February 2009 Results:

The VXN:

The VXN is a measure of the volatility of the NASDAQ 100 Index. Changes in the VXN help determine option premiums of the MNX (a higher VXN means increased option premiums, particularly in puts, while a decrease will generally mean lower premiums). Today's change in the VXN of 10.18% (closing level of 47.50), while below the October VXN high of 86.52, marks the largest volatility increase in more than a month. Generally when I look to put on a new trade, I gauge the current level of the VXN to see if waiting for an increase will provide a few dollars more of premium. I am looking to place a few March put trades, possibly in the 77.50 - 82.50 range (30.5% - 34.5% out of the money with 30 days to expiration). As of today, selling 10 contracts would produce a credit of between $180.00 ($7,750.00 margin) - $280.00 ($8,255.00 margin). The simple return would be 2.32% and 3.40% respectively. The money market equivalent yield would be 28.5% and 41.5% respectively. However, with today's turbulent market, I may wait a day or so to see how the market plays out - just in case I can increase the premium I would receive, or receive the same premiums, but for a lower strike. Please view my disclosure on the bottom of this blog.

Why I trade the MNX:

I have been trading the MNX for over a year and a half now. I began trading vertical spreads and iron condors on it, which at the time worked out great - the index was continually climbing and I could sell options that were 10% or more out of the money and have them expire worthless - pretty safe right? But then came the summer of 2008 and the index proved that it certainly could move 10% in a small amount of time. It wiped out all of my profits I had made trading the MNX ! But, now that I think back, it also gave everyone a gift - increased volatility. I began to think why trade verticals or iron condors, where in order to obtain a reasonable profit, I would have to trade options that were closer to the index than I liked. I decided to trade naked options on the index which allowed me to sell strikes that were sometimes 30 - 35% out of the money! Of course, this comes with increased risk (relatively speaking) and higher margin requirements, but the relative safety of selling so far out of the money appealed to me.

There are 4 primary reasons I like to trade this index:

• very liquid strikes
• large open interest
• increased volatility allows for selling far out of the money options
• acceptable premiums for my trade methodology

Using my February trades I had posted earlier, the 77.5 put was placed as the index was trading at about 116, so at the time the 77.5 strike was about 33 % out of the money with only 27 days until expiration (I prefer not to place trades until about 6 weeks remaining until expiration in order to take advantage of the time decay of the options). The 82.5 put was also about 33 % out of the money and had 42 days until expiration. The premiums on the trades, respectively, were $150.00 and $270.00 and the margins on each at the time in my Think or Swim account were roughly $7500.00 (my future trades will have exact numbers). The simple return on margin is then calculated as ($150.00 + $270.00 / $7500 * 2) = $420.00 / $15,000.00 = 2.8%. 2.8% in roughly a month isn't too bad when you consider if you placed the same $15,000.00 margin in a "high yielding" money market account earning 2.40% interest, in a month (31 days) it would earn $35.47. This is generally the underlying premise of my trades - why earn very little interest in a money market, when a "reasonably" safe MNX trade can make 10 times as much in the same time period. Now, by reasonably safe I mean that the index is a comfortable distance away from my sold strike, always remembering that there is the chance that some extraneous event could occur, causing the sold strike to become dangerously close to becoming in the money, if not actually in the money. Now, there are ways to handle this type of event, should it ever happen, and I will post more on that in the future.

Current Trades expiring in February:

Here is a list of the trades I currently have open to expire February 19th:

• sold 10 MNX Feb 09 77.5 Put @ .15 (gross premium $150.00) - placed Jan 23, 2009


• sold 10 MNX Feb 09 82.5 Put @ .27 (gross premium $270.00) - placed Jan 8, 2009

I use Think or Swim as my broker (they are excellent.......more on them later) and I pay $1.25 per contract for commission. On a 10 lot trade, I pay 12.50. Please note, as I don't know the exact margin requirement on trade date, I estimate that it was about $7,500.00. Later, I will also explain my rationale for these trades. Please view my disclosure on the bottom of this blog.

A brief introduction of the MNX:

The MNX is a modified capitalization-weighted index composed of 100 of the largest non-financial securities listed on the Nasdaq Stock Market. It is 1/10th the value of the NDX index, so, for example, if the NDX index is at 1400, the MNX will be 140. It is European style, meaning that its options generally may be exercised only on the last business day before the expiration date should they become in the money. This is an advantage of this index, as it allows for the seller to wait out a move in the index, or to roll to another strike or month in order to avoid their option being in the money, and vulnerable to exercise. Trading in Mini-NDX options will ordinarily cease on the business day (usually a Thursday) preceding the day on which the exercise-settlement value is calculated (i.e. usually the 3rd Thursday of the month at market close). The exercise-settlement value for MNX options is computed by dividing the NDX settlement value by a factor of 10. The settlement values as well as much more in depth information can be found on the CBOE website.