Q&A
Since You Asked
| Professional trader Don Bright of Bright Trading
(www.stocktrading.com), an equity trading corporation, answers a few of
your questions. |
Don Bright of Bright Trading
|
CONVERSIONS
I'm new to options trading. Would you explain what a conversion
is? - Kelly, Cincinnati
"Conversion" means the buying of puts and selling of calls
at the same price, and also buying the underlying stock at the same time.
Conversions are critical to valuations, because although calls or puts
may look overvalued based on historical volatility, interest rates, and
so on (option modeling), they probably aren't when compared to the full
"three-way." If you look at the call, put, and stock, you will
find that the net pricing will be near fair value (again, based on interest
rates, days until expiration, dividends, and so on). On the trading floor,
traders will use the three-way valuation as a way to hedge themselves.
For example: if I end up selling 200 calls at a good high price to the
public, I can either buy other calls to hedge, sell puts, or buy stock,
in order to get "delta-neutral." If I end up with too much gamma
(short-term delta movement), I can compensate by completing a three-way
to level out (again, just locking in profits from the call sales by being
able to then turn around, buy the calls back, sell the puts, and sell the
stock at fair value).
Reverse conversions, or "reversals," refer simply to the other
side of the conversion. This is where the traders sell stock, sell puts,
and buy calls so they can collect interest on the short stock sale.
TRADING JOURNAL
I look forward to your show every week on the radio, especially
when you and Bob give away little tape-reading secrets! A few weeks ago
Bob said something about only keeping a journal for about the first month
or so. How come?
After a while, it just becomes a bit too time-consuming and distracting.
It is great to continue the journal, with notes and analysis, when the
trading day is finished, however. I had a very successful trader who claimed
"ÉAnd I've never had a losing day - look at my journal." I looked,
and noticed some losing numbers. He explained, "I paid for some additional
education once in a while, but I consider that money well spent."
He went on to make a great deal of money, and I think the journal (with
daily narratives and "objective" criticisms), along with his
positive attitude, accounts for much of his success.
NYSE SPECIALISTS
I have recently switched to trading NYSE stocks. I have heard
a few people suggest being on the same side as the specialist. In the normal
course of trading, how do you determine which side the specialist is on?
I trade large-cap stocks that follow the futures. Is there a way to determine
if the specialist is participating in some of the large prints that go
off, or at least a higher percentage chance the specialist would participate
in those prints?
Also, I have noticed large block prints can do a few things. Sometimes
the prints go off and the stock breaks out now that the buyer or seller
is gone. In other cases it seems the stock is pushed to where the size
is, the size is printed, and then it bounces back off that price level
(stock is pushed down to 34, prints, and bounces to 34.15). Any hints how
to figure out which kind of move you are going to get? - downtickboy
It's pretty easy to figure out which side the specialist is trading,
once you understand the rules. First, the specialist can only accommodate,
not initiate, orders away from the current price. He or she cannot initiate
either an uptick nor a downtick (except in special circumstances). Twice
a day, on the open and the close (for opening-only and market on close
[MOC] orders), the specialist will be on the opposite side of the imbalances.
For example, if there are one million shares to buy before the opening,
and only 800,000 shares to sell, the specialist will accommodate the order
by selling shares at a higher price. The same type of thing happens at
the end of the day for MOC orders. The difference at the end of the day
is that the specialist will disseminate the order imbalances 20 minutes
before the closing bell, looking for help in filling these extra orders.
The specialist will restate the imbalance number 10 minutes before the
close, as well.
Regarding the block prints: these are normally negotiated trades where
the specialist temporarily "closes" the book by showing a 1x1
share bid and offer. He or she fills the buyers or sellers at a better
price; this price improvement is oftentimes reversed. These are great trade-through
plays that we endorse for our traders.
OPENING ORDERS
I have a quick question about opening orders. If your envelope
for a stock is too wide based on the preopening indication for that stock,
do you move your bid and ask to fit the indication? If so, do you do both
sides, or just the side most likely to get filled? I am not sure if I should
adjust my envelope to fit the indication on all the stocks, or just some
stocks that are near my initial envelope. Thanks - Darren Vucurevich
I adjust to the lower (upper for sales) third of the indication only
if the indication is "away" from my price (if I have a 30.50
bid, and the indication is 29.00-29.60, I will use a 29.20 bid, approximately).
I won't tighten the bid/offer to reflect the indication, since I don't
want to be filled within the fair-value range.
E-mail your questions for Bright to Editor@Traders.com,
with the subject line direct to "Don Bright Question."
Originally published in the January 2003 issue of Technical
Analysis of STOCKS & COMMODITIES magazine. All rights reserved. ©
Copyright 2002, Technical Analysis, Inc.
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