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CM Strategy

Optionalysis: Lessons Learnt From A Profitable But Silly MA20 Trade

Optionalysis Header

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Introductory Note: The MA20 is our proprietary indicator about market breadth. The MA20 is calculated by taking the number of Nifty stocks above their 20 Day Moving Averages, and we subtract from this number those that are below. We then take a further four day MA of the resulting number to smooth it out.

Since the Nifty has 50 stocks, this calculation will oscillate between -50, when there are no stocks above their 20 DMAs, to +50 when there are no stocks below. We have found that trading opportunities exist when the indicator goes above +30, or below -30, and turns around.

Last week, we mentioned that the MA20 showed a trade. Oh, we took the trade. And oh, we made money. Look at this:

MA20 Trades

Let’s explain. On 18th June, we bought the 8200 July call at Rs. 150. Then on the 19th, fearing a Greek crisis over the weekend, I posted a note saying, “Get the heck out”. That booked a profit at Rs. 183, giving us 33 points – or 22%, if you like, in a single day. Sounds good? Oh, it gets better.

On Monday, we decided to get back in because Greece was still murmuring around. We bought abull-call-spread. We went long the July 8300 call, and short the 8500 call at 171-81. The spread was 90 points. (This was mentioned in the Google group)

Today, we closed this spread at 213-106, at a spread of 107 points, booking a profit of 17 points.

For a score of 500 Nifty, this would be a return of Rs. 25,000 , with a potential investment of about Rs. 1 to 2 lakh (the short option requires higher margin, otherwise the long position was Rs. 75,000). That’s not too bad, you think.

But We Made Big Mistakes

We made some serious mistakes here. First, the choice of instrument. We chose the 8200 call. But we chose July, so that we could retain the time value for longer!

This turned out to be a mistake. The same thing, for a June option, would have started at Rs. 44, and gone to Rs. 200! In the same time, that is. That’s a 5x return, versus a mere 10% or so. We gave up a 5x return for what we otherwise did.

But let it be said that this move happened fast (literally nine continuous up-days); and even before we got in there were five continues up-days! It’s not like we couldn’t have been wrong.

Having said that the better choice should have been the June option, because we had a 50% stop loss. If markets weren’t moving we could have exited the trade; or taken a smaller position, rolling the position over appropriately.

The second mistake was to ditch the weekend. It’s true that we have no fixed criteria for exit, yet. We don’t have one, so it’s discretionary. But I didn’t want to exit and didn’t see a sign of an exit from a technical angle. (In Capital Mind, we don’t book profits. We let our profits run until we see the tide turn) The Greece thing spooked me, and indeed, it might have been a wise decision. However, getting out like that, even when we had a stop in place, was a bad idea.

One pointer here is to refuse a discretionary exit. Perhaps one way, as Sunil mentioned on twitter, would be to use the MA5 as a trigger (if it gets to the other side, or goes back down, you exit).  

The Post Mortem:

• Choose instruments wisely. A week to expiry is good enough, we should probably roll to the next month within a couple days to expiry.

• Don’t override the strategy when there is no reason to.

• Get a better exit strategy, considering the MA5 to exit while the MA20 provides an entry.

Where are the MA20 and MA5 today?

The MA20 is still okay at +12. But the MA5 has gone to an extreme, and had reached +36 yesterday, the highest it has been in recent times! This is very likely after 9 consecutive winning days, which again was one of the longest winning streaks for the Nifty.

MA20

MA5

If we had used the MA5 as an exit trigger, we would have gotten out on Tuesday (at a reasonable profit, probably 4x on the June calls, 2x on the July calls).

The position is closed now, and money in the pocket is not a bad thing. But being shamelessly capitalistic, we strive to be better and richer

Note: We noted a potential short just 15 minutes before the exit. It started at Rs. 8, and by the time I posted to the group it was at Rs. 16. It ended the day at Rs. 40! This is a pure discretionary trade, which has nothing to do with the MA20 strategy.

For MA20, we have to wait for the next signal. If you’re a full member, connect with us to join our Slack messaging group that gives you information at near-real-time rather than to have to wait for email. (Our previous portfolio post today has details).

Every good trade, along with every bad one, has a lesson in it. I’m still learning and I’m hoping to make new mistakes going forward rather than the old ones!

Another Note: We have had seven continuous successful trades. This system is not meant to be perfect. It’s going to take a loss sometime, and that sometime might just be the next one. Please do not rely too much on it!

Disclosure: We do have some positions on the Nifty and we will also follow this position closely. If this strategy loses money, we will lose money too.

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Disclaimer

Nothing in this newsletter is financial advice and should not be construed as such. Please do not take trading decisions based solely on the matter above; if you do, it is entirely at your own risk without any liability to Capital Mind. This is educational or informational matter only, and is provided as an opinion. 

Disclosure: The authors at Capital Mind have positions in the market and some of them may support or contradict the material given above, or may involve a direction derived from independent analysis.

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