October 6, 2005




















Name: Mike Seery
Company: Manduca Trading
Years Trading: 11
Favorite Movie: Parenthood


Philosophy of Option
and Futures Trading

Read more about the author.

Complimentary "21 Proven Trading Strategies for Trading Options" Booklet courtesy of Manduca Trading

Receive your complimentary booklet which illustrates 21 option trading strategies, detailing when to use each strategy, the profit and loss characteristics of each strategy, and the effects of time decay. With each strategy comes a chart that quickly distinguishes breakeven properties. Useful in determining which option spreads should be considered relative to your opinion of a market's direction. Helpful pattern evolution charts exhibit the manner in which the profit or loss characteristics of a strategy change over time. Get it here.


Philosophy of Option and Futures Trading

The last couple of years in the commodity markets have probably been the most exciting and volatile markets that I have experienced in my eleven years of following the futures markets. The commodity markets these days remind many veteran traders of the crazy and wild markets that took place during the wild 1970's. A glance at some of the markets today will show a number of markets at or near all-time highs: copper, heating oil, unleaded gas, natural gas, and crude oil, for example. The gold market, too, has come alive by picking up steam and making seventeen-year highs.

What are some of the reasons for these moves and how might traders position themselves to take advantage of further moves? Part of the answer explaining the reason for the moves is that demand for many of these raw materials is high due to the strength of many global economies such as China and India - and it looks as if this trend is going to persist. Not only have some of these markets recently posted all-time highs, but they have bypassed their old highs by a significant amount. Crude oil was considered very expensive at $40.00 per barrel, and now we are happy when it settles under $70.00 per barrel. Natural gas prices are at levels that are going to spin heads when people start to receive their energy bills this winter. In my opinion demand for heating oil and unleaded gas are not going to be deterred by high prices, as people still need to heat their house and fill up their tanks no matter how high the prices rise

During the late 1990's the commodity markets were generally under pressure in part due to a fear of deflation that worked its way into the markets. Simultaneously, the stock market was moving up and many investors were experiencing substantial realized and unrealized gains - before the collapse. What I believe has occurred and continues to occur is a shift of assets out of the equity markets and into alternatives such as the commodity markets. The potential "bang for your buck" that equities used to deliver seems harder to achieve as for the past five years or so the volatility in the equity markets has decreased, while many of the commodity markets have experienced good moves and an increase in volatility.


These moves are great for a couple of reasons. First, in my opinion the past year has been a trend follower's dream as many of the futures markets trended for an extended period of time. Second, most of the moves to the upside had chart structure - which I think is a very important factor that helps to decide when to get into a market. My definition of chart structure is when a market's price action moves in a slow, steady trend over a period of time. The opposite of chart structure would be a market displaying price action that has giant spikes up or down and possibly many gaps up or down. In my opinion, a market that provides solid chart structure offers some of the best trading opportunities.
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The question then becomes how to make money trading the commodity markets of late with the markets posting good volatility and prices at or near extremes? My answer starts with an adequately capitalized account. Trading the money instead of trading the markets puts traders at a disadvantage, therefore futures trading accounts should be amply capitalized with purely risk capital.

As for a trading plan, I generally seek option strategies that provide approximately ninety days until expiration in order to allow time for my expected price movement to develop. If prices do not move according to expectations, the longer-term options typically afford an opportunity to cut losses and exit the positions before they become worthless at expiration. In choosing a position the first thing I look to identify is both the long term trend and the short term trend of a market. My definition of a long term trend is when a market posts a ten week high or low which tells me that this trend is for real and that I should position myself in the direction of the trend. Avoid going against the trend - this is a rule that must be steadfast. I define a short term trend by simply looking at the daily charts and seeing if the market is at a twenty-day high or a twenty-day low. Once I have determined that a market is at its highest price in the last four weeks I will plan option strategies perhaps involving bull call spreads or possibly outright calls that are close to the money.

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Out-of-the-money options are cheap, but they are cheap for a reason - they very rarely work. I like to buy calls or puts within two to three strike prices away from where the futures prices are currently trading. For example, if there was an interest in trading the crude oil options and the futures were trading around $66.00 per barrel, I would prefer to look at an option with at least 90 days remaining till expiration and a strike price of $68.00 or $69.00 if I were looking to be long that particular market.

Sure, the option is expensive but in my opinion the odds of success are increased because you are closer to the money. In my opinion, buying options that are close to the money gives a trader greater flexibility because the price typically fluctuates more significantly than the farther out-of-the-money options. The typical lack of movement in the price of the far out-of-the-money options can paralyze traders as they wait for a more significant move in the value of the option - which seldom arrives.

Remember most options expire worthless which means you will most likely consistently lose money unless you learn to trade the premium. While the cost of the option premium should be a consideration, I believe it is more important to consider the probability of the option trade being successful. Lately, I am most interested in option strategies in the futures markets that I mentioned above because I think there are more fireworks ahead. I truly believe the energy sector and the cattle markets will provide ample opportunity and chart structure over the next year or so.

If you are looking for a sleeper market for which to employ an option strategy, look no farther than the soybean market. While many markets are near all time highs, the oilseed markets have been under significant pressure in the last month or so. While I believe they could very well develop into bullish markets, I will first wait for that complex to hit four-week highs before I start scanning call options. Option pricing is based, in part, on market volatility and the soybean market has been relatively stable in the last couple of months, so option premium should be relatively cheap at this point.

With the recent disasters in the Gulf Coast I truly believe that commodities required for the rebuilding process will receive a surge in demand. This is yet one more factor adding to the bullish theory for the commodity markets. Positioning oneself on the long side of these markets can be accomplished by either buying calls; or simply buying the futures contracts with stops in place to preserve capital. In addition to trading options, I really enjoy trading the futures market however an adequately capitalized account is mandatory in order to withstand the volatility.
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There certainly will be days that the market goes against a position so the extra capital to be able to withstand a calculated loss is essential. I generally plan to risk between two and five percent on any given trade. For example, a $100,000 account would risk between $2,000 and $5,000 on each trade. This discipline allows for the account to withstand several losing trades in a row and still maintain enough capital to take advantage of the next opportunity. Ideally, winners should be held onto as long as the market allows as the goal is to make as much as possible on the winners to overcome any previous losses or create excess buffer for when losses will inevitably occur.

In my opinion the most important thing to is to find a broker who will work with you to get a game plan together. A game plan consists of both money management and a trading plan. In addition to all I have discussed above, I encourage traders to not change their philosophy because they have had a couple of losing trades. Losing trades will always happen - it is how you respond to them that will make the difference. I spend quite a lot of time speaking with traders on a one-on-one basis and help them develop a trading plan as well as a money management plan. The most important rule of trading is to always have an exit plan when the market goes against you, it will not matter how good your trading system is if you do not have a money management plan. I am typically available six days a week from 6am to 8pm Central Time, and if you have questions regarding the markets please feel free to give me a call or send me an email.

Thank you very much and I hope we can work together and take advantage of these soaring commodity markets.

Complimentary"21 Proven Trading Strategies for Trading Options" Booklet courtesy of Manduca Trading

Receive your complimentary booklet which illustrates 21 option trading strategies, detailing when to use each strategy, the profit and loss characteristics of each strategy, and the effects of time decay. With each strategy comes a chart that quickly distinguishes breakeven properties. Useful in determining which option spreads should be considered relative to your opinion of a market's direction. Helpful pattern evolution charts exhibit the manner in which the profit or loss characteristics of a strategy change over time. Get it here.


About Today's Author

Mike Seery began his tenure in the agricultural complex at the Chicago Board of Trade. He then transitioned off the floor to pursue an ambition of becoming a full service broker, which he succeeded in doing. Mike had been a regularly featured speaker on WCIU's Ask an Expert where he fielded questions about the markets from viewers and shared his trading philosophy. Mr. Seery brings not only his experience to his customers, but also his increased awareness in the value of Customer Service. Using a disciplined trading approach with a strong emphasis on risk and money management, Mr. Seery incorporates a mixture of fundamental and technical analysis, and is comfortable trading any markets his customers are interested in trading. Mr. Seery has the knowledge, discipline, and experience to help his customers maximize their trading potential.
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