 (February 26th – 28th)…come say hi to the BCI team
Global stocks declined this week on concerns regarding next Tuesday’s US presidential election. Volatility, as measured by the Chicago Board Options Exchange Volatility Index (VIX) jumped to 22.51 from 15.25 a week ago, as a result of those pre-election anxieties. Oil prices fell this week on doubts that OPEC will be able to reach an agreement to limit production and on a large rise in US crude inventories. This week’s reports and international news of importance:
- US nonfarm payrolls rose slightly less than expected in October, adding 161,000 new jobs, but upward revisions to the prior two months’ data was a positive in the report
- The report also reflected a 2.7% year-over-year rise in average hourly earnings, the fastest pace since the global financial crisis. This enhanced the possibility of the Fed hiking rates in December
- The Federal Open Market Committee left rates steady at its November meeting but hinted strongly that a hike is likely at the December meeting
- A wild and unpredictable election campaign comes to a close next Tuesday with opinion polls showing a tight race. Hillary Clinton looks to have an easier time achieving the 270 electoral votes needed to win the White House
- The battle for control of the US Senate looks to be very closely contested
- The Institute for Supply Management’s manufacturing PMI rose to 51.9 from 51.7 while the eurozone PMI grew to 53.5 from 53.3 the month before
- On Wednesday, credit rating agency Moody’s warned that it may downgrade the UK’s sovereign credit rating if it loses access to the EU single market as a result of Brexit
- On Thursday, the Bank of England held interest rates steady but played down the likelihood of further interest rate cuts because the economy has performed better than members of the Monetary Policy Committee expected in the wake of Brexit
- After overcoming last minute objections from Belgium, Canada and the European Union signed the Comprehensive Economic and Trade Agreement. The deal will eliminate 98% of all tariffs between Canada and the EU and is projected to increase trade between the two by over 20%
- The largest one-week build in inventories on record, combined with fading hopes that OPEC will put in place significant production caps, helped push oil prices to their lowest levels in over a month
THE WEEK AHEAD
- Eurozone retail sales data are released on Monday, November 7th
- The US general election takes place on Tuesday, November 8th (finally over!)
- The European Commission updates its economic growth forecasts on Wednesday, November 9th
- China releases new loans data on Friday, November 11th
For the week, the S&P 500 declined by 1.94% for a year-to-date return of +2.02%.
IBD: Uptrend under pressure
GMI: 1/6- Sell signal since market close of October 12, 2016
BCI: UPDATE: With the FBI Director re-opening the case regarding HRC’s emails, the polls have tightened and the US and global markets have reacted with concern. This is not a political commentary but rather a financial observation. The polls still favor a Clinton victory but this election season has been full of surprises so who knows. As a result, I have decided to close my current stock/option positions over the next 2 trading days and move into cash until the election passes and the market makes a statement. I am not suggesting what others should do but rather sharing what I am doing and why.
WHAT THE BROAD MARKET INDICATORS (S&P 500 AND VIX) ARE TELLING US
The charts point to a bearish outlook. In the past six months the S&P 500 was flat while the VIX rose by 45%.
Wishing you the best in investing,