Swing- and Day-Trading Advanced Strategies
For example, one popular online brokerage firm (Charles Schwab) charges $9.95 for a single option trade, plus $0.75 per contract.
|Number of Options||Transaction Fee|
At five contracts, the cost per option is only $2.54. So substantial transaction cost savings are going to be realized when trading in multiple option contracts. But there are other and more important reasons to use multiple contracts. It adds flexibility to swing- and day-trading strategies. Example of how you can vary your strategies with multiple contracts include:
- Take partial profits. In many cases when swing trades are executed, you face a dilemma. Do you take your profits even when setup signals are not present or do you wait? Because no system is perfect, you will at times miss profit opportunities by waiting one day too long. But with the use of multiple contracts, you can sell part of your holdings and keep the balance in the position. When profits are exceptional, this enables you to make a profit on the entire position, while keeping a portion in play and awaiting the setup signal.
- Partial exercise. As a holder of a long call, you have the right to exercise or to sell. For example, if you are swing trading on a stock you might want to also own, multiple contracts open the possibility of combining strategies. You can sell part of the overall position to gain a profit on the swing trade and exercise the remainder. This strategy is valuable when you realize that the stock was selling at a great price a few days earlier. With a long call in hand, you can buy at the striking price and then hold the stock for the long term (or revert to a covered call strategy, for example).
- Add more option contracts in times of price momentum. From time to time, a stock's price not only moves in one direction, but gains momentum. For example, you might open a single-contract position only to later get a second setup signal going in the same direction. You can simply wait out the trend or buy additional option contracts based on the strong momentum of the stock's price.
One of the great advantages in using options rather than stock is that you can use puts instead of the high-risk shorting of stock. But there is a mirror strategy of this, and it involves using covered calls instead of buying puts. If you do not own shares of stock and you reach a sell setup point, the obvious move is to buy puts. Then, when the stock declines, the put becomes profitable. However, if you also own stock, you can write covered calls rather than buying puts. This provides you with a double advantage.
First, the covered call is safer than the long put because time value is involved. As time value declines, your short call becomes less valuable and can be closed out (bought to close) at a profit. Second, you have to pay money for the long put, but when you write a covered call, it produces cash that goes into your account.
You might consider many options-trading strategies to work as swing trades. But the strategy itself is invariably based on short-term price swings identified with specific setup signals. Swing-trading signals improve your profitability even when using options near expiration. The same advantages applied to listed stock options can be applied with equal benefit to options traded on futures contracts. Leveraging Your Leverage shows how this works.
Smart Investor TipCovered calls are conservative strategies in their own right. But as part of a swing-trade strategy, covered calls make even more sense because they are tied to a sell setup. You can take profits within a few days without having to sell stock. This approach also produces cash rather than spending it.
By Michael C. Thomsett