In the RadioActive Trading Techniques we essentially start every position by purchasing stock and purchasing an In-The-Money put option. This setup allows us to take advantage of the classic trader’s axiom:
“Cut your losers short and let your winners run.”
Our losses on the security are limited due to the protective put, but we still have unlimited upside profit potential allowing the stock to run.
Now, if I try the alternate approach of buying the same, far out in time protective put and selling a short term put against it, I still have a limited (monetary) risk on the position but I have also capped my gain. If the stock rises 10, 20 or 30% I take no advantage of the further upside profits and I may in fact lose money on the position if the stock moves up or down (two ways to lose).
I recently presented and archived a webinar that discusses the RPM setup and comparing the initial Married Put trade to: Substituting the stock with a short put, substituting the stock for an ITM long call (creating an ITM Long Strangle) and thoughts on why the OTM long call is not the same as the RadioActive Married Put trade.
To access the webinar simply go to www.radioactivetrading.com and click ‘Free Webinars / PodCasts’. From the webinar archive select ‘3 Core Principles and Trade Comparison (2/21/2012)’.
The entire presentation is very useful for any level of investor, but my thoughts on the RPM Married Put vs. the Calendar Put spread begin at about the 25 minute mark.
Mike Chupka
Director of Education – Power Financial Group Inc.
I'm Kurt Frankenberg, and I have discovered how to truly put the odds on the side on the individual investor.
Mike, is there a significant difference in using Long Calls instead of Protective Puts? Assuming equal contracts and strikes and no dividend factor. In either case you lose 100% of the time value if the underlying doesn’t rise fast.
Hi Walcott:
There are many distinct differences between the Long Call vs. the Married Put / RPM. Kurt has discussed this material several times in his blog. Here are some of the articles where Kurt compares the Long Calls vs. Married Puts:
1. Married Puts vs. Long Calls
http://blog.radioactivetrading.com/2009/03/long-calls-vs-married-puts/
2. Married Puts vs. Long Calls Revisited
http://blog.radioactivetrading.com/2009/06/married-put-vs-long-call-revisited/
3. No Free Lunch
http://blog.radioactivetrading.com/2009/08/no-free-lunch-long-calls-vs-married-puts/
4. Risk Free Interest Rate
http://blog.radioactivetrading.com/2010/06/long-calls-vs-married-puts-risk-free-interest-rate/
5. Long Calls vs. Married Puts 2
http://blog.radioactivetrading.com/2011/04/long-calls-vs-married-puts-2/
In addition to that, you can access our archived webinars at any time. Simply go to http://www.radioactivetrading.com and click the ‘Free Webinars / PodCasts’ tab at the top of the page. You may be interested in checking out the archived webinar, ‘Recently Asked Questions on RadioActive Trading‘. In the first part of this webinar we compare the RPM / Married Put approach to:
1. Opening the RPM as a Calendar Spread
2. Substituting the stock for an ITM Long Call (ITM Long Strangle)
3. The Married Put vs. Long Call
Take a look at a few of the articles and the archived webinar, then let us know your thoughts. Happy Trading!
Michael Chupka
Director of Options Education
Mike, thanks for the reply. Was the #2 DIA comparison using real prices? Put prices are actually much higher. These numbers from today are better for the Long Call. Please advise.
April 2, 2012
DIA $132.19
DEC 135 Strike
CALL 4.75 PUT 9.50
Yes, those were the historical prices of DIA in 2006. Kurt mentions that in the comments of the previous blog article.
Markets are dynamic, and the price differences between calls and puts will change based on market speculation and activity. Where it looks now that the DIA calls have a lower time value compared to the DIA put options, this dynamic may change three months from now – and then change back three months from then.
All options investors are looking for a good bargain, and I understand why you are looking for ‘the best bang for your buck’ but based on my 9 years of options trading and educational experience I cannot advocate buying OTM long calls as a substitute for the RPM.
To me, it really comes down to the nature of an investor. Right now, if I only have $15,000 of free capital to invest the RPM forces me into an ideal sized trade where I could only buy 100 shares of DIA and 1 put. This would limit my risks to only a single digit percentage of my invested capital.
Now, an investor might say, “I will have lower monetary risk if I only buy one call contract..” and they would be correct in this case. However, if that investor also has $15,000 of free capital to invest are they only going to buy 1 contract? Not likely. They will tend to purchase 5-10 contracts or more, thus falling into the trap of the Lie of Leverage.
If there was a 10% decrease in the underlying stock, the married put might be liquidated for only a 2 or 3% loss. The OTM long call position will be closer to a 25% or 30% loss on the invested capital. Kurt discusses this in The Blueprint. If you are not applying proper money management techniques you are leaving yourself open for substantial financial losses on leveraged positions.
How about using a synthetic position (buy a call and sell a put at the same expiration and strike price)instead of buying the stock? This way you will have less cash tied in the trade (at the expenses of forgoing possible dividends.) You will still be able to apply all the RAT strategies.