Investing for Cashflow – September Technical Analysis

For those of you visiting for the first time, I use basic technical analysis to make trading decisions related to a covered call strategy. Each month after options expire, I review price and market action since the previous option expiration date, as well as any commentary from the previous month’s analysis.

Every investor and trader should review their trades on a regular basis, and this effort helps me improve my ability to “read the tape”.

Enjoy!

September Discussion – General Stock Market


The general market was fairly flat for the latter part of August, if not a little to the downside.  September started with a nice bump up from renewed confidence in Europe, and we saw another substantial jump a few days later as the U.S. Federal Reserve announced QE3.   The surprise came with trading volume…it has actually been higher than average this month.

On a related note, I decided to automate my trendlines, rather than drawing them by hand.  I’m attempting to use them as stops, rather than trying to estimate where the potential sell point lies.

September Technical Analysis for DRN


Here were my thoughts on DRN in August:

DRN did not move around too much last month, but that doesn’t mean everything is golden.  The price action two weeks ago was cause for concern.  DRN fell below $75, which broke the June uptrend.  The next support level is in the upper 60’s.  In addition, volume steadily declined since June, which is not the trend you want to see when prices are approaching a 52-week high.  DRN is still in an uptrend, but I’m not in a rush to trade covered calls.  I’d like to see a test of the December-June trendline before getting back in on DRN.

September’s Chart:

Price Chart for DRN - 2012-09-24

 

I was a bit premature on my call of DRN breaking its uptrend in August.  It rode the uptrend higher, and only broke down during the past few trading sessions.  The Sept-Dec-June trendline sits at $70 right now, so DRN needs to come down and test that area before I’ll trade September covered calls.

September Technical Analysis for EDC


August’s commentary:

EDC found support right after my last technical analysis, and has headed higher since.  The good news is that EDC did find the strength to break the May ’11-Jul ’11 downtrend.  That puts it back in buy territory for covered calls.  EDC appears to be range bound between ~$60 and $120, if you can call a 2x increase a “range”.  This large span in price makes me hesitate on pulling the trigger.  EDC could lose $24 per share before finding support, and monthly option premiums won’t cover that kind of loss.

September’s Chart:

Price Chart for EDC - 2012-09-24

I’ve been hesitant on EDC because it has been so much higher than its support levels.  In late August it did retreat from the May-June trendline, but has since broken that resistance level and headed higher.  With support in the 70’s, EDC is trading at least 20% higher, so now is not the time to enter covered calls.

September Technical Analysis for ERX


August’s Commentary

ERX  broke the Jul ’11 – Feb ’12 downtrend, so next up is the April ’11-July’11 downtrend.  It also appears that ERX is range bound between $30 and $60…and just like EDC, that is a 200% range.  This difference for ERX is its price is closer to resistance levels and is therefore more likely to fall in price in the August/September timeframe.

September’s Chart:

Price Chart for ERX - 2012-09-24

ERX broke the April-July trendline I mentioned last month, but quickly retreated.  Coincidentally, EDC hit the $60 ceiling, so it is still rangebound.  Right now, it’s about 10% over the support level, which isn’t too bad.  I’d like to see it get a little closer to the short term uptrend before entering a position, but ERX looks like the best play this month.

September Technical Analysis for FAS


August’s Commentary

FAS broke through the Feb ’11-Mar’ 12 trendline, so covered calls are back on the table.  There is long term downtrend to deal with, but testing that trend is probably months away.  Odds are that FAS will test the Nov ’11-Jun’12 uptrend over the August/September timeframe.

September’s Chart:

Price Chart with Trendlines for FAS - 2012-09-24

FAS continued to march higher since the last technical analysis.  Within the last few trading days, a resistance level from last summer knocked FAS back down.  But with all the QE and ECB talk these days, it is hard to bet against the financial sector.  Still, as with the other ETFs, I would like to see FAS head back to 100 before entering a position.

September Technical Analysis for TMF


August’s Commentary

TMF had a hard time the past 4 weeks, falling 22% since the last technical analysis.  It broke the short-term uptrend as we entered August and continued south.  TMF is still above the longer term uptrend (Jul’11-Apr’12).  I won’t enter a covered call trade until TMF can find its footing.

September’s Chart:

Price Chart with Trendlines for TMF - 2012-09-24

TMF found some support at the Jul’11-Apr’12 uptrend, but we’ll have to see if it has the strength the break the short-term downtrend.  It could be a good play for September, as it is less than 10% from a major support line. I’m going to place TMF in the red light category, as the short-term trend is still downward.  But there is an opportunity for a short term option play if you keep your money management rules tight.

Summary


Green Light (Uptrend):  ERX

Yellow Light (No Trend, Range Bound, or Extended from Trendline) : EDC, FAS

Red Light (Downtrend or Broken Trendline): DRN, TMF

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Cashflow Report – Portfolio Income During August 2012

Welcome to the Investing for Cashflow Report – August 2012 Edition!

Each month, I review the portfolio income (i.e. paper income or income from investments) created from trading covered calls and create a “cashflow report” (hat tip to Pat Flynn over at Smart Passive Income). Analyzing trades is something every investor/trader should do on a regular basis, so this is my attempt to practice what I preach. The reports do the following:

  1. Help me track my progress towards financial independence
  2. Maintain my focus on increasing paper income and meeting my goals each month
  3. Provide an example of creating an income from investing/trading (actually making money!)
  4. Get your feedback on ways to improve

Enjoy!

Overview of August 2012

August saw TMF move against my covered call position, wiping out the rest of my profit for the year.  And I am now into my 5th month of sub-par returns.  Considering the Buy/write index (Powershares ETF – Ticker PBP)  is only up 4% this year, I’m not doing too badly…but that doesn’t mean I’m happy with my performance either.

The general markets (DJIA, NASD, SP500) were pretty quiet last month.  Trading volume remained lower than average and prices rose in small increments.

Lessons Learned in August

My 2012 experiment of using my trading program to capture capital gains  is not working.

As I’ve mentioned before, leveraged ETFs inherently have a lot of price volatility.  That volatility is the reason I can generate large percentage returns selling calls each month.   However, the capital losses that can result from holding these ETFs for a month is usually larger than the potential cashflow.

A pattern has emerged, and it follows a sequence:

I buy a leveraged ETF and sell a call.   In order to maximize cashflow, I could sell the first in the money call.  In order to maximize capital gain, I could sell the first out of the money call (assuming my first priority is still cashflow).  The ETF falls in price.  The price drop is large enough to absorb all the income from selling a call, resulting in an overall loss on the trade.  The option expires, and I am left with an ETF that is trading at a price well below my purchase price.  I sell another call for the next month, but the 2nd premium is not large enough to offset the first loss.

Before January 2012, I held risk-adjusted positions in all 5 ETFs.  At the beginning of each option cycle, I would sell calls against all 5 positions.  During downtrends in the general markets, in the money calls were used.  During up trends, near the money calls were used.  Usually, the ETFs did not fall at the same time, so the cashflow from selling calls covered most of the capital losses (if any) each month.

The 2012 adjustment attempted to lock in more “capital gains”.  I used risk adjusted positions in the 5 ETFs, but only if the ETFs had generated a buy-signal from using a price channel.  I would also close out a position if a sell signal was generated.  After a review of my results this year, I’ve noticed that using my price channel program has limited capital losses AND gains.  Because of the volatility, leveraged ETFs can recover from large drops in price very quickly (minor uptrends) and offer potentially profitable trades that I do not capture.

By limited the number of ETF’s I own, the diversification offered by holding all 5 ETFs is lost.  When I first started out, I had money in all 5 positions.  Some were up, some were down, but in the end, I was usually coming out ahead.  Now, I am only in 1 or 2 etf’s because I do not have a buy signal.  So when I lose money on one trade, I do not have the premiums/gains from other trades to reduce the losses.

Live and learn.  I need to use different signals – to come up with a new way to determine when a leverage ETF is a “buy” and when it is a “sell”.   At this time, my simple trend lines do a better job than price channels, so I will return that that for the time being while I evaluate other techniques.

I also need to focus less on capital gains, and more on limiting losses.  Capital gains are nice, but “investing for cashflow” was intended to create an asset that could fluctuated in value and still produce cashflow every month.  If I want to make money with capital gains, I should just trade equities and not worry about options.

Another important lesson learned is the number of months that could pass between hitting my cashflow goals.  Right now, I would need at least a 7 month cushion ($25,200) just to cover expenses…and that doesn’t include the losses from trading.

Cashflow Report – Portfolio Income During August 2012 – Breakdown:

DRN-Direxion Daily Real Estate Bull 3X (ETF)

Premiums = $0.00
Dividends = $0.00

EDC-Direxion Daily Emerging Markets Bull 3X (ETF)

Premiums = $0.00
Dividends = $0.00

ERX-Direxion Daily Energy Bull 3X Shares(ETF)

Premiums = $0.00
Dividends = $0.00

FAS-Direxion Daily Financial Bull 3X Shares(ETF)

Premiums = $347.72
Dividends = $0.00

TMF-Direxion Daily 20+ Yr Trsy Bull 3X Shares (ETF)

Premiums = ($36.31)
Dividends = $0.00

Cashflow = $311.14
Capital Gains/Losses = ($5,094.81)

 

Goal Not Achieved

GOAL: Execute a covered call trading strategy that creates profit greater than $3,600 USD per month and deposits $3,600 USD per month into an expense account, for 3 months straight.

The Road Ahead

I am kicking off September with nothing on the balance sheet. I’ve been trading weekly FAS options due to their short duration.  I don’t feel comfortable entering longer-term positions. Between the Fed’s upcoming announcement about QE and the uncertainty surrounding ECB/Germany monetary actions, I’m content to sit on my hands see what happens.

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