•random musings for traders at TD AmeritradeSpring 2014

thinkMoney/23

10/HOW TO LOSE YOUR PANTS WITH ETFs

18/A ROOKIE’S GUIDETO SHORTING

OPTIONS

26/THE “PROBABLY”METHOD TO

PICKING TRADES

TRADE ANALYSIS FOCUS

32/WHAT WOULDHAPPEN TO MY

TRADE IF...?

TD Ameritra

de earns #

1

online broke

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by

Stock

Brokers.

com

(See page 9 fo

r det

ails)

tm23_Cover_rd4.qxd:pages.layout 2014-02-28 10:09 AM Page 1

iShares Silver Trust ETF.

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tm23_Pages2to9_rd4.qxd:pages.layout 2014-02-27 7:47 AM Page 2

Bring out the option trading machine in you.

Market volatility, volume, and system availability may delay account access and trade executions.

Options are not suitable for all investors as the special risks inherent to option trading may expose investors to potentially rapid and substantial losses. Option trading privileges subject to TD Ameritrade review and approval. Before trading options, carefully read the previously provided copy of the options disclosure document: Characteristics and Risks of Standardized Options. See our website or contact us at 800-669-3900 for additional copies.

*TD Ameritrade was among the firms listed in the category of “Best for Options Traders” in Barron’s Online Broker Review for five years in a row (2009-2013). Barron’s is a trademark of Dow Jones, L.P. All rights reserved. Reprinted with permission.

TD Ameritrade, Inc., member FINRA/SIPC/NFA. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. © 2013 TD Ameritrade IP Company, Inc. All rights reserved. Used with permission.

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tm23_Pages2to9_rd4.qxd:pages.layout 2014-02-27 7:47 AM Page 3

thinkMoney/23

•

04•Contents•Photograph byFredrik Brodén

•tdameritrade.com

In the world of ETFs, there’sgood, bad, and ugly. Dependingon who you talk to, inverse andleveraged ETFs could fall inany one of these categories.Learn what makes them tick,then decide for yourself.

p. 10

ETFs with Their Pants Down

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thinkMoney/23

•

07•Contents•Cover photograph byFredrik Brodén

•tdameritrade.com

Miscellaneous

Features

10/ ETFs with Their Pants DownLeveraged and inverse ETFs—the “trade-like-stock” products that actually win or lose morethan the market they’re tracking, or profit whenthe market goes down—are giving some tradersgrief. Left unchecked, you can lose your derrièretrading them. But are they for you?

18/ Shut Up and Sell Short options aren’t as scary as some wouldhave you think. So why the hype? Because bigleverage can mean big reward—but can alsomean even bigger risk. So how do you stay onthe right side of a short trade? It starts with theright info.

26/Charts? Who Needs Charts?Picking months and strikes are big decisions foroptions traders. Most will choose form over func-tion, though pretty charts got nuthin’ on themath. So it stands to reason probabilities matter.Yeah, we think so, too.

08/A Quick Howdy

15/Love Notes

16/News + ViewsThe explosion ofoptions exchanges hasreaped some rewardsfor the “little” trader. + The Suit dives intoyour questions aboutwhat makes theTrader group tick.

24/Trader TrioYour position state-ment can be confus-ing, and well worthdissecting. + How to set a chartdrawing alert.

Columns

42/The TokenGlossary

32/ Special Focus: Trade Analysis RIDDLE ME THISLet’s face it. If you’ve been using thinkorswimfor a spell, you probably know it’s more thanjust a trading platform. It’s like an answer butlerat your fingertips. And we’ll show you just howfar you can go to analyze your next trade.

PLUS: ANALYZE TAB Q+A

TD Ameritrade Contact Info You Could UseClient Services Representative: 800-669-3900New Accounts: 800-454-9272

•thinkorswim Support: 800-672-2098thinkorswim@tdameritrade.comPlatform Feedback:thinkorswimfeedback@tdameritrade.comTech Support:thinkorswimtechsupport@tdameritrade.com paperMoney Support:thinkorswimpapermoney@tdameritrade.comFor all other inquiries:tdameritrade.com/contact-us

•General Mailing Address200 S. 108th AveOmaha, NE 68154

•

Follow TD Ameritrade

30/The SpotlightWhile the Wall Streetshow goes on, JoeTassone makes surenothing gets in theway of your nexttrade.

And follow thinkorswim on Twitter, too: @thinkorswim

BACK ISSUES OF THINKMONEY!To view past issues of thinkMoney, hop on over totdameritrade.com/thinkmoney. You'll be glad you did.

cont.

23/Ask the Trader GuyOur faceless guruchats about hedgingwithout exiting, thetruth about open inter-est, and who wouldwin the greatest alienbattle of all time.

40/Coach’s CornerTrading earnings cansuck the life out ofyour option premi-ums. But weeklyoptions might be thecure.

38/Futures 4 FunIf you recently startedtrading futures, youmay have some burn-ing questions. Well,burn no more.

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thinkMoney/23

•

08•A Quick Howdy•tdameritrade.com

thinkMoney®

EDITORIAL DIRECTORKevin Lund

EDITORThomas Preston

ASSISTANT EDITOREileen Sutton

ART DIRECTORTom Brown

DESIGNERJennifer Roberts

•

CONTRIBUTING WRITERSNicole SherrodJohn BrodemusChesley SpencerMichael TurveyKira Brecht

CHIEF PHOTOGRAPHERFredrik Brodén

CONTRIBUTING ILLUSTRATORJoe Morse

•PUBLISHERT3 PublishingEmail: info@t3publishing.comwww.t3publishing.com

PHO

TOG

RA

PH: F

RED

RIK

BR

OD

ÉN

The universe of exchange-traded funds is huge. Reallyhuge. And just when itseemed investor interest inthese things was catching upwith their mutual-fundbrethren, along came lever-aged and inverse ETFs. Gameover. Peace out. Retail tradersrejoiced at the idea that youdon’t need a degree in quan-titative physics, let alone amargin account, to enjoy away to short the market, orthe type of leverage you canenjoy with options andfutures. Unfortunately, com-

mon sense sort of went outthe window as well, and a lotof traders have lost theirpants trading inverse andleveraged ETFs because theyforgot to read the print oneach fund’s prospectus abouthow they really work. Yup,there’s a reason they canleave you scratching yourhead when your P/L doesn’tadd up to what you thought.That’s where we cut to thechase in this issue’s coverstory—“ETFs With TheirPants Down” on page 10—touncover the naked truthsabout these complex instru-ments.

Now if you’d rather cutyour teeth on shorting

options rather than tradeinverse ETFs, but have beentoo afraid to try, “Shut Upand Sell” on page 18 justmight be what you need tobetter understand the poten-tial risks and rewards of trad-ing short option-strategies.

And finally, moving overto the due-diligence side oftrading, when it comes todoing your own “DD,”there’s nothing like thinkor-swim’s Analyze page toinduce tears of joy. Sure, youprobably know it can analyzethe potential P/L of that but-terfly spread you just put on.And you may even have avague idea about how to usea probability cone. But didyou know that it can help youunderstand what your posi-tion might look like afterexpiration on a multi-monthstrategy you hold? In thisissue’s special focus on tradeanalysis, we’ll uncover somenuggets of trading gold youdidn’t know existed on theAnalyze tab of thinkorswim.If after reading it, your headdoesn’t burst with imagina-tion, perhaps at least you’llbe left with a better idea ofjust how far you can take thistool. And if not that, at leastyou’ll now sound like thesmartest person in the room.Momma would be proud.

Happy Trading!TD Ameritrade Trader Group

Pop Goes the World

edit.

Got Feedback? Talk to us about thinkMoney!Take our survey and you’ll qualify for infinitebrownie points. tdameritrade.com/tmsurvey or write to usat thinkmoney@tdameritrade.com

tm23_Pages2to9_rd4.qxd:pages.layout 2014-02-27 7:48 AM Page 8

• The information presented in this publication doesnot consider your personal investment objectives orfinancial situation; therefore, this publication does notmake personalized recommendations. This informationshould not be construed as an offer to sell or a solicita-tion to buy any security. The investment strategies orthe securities may not be suitable for you. Any and allopinions expressed in this publication are subject tochange without notice.

• Options transactions involve complex tax considera-tions that should be carefully reviewed prior to enteringinto any transaction.• The risk of loss in trading securities, options, futuresand forex can be substantial. Clients must consider allrelevant risk factors, including their own personal finan-cial situations, before trading. Options involve risk andare not suitable for all investors. See the Options Disclo-sure Document: Characteristics and Risks of Standard-ized Options. A copy accompanies this magazine if youhave not previously received one. Additional copies canbe obtained at tdameritrade.com or by contacting us. • Trading foreign exchange on margin carries a high levelof risk, as well as its own unique risk factors. Before con-sidering trading this product, please read the Forex RiskDisclosure, available at http://www.nfa.futures.org/NFA-investor-information/publication-library/forex.pdf. • A forex dealer can be compensated via commissionand/or spread on forex trades. TD Ameritrade is subse-quently compensated by the forex dealer.• Futures and forex accounts are not protected by theSecurities Investor Protection Corporation (SIPC).

TD Ameritrade, Inc. Member SIPC FINRA NFA

TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. ©2014 TD Ameritrade IP Company, Inc. All rights reserved. Used with permis-sion. Product and company names mentioned hereinmay be trademarks and/or registered trademarks oftheir respective companies.

thinkMoney/23

•

09•Disclaimers•tdameritrade.com

• Neither Investools® norits educational sub-sidiaries nor any of theirrespective officers, person-nel, representatives,agents or independentcontractors are, in suchcapacities, licensed finan-cial advisors, registeredinvestment advisors orregistered broker/dealers.Neither Investools norsuch educational sub-sidiaries provide invest-

ment or financial adviceor make investment rec-ommendations, nor arethey in the business oftransacting trades, nor dothey direct client futuresaccounts nor give futurestrading advice tailored toany particula r client’s sit-uation. Nothing con-tained in thiscommunication consti-tutes a solicitation, recom-mendation, promotion,endorsement or offer byInvestools or others described herein, of any particular security,transaction, or invest-ment. Investools Inc. and TD Ameritrade, Inc.are separate but affiliatedcompanies that are notresponsible for eachother’s services or policies.

important

info

TD Ameritrade was ranked #1 out of 17 online brokers evaluated in theStockBrokers.com Online BrokerReview 2014. Read the full article at www.stockbrokers.com/2014-online-broker-review.html.

Transaction costs (com-missions and other fees)are important factors andshould be considered

when evaluating anyoptions trade. For sim-plicity, the examples inthese articles do notinclude transaction costs.At TD Ameritrade, thestandard commission foronline equity orders is$9.99, online optionorders are $9.99 + $0.75per contract. Ordersplaced by other meanswill have higher transac-tion costs. Options exercises and assign-ments will incur a $19.99commission.

3

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ETFs

THE CONCEPT OF ETFs CAN BE EASILY UNDERSTOOD.WHERE IT GETS CONFUSING IS WHEN YOU CAN WIN OR LOSE MORE THAN THE MARKET THEY’RE TRACKING,OR WHEN THEY MAKE MONEY DOING THE OPPOSITE OF THAT MARKET. WELCOME TO THE WORLD OF LEVER-AGED AND INVERSE ETFS. IF YOU DON’T KNOW WHATYOU’RE DOING, THINK JEANS AROUND THE ANKLES. WORDS BY THOMAS PRESTONPHOTOGRAPH BY FREDRIK BRODÉN

WITH THEIR PANTS DOWN

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thinkMoney/23

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12•

•Photograph by Fredrik Brodén

•tdameritrade.com have become some of the most actively traded products.

And why not? Priced low, they can move around alot, and let you make interesting speculations. For exam-ple, One ETF that tracks the Russell 2000 moves 3x theamount of the index, Another, a leveraged inverse ETFthat tracks the S&P 500, moves -2x that index. Andbecause it goes up when the S&P 500 goes down, itcould be a way to hold a bearish position in an accountthat prohibits short stock positions. If you trade options, the premium of a short out-of-

the-money put*on a leveraged ETF can be much higherthan the premium of a comparably out-of-the-moneyput on its benchmark due to their potential highervolatility, which can lead to higher risk of assignment.These are a few reasons ETFs can be so appealing toinvestors and traders. But leveraged, inverse ETFs can also trip you up if

you don’t understand how they work—whether you’retrading the ETFs themselves or their options. And thegoal here is to clarify those distinctions. Sure, you’ll findall this information in an ETF prospectus. And I’dencourage you to read one. But here you’ll enjoy a moredirect explanation in plainer language.

LESS THAN ZERO?First of all, leveraged, inverse ETFs are based on a givenbenchmark, which could be an index or another ETF.How much the price of a leveraged and inverse ETFmoves is derived from the price change of its bench-mark. How much the leveraged or inverse ETF movesrelative to the benchmark is where it gets tricky becauseof the way it’s designed.In the financial world, stocks, bonds, indices, and

ETFs can’t have prices less than zero. No matter whathappens, they can’t have negative prices. So, imagine aninverse ETF whose price moves in the opposite direction

point for point with its benchmark price—when thebenchmark moves up 1 point, the inverse ETF movesdown 1 point. But, what happens if the index moves upmore points than the inverse ETF is worth? For example,if the benchmark is $50 and the inverse ETF is $50, theinverse ETF would have a negative value, if the bench-mark moves up $51 points to $101. A negative valuecould happen with leveraged ETFs if they move point forpoint, too. But, that doesn’t work. So those who created inverse and leveraged ETFs

solved the problem by basing the percentage change inthe inverse and leveraged ETFs on the daily percentagechange the benchmark. The benchmark moves up 1%in one day, and the inverse ETF moves down 1% on thatday. But, what happens if the benchmark keeps goingup in price, day after day? The inverse ETF keeps mov-ing down in price, but never below $0. That’s becausethe lower the inverse ETF’s price, the percent changethat the benchmark represents equates to a smallerpoint change in the ETF. For example, a benchmark is at $100 and the 1x

inverse ETF is $100. If the price of the benchmarkmoves up $2 to $102 in a day, that’s 2%. So, the ETFmoves down 2% of $100—$2.00—to $98. If the bench-mark on the following day moves up another 2%,$2.04 to $104.04, the ETF moves down 2% of $98—$1.96—to $96.04. The inverse ETF had a smaller pricechange on the second 2% drop than it did on the first,because the ETF’s price was lower. In that way theinverse ETF can never go below $0. Very clever. Butthat creates another problem.The leveraged, inverse ETFs track the daily percent-

age price change of the benchmark. Those ETFs cansometimes move in ways that are counterintuitivebecause the prices of the leveraged and inverse arepath-dependent. If the benchmark moves up $1.00today, and down $1.00 tomorrow, that has a differentimpact on the ETF than down $1.00 today and up $1.00tomorrow. Huh?

CONNECTIVE FINANCIAL TISSUELet’s look at two scenarios of a leveraged ETF thatmoves 2x the percent change of the benchmark, and aninverse ETF that moves -1x the percent change of thebenchmark. Let’s assume that the benchmark and theleveraged or inverse ETFs start at $100. In Scenario 1, the benchmark starts at $100 and

moves up 1% on day 2 to $101. The leveraged ETF startsat $100, and moves up 2% to $102, and the inverse ETFmoves down 1% to $99. When the benchmark drops

Scenario 1BENCHMARK 2X LEVERAGED ETF -1X INVERSE ETF

Day 1 $100 $100 $100

Day 2 $101 (+1%) $102 (+2%) $99 (-1%)

Day 3 $100 (-.99%) $99.9802 (-1.98%) $99.9802 (+.99%)

Scenario 2BENCHMARK 2X LEVERAGED ETF -1X INVERSE ETF

Day 1 $100 $100 $100

Day 2 $99 (-1%) $98 (-2%) $101 (+1%)

Day 3 $100 (+1.01%) $99.9798 (+2.02%) $99.9798 (-1.01%)

For illustrative purposes only.

Inverse and leveraged ETFs

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$1.00 from $101 to $100 on day 3, that’s not quite 1%.That’s .99%. The price of the leveraged drops 2x .99%—1.98% of $102—to $99.9802. The inverse rises .99%from $99 to $99.9802. Both the leveraged, inverse ETFsare a little lower than where they started—$100—whilethe benchmark didn’t change at all.

In Scenario 2, the benchmark drops $1.00on day 2, and the leveraged ETF drops 1% x2 to $98. When the benchmark rises $1.00back to $100 on day 3, that’s a 1.01%increase. The leveraged rises 1.01% x 2 to$99.9798. It doesn’t rise $2 back up to $100.

The inverse ETF exhibits similar behav-ior. That’s the nature of percentage pricechanges. 1% on a higher price is a biggerchange than 1% on a smaller price. In bothscenarios, the benchmark started at $100and ended at $100, but the leveraged, inverseETFs neither ended at $100, nor had thesame ending value in the two scenarios.That’s why their prices are dependent on thespecific price path of the benchmark.

TRACK YOUR EXPECTATIONSNow, I know what you’re thinking—does .02between the benchmark and ETFs reallymatter when the market is moving around?OK, that’s a pretty small difference. But this

is a simple scenario involving only threeprice changes. Imagine the difference thatcould accumulate over 260 trading days in ayear. While the benchmark didn’t have a netchange—it started at $100 and ended at$100—in the three price changes, the lever-aged and inverse ETFs both lost value, andlost different values, depending on the pathof the benchmark’s price changes.

That doesn’t mean there’s somethingwrong with the leveraged and inverse ETFs.That’s just how they work. Because theleveraged and inverse ETFs track the dailypercent changes of the benchmark, the per-formance of those ETFs can be quite differ-ent than the percent changes in thebenchmark over longer periods. That’s whata lot of investors can find confusing. It lookslike the leveraged and inverse ETFs shouldhave done one thing, but did another.

What does that mean for traders? Shouldyou avoid trading leveraged and inverseETFs long term, if at all? That’s for you todecide. All trading products present risk. Butsome have nuances that can surprise you ifyou don’t understand them. In the case ofleveraged and inverse ETFs, their particular

nuance is that the daily, percentage price changes creatediscrepancies to the benchmark’s longer-term perform-ance. So, if you’re looking for an exact leveraged orinverse replica of the benchmark, you might not get that.Go in with an educated expectation, though, and theleveraged and inverse ETFs might provide opportunity.

SEE GLOSSARYPAGE 42

No ComparisonIf you want to see the dis-crepancy between theleveraged and inverseETFs and their bench-marks over time, use acomparison study on athinkorswim® Chart. If youhave the S&P 500 Index(SPX) on the chart:

1. Click on the Studies but-ton, then “Add Study” fromthe first drop-down menu.

2. Go to “Compare With” atthe bottom of the next drop-down menu.

3. Select “Custom Symbol”and you can enter a lever-aged or inverse ETF sym-bol to overlay its chart onthe SPX chart.

4. To see the difference intheir percentage changes,click on the Style button,then go to “Settings,” thenclick on the “Price Axis” tab.

5. Check the “Show Priceas Percentage” box, andthe chart will show you thepercent changes the twosymbols had based on theirfirst prices in the timeframe of the chart.

*A short put strategy includes a high risk of purchasing the corre-sponding ETF at the strike price when the market price of the ETFwill likely be lower. Short option strategies involve a high amountof risk and are not suitable for all investors.

Carefully consider the investment objectives, risks, charges andexpenses of an exchange traded fund before investing. A prospec-tus, obtained by calling 800-669-3900, contains this and otherimportant information about an investment company. Read care-fully before investing.

Leveraged and inverse ETFs entail unique risks, including butnot limited to: use of leverage; aggressive and complex investmenttechniques; and use of derivatives. Leveraged ETFs seek to delivermultiples of the performance of a benchmark. Inverse ETFs seek todeliver the opposite of the performance of a benchmark. Both seekresults over periods as short as a single day. Results of both strate-gies can be affected substantially by compounding. Returns overlonger periods will likely differ in amount and even direction fromthe target return for the same period. These products require activemonitoring and management, as frequently as daily. They are notsuitable for all investors.

Important Information

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Get ahead of the futures learning curve.

Learn more at tdameritrade.com/futures

Futures accounts are not protected by the Securities Investor Protection Corporation (SIPC). Futures trading privileges subject to TD Ameritrade review and approval. Not all account owners will qualify. Trading futures involves speculation, and the risk of loss can be substantial. Clients must consider all relevant risk factors, including their own personal fi nancial situation, before trading.

Third-party research and tools are obtained from companies not affi liated with TD Ameritrade, and are provided for informational purposes only. While the information is deemed reliable, TD Ameritrade does not guarantee its accuracy, completeness, or suitability for any purpose, and makes no warranties with respect to the results to be obtained from its use. Please consult other sources of information and consider your individual fi nancial position and goals before making an independent investment decision. Past performance does not guarantee future results.

Access to real-time market data is conditioned on the acceptance of the exchange agreements. Professional access differs and subscription fees may apply.

Diversifi cation does not eliminate the risk of experiencing investment losses.

TD Ameritrade, Inc., member FINRA/SIPC/NFA. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. ©2013 TD Ameritrade IP Company, Inc. All rights reserved. Used with permission.

When trading futures, it starts with what you know. Our free educational resources can help empower you with a strong knowledge base—so you can become a more informed,

confi dent futures trader.

• 24/7 support: Get answers from our futures specialists—

many who were experienced fl oor traders themselves

• CNBC “Futures Now”: Get strategic insights from respected third-party traders on this live, streaming show

• thinkorswim® Learning Center: Learn the ins and outs of the thinkorswim® trading platform through tutorials, demos, videos, and more

• Live squawks from the pits: Hear what the futures pros are saying, right as market events happen

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DA TWEETS• 2 days waiting for this market…and forwhat?? .25 uptick? Pfff…I’m gettingbeers…@JaviFusco

• @thinkorswim Did u guys use Oba-macare programmers 4 your disastroussoftware upgrade?...#FAIL@HedgeBanger

• The user interface lead for @thinkorswimneeds to ease off the meth.@AdamBTC

• @ryanowalton Input: Love needed. Calculating feelings andemotions…Output: <3 <3 <3@thinkorswim

• I hear @TDANSherrod is getting her headshaved in the @TDAmeritrade office for aproperly working thinkorswim.@MNYCx

• @MNYCx I’m working to resolve issues. Ihave no time to shave my head. Onceresolved, if this will make everyone happy,I will. @TDANSherrod

• @MNYCx In all seriousness we are work-ing around the clock on TOS issues. Butnow that bald @TDANSherrod is on theline we’ll dig deeper.@thinkorswim

DA QUIPS• On cool scriptsJust write a script to switch the colors onactive trader buy/sell buttons. Reallyturned my trading around.Denida

• On chartingI changed to a scented candle chart so I canjust smell the moves coming.Jack

• On canine indicatorsIn the morning, my dog barks how manypoints AAPL* will move. His portfolio isoutperforming mine.Scotty

• On domestic skillsIf I ever joked to my mother that hersweeping skills would someday be a skillin the Olympics, she would have hit mewith the broom.Dustin

• On athletic wearLULU* has a bra called the “Ta TaTamer”...Now there will be a jock called the“Nad Nanny.”Brad

• From a famous dudeTwo things are infinite: the universe andhuman stupidity; and I’m not sure aboutthe universe.Einstein

thinkMoney/23

•

15•Love Notes•Sweet tweetsand quick quips from all of us•Photograph byFredrik Brodén

lttrs.

Follow the “experts” onTwitter for all thingsmarkets, trading, andthinkorswim:@TDANSherrod@TDAJJKinahan@thinkorswim

Important InformationThese comments are excerpts from chat rooms, emails, and tweets submitted by TD Ameritrade clients, as their views and many not reflect those of TD Ameritrade.Testimonials may not be representative of the experience of other clients and are noguarantee of future performance or success.

*Security symbols displayed for informational purposes only. This is not a recommendationto trade any specific security.

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thinkMoney/23

•

16•News+Views•A hodgepodge of stuff we thought youshould know.

•Photograph byFredrik Brodén

•tdameritrade.com

Q: What else can we expect laterin the year in terms of mobileenhancements?A: Considering the world we nowlive in, our core development focusfor mobile is divided equallybetween Android and iOS for bothphone and tablet. My Mobile Devel-opment team is working to bringparity between the most utilizedand beloved features and datasetsin thinkorswim and Mobile Trader.By the time you are reading thisissue, we will have just rolled out ahost of new features for Androidlike the ability to roll forward onoption positions and to tradedirectly from the charts.

It’s not lost on us that the evolu-tion from 3G to 4G to 5G is onlygoing to continue. (If only the carri-ers would keep up with us...)Traders need a fast connection andthe advancements in the mobilespace are supporting the migrationof traders towards an untetheredfuture. My team is very focused ongearing up for that inevitable event.

Q: Can you suggest any newthinkorswim features that Ishould be sure to check out?A: When I was single, people wouldtell me all the time that I was toopicky. I was always looking for theperfect guy. Now I’m older. But I’mstill very picky. But now it’s allabout finding the perfect trade. Andthere’s three ways to do that whichI consider “must haves.”

1/ Option Hacker—For me, thistool was love at first sight. And ourrecent enhancements to OptionHacker allow you to screen for vir-tually any criteria that you couldpossibly dream up. Are you a pre-mium seeker? Find options with adesirable premium all within a cer-tain number of days of expiration.However you like to trade…theoption hacker can help you filter theuniverse of for just the right option.

nws.

FOLLOW THE SUITRead more of Nicole’smusings on her own blog at tickertape-monthly.com/blog.

Follow Nicole on Twitter:@TDANSherrod

2/ Stock Hacker—The latestenhancements to this tool will beavailable in the spring. You know allthe new fundamental data werecently rolled out on the Analyzetab? Well, you will soon be able tofilter on virtually every fundamen-tal data component on that tab.You’ll even be able to combine bothfundamental and technical ele-ments into the perfect scan.

3/ thinkorswim Sharing—Thebeautiful thing about our newthinkorswim Sharing feature is that,with two clicks I can share my per-fect screen with my loved ones sothat they too can profit from thebrilliance of my option or stockhack. It’s only nine more months tillChristmas. Now you know what I’llbe giving everyone on my list.

Ask The

Suit•

A little Q&A withNicole Sherrod,Managing Director,Trader Group at TD Ameritrade

tm23_News&Views_rd4.qxd:pages.layout 2014-02-27 10:26 PM Page 16

toys

Toys for TradersA few of ourlatest trading faves

SHARE THE LOVEYup, we’re saying itagain. Share yourcharts and customsettings, includingscans, with anyonejust by pressing the“share” button in theupper corner whereit’s available. If theyhave thinkorswim,they can drop it rightin their software andsee your brilliance forthemselves.

OPTION SCREENERIf you missed theblurb in “Trader Trio”in thinkMoney’s lastissue (#22, Winter2014), you can nowscan for single optionsthat meet certain cri-teria, such as delta,days to expiration, oreven strike price. Adda stock filter on top ofit, such as price andvolume, and you’vegot a one-two punchfor finding your nextoption trade.

thinkOnDemandDo you wonder whatthat “OnDemand”button is in the upperright corner? thinkOn-Demand allows you togo back in time andtrade fake positions asif the market was tick-ing in real time. Testyour trading reflexestick-by-tick, or jumpto a future date to seehow it all turned out.It’s fake money, soyou only risk losingyour ego.

One of the bigchanges over thepast decade is thecreation of newequity optionexchanges—12 inall now. Back in theday, there were justfour—CBOE,Amex, Pacific, andPhilly. But NYSEbought Amex andPacific to formNYSE Amex andNYSE Arca respec-tively. Nasdaqbought Philly andbecame NasdaqOMX PHLX. CBOEopened CBOE C2.Throw in BATS,

BOX, ISE, andMIAX, and it startsto look likeexchange soup. Buthas all this compe-tition benefitted thelittle trader? Let’ssee.

The trading vol-ume of listed equityoptions has beengrowing over time,thanks in part tobroader use ofoption strategies beretail traders andinvestors, which iswhy creating a newexchange has beenattractive. Power-ful software, high

availability of serv-ices, and lowlatency data deliv-ery are behind thetechnology build-ing the new all-electronicexchanges. Screen-based market mak-ing is taking theplace of the coloredjackets and frantichand waving.

Technologyaside, as AlanGrigoletto of theOptions IndustryCouncil puts it,“Fungibility can’tbe dismissed. Nowthat options can betraded on multipleexchanges, theircosts naturallycome down.” Aswell, the new

exchanges increasecompetition, notjust for tighterbid/ask spreads,but for innovativetrading productslike mini optionsand options on newETFs and indices.

Translation: thecost of trading hascome down for youand me because oftighter bid/askspreads, there aremore products tochoose from, andliquidity—the abil-ity to get in and outof trades fairly eas-ily—has increased.

The bottomline? When youroute an order, you

may just choose“Best,” which is thedefault in thinkor-swim. This uses TDAmeritrade’s orderrouting algorithmsto search for theexchange with thebest executionprice. At the end ofit all, you don’treally have to don’tworry so muchabout whichexchange fills yourorder, as long asyou get filled at agood price andquickly.

AlphabetSoupAre moreoptionsexchanges better for me? •Words by Thomas PrestonIllustration by Joe Morse

industryspotlight

THE NEWEXCHANGESINCREASECOMPETITION,NOT JUST FORTIGHTERBID/ASKSPREADS,BUT FORINNOVATIVETRADINGPRODUCTSLIKE MINIOPTIONSAND OPTIONSON NEWETFS ANDINDICES.

tm23_News&Views_rd4.qxd:pages.layout 2014-02-27 10:26 PM Page 17

thinkMoney/23

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18•Short StrategyPrimer•tdameritrade.com

WORDS BY KYLE MURPHY PHOTOGRAPH BY FREDRIK BRODÉN

SHORT OPTIONS AREN’T AS SCARY AS SOME WOULD HAVE YOU THINK. SO WHY THE HYPE? BECAUSE BIG LEVERAGE

CAN MEAN BIG REWARD—BUT CAN ALSO MEAN EVEN BIGGER RISK. SO HOW DO YOU STAY ON THE RIGHT SIDE OF A SHORT TRADE?

IT STARTS WITH THE RIGHT INFO.

THE ROOKIE’S GUIDE TO

SHORT-OPTION STRATEGIES

Shut upand sell

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thinkMoney/23

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20•Short StrategyPrimer•tdameritrade.com

has been given a bad rap over the years. And for goodreason. Without even knowing what the term means,the average investor listening to pundits and naysayerswould have you believe shorting will put you in thepoorhouse, or that’s a part of what sunk the economyjust a few years ago. The reality is while shorting isinherently risky, when used wisely, it can be useful.But in the hands of a reckless trader, that’s where theproblems begin.

The term “selling short” simply means you’vechanged the typical order of operations. While mostpeople buy a stock then sell it in a short sale, one sells astock then buys it. While there are mechanisms thatneed to be in place in order for short selling to occur(such as approval to short a stock with the stock beingavailable to short), the ability to short sell any financialinstrument is a necessary component of a fair market,as it completes the opportunity to match buyers andsellers at a transaction price both parties deem fair.

THE BIG RISKOf course, when you sell an option short, you incur theobligation to either buy or sell the underlying security atany time up until the option expires. Unfortunately, thatobligation means you may have to either buy a stockhigher, or sell it lower, than where it’s currently trading.In a nutshell, if you’re forced to fulfill the obligation thatmay arise from a short-option position, you’ll be forcedto do something you wouldn’t otherwise do.

In the case of a short-call position, you incur theobligation to sell the stock at a set price, and there’s no

limit to how much higher the stock can rise beforeyou may have to buy it back.

With a short-put position, you incur the obliga-tion to buy the stock at a set price. And while thestock can drop considerably before you decide tosell, your risk is technically limited because stockscannot drop below zero.

Why would you do that? There are two main rea-sons experienced options traders might employ theshort-put strategy—to buy the stock at a lower pricethan where it’s currently trading, or to speculate ona stock’s direction and collect periodic income fromthe time value of the short put.

BUYING STOCK AT A LOWER PRICEWith a short-put position, you take in some premium inexchange for taking on the responsibility of possiblybuying the underlying security at the strike price. Thismoney is yours to keep no matter whether the stocktrades below the strike of the short-put option. At anytime prior to expiration, if the stock trades at a price thatis lower than the strike price, then the person who islong the put has the right to (and will likely) exercisethe option. In that case, you’ll be assigned on yourshort-put position, meaning you have to buy the under-lying stock at the strike price. Consider the following:

Let’s say you’re mulling over the idea of buying 100shares of XYZ stock currently trading at $64.50. How-ever, you don’t want to pay more than $60 a share toown it.

You could sell the XYZ January 60 put for $2.00 percontract, obligating you to pay $60 per share for XYZstock if assigned—exactly what you wanted. But sinceyou’re collecting $2.00 for the put, your net cost for thetrade is $58 per share (plus commissions and fees).

THE SCUTTLE ON DIVIDENDSIt’s true that if XYZ stock happened to pay a dividend,then by owning XYZ you’d be entitled to that dividend.By being short a put in XYZ stock on the other hand,you would not be entitled to a dividend. That said,keep two things in mind.

First, if you happen to get assigned on your shortXYZ puts, then you’d be forced into taking delivery of

FIGURE 1 AND 2: Risk curves of the short put (left) and short call (right). Both strategies typically have higher probabilities of success thanlong trades. However, they have limited upside and have potentially unlimited risk to the downside. For illustrative purposes only.

The term ‘short’

+

_

BREAKEVEN

Stock Price

Short Strike

Profit

Loss

Short Put

+

_

BREAKEVEN

Stock Price

Short Strike

Short Call

Profit

Loss

tm23_ShutUpSell_f2_rd4.qxd:pages.layout 2014-02-27 11:33 PM Page 20

the stock, therebygranting you the rightto all future dividendpayments so long asyou remained thestock owner.

Second, all Ameri-can-style put optionsare adjusted to somedegree for upcomingdividends. Puts sold ondividend-paying stocksare built to trade at aslightly higher pre-mium than where theyotherwise would tradeif the underlying stockdid not offer a divi-dend, all things beingequal. Among otherfactors, the deeper inthe money the putoption happens to be,and hence, the greaterthe likelihood that yourshort option isassigned and con-verted to stock, thegreater the adjustmentfor the dividend. So theoptions world hasaddressed that peskyconcern.

WHAT ABOUTASSIGNMENT?If you get assigned, youtake delivery of thestock at the strike priceof the short put. Sowhat now? Well, sinceyou took in some pre-mium via your put saleprior to buying thestock, how about tak-

ing even more premiumby selling a call optionafter you buy the stock?

Suppose that the stocksettled at $59.75 per shareat expiration and you getassigned, thereby forcingyou to buy shares of XYZstock. On the followingmarket opening after expi-ration, you note that XYZis trading at around thatsame level, just below $60per share. At this point,you could sell the XYZ

February 60 call at, say, $4.00. This premium is yours tokeep regardless of where XYZ settles at expiration.

If XYZ stays below $60 per share until expiration andyou don’t get assigned, the February 60 calls go outworthless, you’re $4.00 better off than if you had donenothing. On the other hand, if XYZ trades above $60 pershare prior to, or at, expiration, then you’d likely beforced to sell your stock at $60, which is the same priceat which you were forced to buy it in the previous expi-ration. You would be no worse off, and in fact, you’dprobably be better off since in addition to the premiumthat you collected when you sold the put, you’d alsohave the premium collected when you sold the call, lessthe applicable transaction costs like commissions, con-tract fees, and assignment fees.*

SELLING SHORT PUTS CAN BE A GREAT WAY TO BUY Astock you were committed to buying anyway, whileallowing you to collect some additional premiumthrough the option sale. At first glance, the strategy mayseem extremely risky. And it is. However, upon closerinspection, you can see there’s potentially more risk inbuying the stock outright due to the collection of theoption premium. Finally, whether or not you’reassigned on your short-put option, the premium youcollected during the option sale is yours to keep.

SEE GLOSSARYPAGE 42

Short Option PartyFor more on short-optionstrategies, check out theSpread Trading primer, part 4 from the Fall 2013 issue (#21) in thethinkMoney archives attdameritrade.com/thinkmoney.

If you need a helpinghand finding a shortoption candidate, tryusing Option Hacker on the thinkorswim plat-form. Just follow thesteps below from theimage above.

1. Under the Scan tab,Select Option Hacker inthe submenu.

2. Select the watchlist inthe drop down box nextto "Scan in."

3. Choose your optioncriteria

4. If it would help, youcan also add a stock filter, such as "%change" to find moversand shakers.

5. Hit the scan buttonand watch your resultspopulate at the bottomof the screen.

Finding Shorts

Important Information

For more information on therisk of options, see page 43,#1 & 3. The naked short putstrategy includes a high riskof purchasing the correspon-ding stock at the strike pricewhen the market price of thestock will likely be lower.The risk of loss on an uncov-ered call option position ispotentially unlimited since

there is no limit to the priceincrease of the underlyingsecurity. Naked short optionstrategies involve the highestamount of risk and are onlyappropriate for traders withthe highest risk tolerance. Acovered call strategy canlimit the upside potential ofthe underlying stock posi-tion, as the stock wouldlikely be called away in the

event of substantial stockprice increase. Short optionscan be assigned at any timeup to expiration regardlessof the in-the-money amount.Option strategies designedto generate income monthafter month can entail sub-stantial transaction costs,including multiple commis-sions, which may impactany potential return.

*For simplicity, the above examples did not includetransaction costs in the calculations. For more on trans-action costs, see page 9.

For illustrative purposes only.

tm23_ShutUpSell_f2_rd4.qxd:pages.layout 2014-02-27 11:33 PM Page 21

Futures trading is not suitable for all investors, and involves risk of loss. CBOE®, CBOE Volatility Index® and VIX® are registered trademarks and Execute SuccessSM, CBOE Short-Term Volatility IndexSM and VXSTSM are service marks of Chicago Board Options Exchange, Incorporated (CBOE). S&P®, and S&P 500® are registered trademarks of Standard & Poor’s Financial Services, LLC and are licensed for use by CBOE and CBOE Futures Exchange, LLC (CFE). S&P does not sponsor, endorse, sell or promote any investment product that is or may be based on the VXST Index. © 2014 CBOE. All Rights Reserved.

Introducing CBOE Short-Term Volatility IndexSM (VXSTSM) futures, the newest volatility innovation from CBOE.

By tracking 9-day expected volatility, Short-Term VIX is particularly reactive to changes

on the S&P 500® Index. So now you have the opportunity to capitalize on market events.

Better manage near-term risk. Capture risk premium with weekly expirations. And help

take advantage of volatility for the here and now.

Download the Short-Term VIX quick reference guide at ShortTermVIX.comTweet with dollar-sign tag $VXST

tm23_HeyTrader_rd4.qxd:pages.layout 2014-02-27 10:19 PM Page 22

Q: Hey, Trader Guy!I know that stocktrades settle T+3,three days after thetrade date. Doesthat mean I don’tactually own thestock on the day Ibuy it?

A: No. You own thestock when you dothe trade, and haveall the accompany-ing risk and poten-tial. But you havethree days max topay for the stockwhen you buy it, ordeliver the shares ifyou sell it. The set-tlement process iskind of involved,but the reason theSEC (Securities andExchange Commis-sion) has T+3—it

was T+5 for a longtime—is that unset-tled trades are riskyfor the whole mar-ket. The longer thesettlement time, themore risk of a bigmove in the market,and this could meaninvestors might notbe able to pay forthe transactions.Generally, intoday’s online trad-ing world, you needthe funds in youraccount to cover therequirements of anopening transactionbefore you canroute the order.

Q: Hey, TraderGuy! If I want toreduce the deltas ofan options strategybut don’t want toclose any of mypositions, is it bet-ter to use stock, oran option spread,as a delta hedge?

A: In trading, it’s notnecessarily a ques-tion of “better,” butrather whether ornot you understandthe risk and benefitsof the differentchoices. Because100 shares of stockhas a delta of 100,you could poten-tially reduce yourdelta very quicklyby buying or short-ing stock. Thedownside, though,is that stock posi-

tions can be capitalintensive, and if themarket rallies ordrops, there’s a riskthe stock hedge canlose more than theoption portfoliomakes.

Alternatively,option spreads oftenhave deltas that arerelatively small,which means youmight need to exe-cute a lot of them toreduce the optionstrategy’s delta. Andthat can meanhigher transactioncosts. Think of itthis way: match thehedge’s type of riskwith the position’stype of risk. Do youhave a lot of nakedshort options with alot of risk? Then astock hedge mightmake sense becauseit could come close

to offsetting theoptions’ potentiallylarge losses. Do youhave an optionspread? Then astock hedge mightbe too risky, andanother optionspread with offset-ting deltas mightmake more sense.

Q: Hey, Trader Guy!I like to tradeoptions that have alot of open interest.But when newoption expirationsare opened, some-times the openinterest is low.Should I avoidthem until theiropen interest ishigher?

A: Higher openinterest can be anindication of liquid-ity and trading activ-ity. But new optionseries, like the onesthat get added aftereach expiration forexample, sometimesdon’t have any openinterest until severaldays after they starttrading. That’sbecause peoplehaven’t startedopening positionsand are maybe trad-ing the other expira-tions. That doesn’tmean, though, youshould avoid tradingthem. If the optionsin the other expira-tions have a highopen interest, it’slikely the new serieswill be liquid aswell, and marketmakers are still obli-

gated to honor theirbid/ask prices evenif the open interest iszero.

Q: Hey, Trader Guy!OK, let’s say you’regoing to fight theFed, and you couldhave either the Ter-minator or thePredator to backyou up. Which onedo you choose?

A: Well, the Preda-tor is a sentimentalfavorite. I mean, it’sgot the shoulderrockets and thewhole dreadlockthing going on. Butthe bottom line, it’sa sentient being. Ithink the Fed wouldcompletely demor-alize it by pushinginterest rates in adirection the Preda-tor would resist,and the Predatorwould just go to theinvisible spaceshipand fly away. TheTerminator is amachine, and youcould just programit to take its losses tooutlast the Fed.

thinkMoney/23

•

23•Ask the Trader Guy•Rescuing traders, one question at a time.

•Photograph by Fredrik Brodén

trdr.

SEE GLOSSARYPAGE 42

tm23_HeyTrader_rd4.qxd:pages.layout 2014-02-27 10:20 PM Page 23

POSITION STATEMENTHOW IT WORKS AND WHY IT MATTERSKeeping track of profit and loss (P/L’s) is standard.And if you’re not in the know, the Position Statementlives under the Monitor tab.

First, with derivatives, these values will always becalculated in real-dollar terms to allow for apples-to-apples comparisons. In other words, if you see a P/L onan option position of $1.00, that is after any multiplyingeffect of quantity and specification and not a dollar gain

on the contract price. So a $0.25 move in say, anS&P 500 options contract would be represented

as +/- $25.00, after the multiplier is considered. Now,let’s break down each column on the page.

P/L Open. Measures the gain or loss of position valuesince an opening trade was made. When looking at a combined position (for example, all options in Xsymbol), P/L Open will not include any positions thathave already been closed. In math-speak, P/L Open = (AVG COST xQTY) – (MARK x QTY).

P/L %. Same thing as P/L Open, butexpressed as a percentage. P/L Open= ((AVG COST x QTY) – (MARK xQTY)) / (AVG COST x QTY).

P/L Day. Measures a position’s cur-rent value against the previous day’sclose. Note that when looking at acombined position (for example, alloptions in X symbol), the P/L Daywill include gains and losses fromany position that’s been closed on agiven trading day. P/L Open = (AVGCOST x QTY) – (CLOSE x QTY).

P/L YTD. Measures aposition’s currentvalue against the closeof the previous year.Note that when look-ing at a combinedposition (for example,

all options in X symbol), the P/L YTD will includegains and losses from any position that’s been closedsince the year began. P/L Open = (AVG COST x QTY)– (CLOSE x QTY).

Mark Value. This is the value of the position at itscurrent mark price (the amount of money it wouldgive/take to close the position). With a short position,this would be a debit, since the cash from selling theposition has already been included. In the case of along position it’s a credit, since it would bring infunds when liquidated.

BP Effect. This is the impact on your margin, or buyingpower, available in your account.

Last, the greeks columns (delta, gamma, theta,vega) simply include each total position greek. Forexample, if you own 10 call options, and the greek col-umn states 495 deltas, each call has 49.5 deltas.

thinkMoney/23

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24•Trader Tools

FIGURE 1: Position Zen. All of the vitals for the trades you have on right now live on thePosition Statement of thinkorswim. And if you can’t tell up from down because you’re holdingtoo many positions, organizing your multiple positions into “subgroups” can help organize yourworried mind. For illustrative purposes only.

• Even if you’ve been using thinkorswim® for a while, odds are good parts of the platform are still unfamiliar. So let’s dig into some classic features, which pack a lot of bang for the buck.

Trader

TrioThree thinkorswim tools you didn't know you should know

feat.

1tm23_TraderTrio_rd4.qxd:pages.layout 2014-02-27 9:43 AM Page 24

POSITION SUBGROUPSGET ORGANIZED FOR PEACE OF MINDCaptain Obvious says, “trading canbe complicated.” Organizing combi-nations of positions with differingstrategies, possibly in separate

accounts, can be a challenge. To simplify, thinkor-swim takes the Position Statement a step farther witha flexible system of “subgroups” you can use toarrange custom trades based on defined criteria. So ata glance you can see how any set of positions are per-forming. (Refer again to Figure 1.)

With subgroups, you can assign either a wholeposition or individual trades in a position, to adefined subgroup. For example, you can separatesome or all of the spread trades of a given type fromother option positions. Or you could separate your“speculative” trades from your “high probability”trades to contrast your strategies’ effectiveness.According to your preference, you decide how todivide these positions. Within a subgroup, the soft-ware will track the metrics of a given position (e.g.P/L, delta, net-liquidation value, etc.), even if thattrade is only a portion of the overall position in agiven security. Positions can also be entered or exiteddirectly within a subgroup so you can track theirprogress over time.

As for how this all works? To start, click on theaction menu at the top of your Position Statement andcheck “Show Subgroups.” Then, right-click the posi-tion you’d like to move and in the menu choose“Move to Group > Add Group...” Since this is the firstone you’ve created, you’ll have to give it a name. Butother than that, there’s nothing to it. Other orders orpositions can be added to that group from the samemenu. To add an individual position trade, go to theTrade History section of the Account Statement andright-click on the one you’d like moved.

To assign subgroups to new positions, you have acouple of options. If you select a subgroup in theaccount selector at the top of the platform, any orderssent will go to this subgroup automatically. As well, asubgroup can be selected directly on the Order Confir-mation dialog box. Closing orders can be assigned tothe same subgroup as the opening transaction by

checking “Assign subgroups to clos-ing orders” in the Orders section ofthe Application Settings.

DRAWING ALERTSWATCH OUT FOR THAT TREE,UM, I MEAN TRENDAnd for something new, we’ve added

a different kind of alert on thinkorswim Charts—theability to add alerts based on a chart drawing (e.g.trendline, retracement, channels, etc.). Now you canbe notified whenever a security’s price has brokenthrough a trend that you’ve defined, without beingclairvoyant and picking a price. Cool.

The mechanics of setting up such an alert are

straightforward. Simply right-click on a created draw-ing and select “Create alert with drawing….” Thisopens up the alert-creation menu where you candefine how you’d like the alert to trigger. Since alldrawings are in effect simple lines, an alert can triggerwhen the price crosses above or crosses below thedefined line, or whichever comes first.

Beyond that, all the standard alert preferences canbe set from this menu, such as submission time, noti-fication method, or whether to track a reversecrossover. When these parameters are set to your sat-isfaction, click “Create” to set the alert. Creating adrawing alert will place a flag on the drawing to indi-cate that an alert has been set which can be double-clicked to either edit or cancel the alert.

Drawing alerts on all symbols may also be viewedin the “Alert Book” section of the “Marketwatch” tab,alongside any other alert types you may have set. Thissection shows you the name of the drawing and sym-bol for which the alert has been set, as well as thetimeframe of the chart for which the alert applies. Thislast bit is very important to keep in mind to avoid con-fusion: since lines of various types change slope whenapplied to different chart aggregations, remember thatan alert will trigger only when a crossover occurs onthe same aggregation on which the alert was set.

For example, it’s possible to see a crossover on a15-minute chart that does not appear on a 5-minutechart. So if the alert was created on a 5-minute chartthen the alert would not trigger. To remind you of this,the chart will only show a flag on charts of the sameaggregation, and the entry in the order book will spec-ify to which aggregation the alert is applied.

For more information on the risks ofinvesting and options, see page 43, #1&3.

Important Information

FIGURE 2: Trend Alert! Price alerts are as old as the sun. But this newbaby can alert you when your stock smacks through the bottom of a trend-line or breaks out above it. For illustrative purposes only.

2

3

SEE GLOSSARYPAGE 42

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WORDS BY THOMAS PRESTON PHOTOGRAPH BY FREDRIK BRODÉN

CHARTS? WHO NEEDS CHARTS?

PICKING MONTHS AND STRIKES ARE BIG DECISIONSFOR OPTIONS TRADERS. MOST WILL CHOOSE FORMOVER FUNCTION, THOUGH PRETTY CHARTS GOTNUTHIN’ ON THE MATH. SO IT STANDS TO REASONPROBABILITIES MATTER, RIGHT? WE THINK SO.

tm23_Charts_f3_rd4.qxd:pages.layout 2014-02-27 11:45 PM Page 27

We like pictures and colors. So, it’s understandablethat charts are pretty attractive to investors andtraders. What’s not to like? Bars and candlesticks.Trendlines and fibonacci. Momentum and movingaverages. You can load up a chart with so much infor-mation hopefully it will give you a general idea aboutthe direction of a given stock or index.

The reality is, to create a smarter strategy overall,it’s not just about the pictures. It’s about the math.While charts can be helpful, I’ve yet to have a chartmaster show me with absolute certainty the probabil-ity a stock or index will reach some dreamy targetprice. Nope, that’s math, my friend. And once youhave the math right, you can pick an optimal strategyon both trend as well as probabilities.

Like powerful charts, probabilities are convenientlycalculated on the thinkorswim® platform.

TRADING AND TEA LEAVESThe goal here isn’t to talk you out of your charts. Infact, it’s to help you turn a chart’s directional bias—bullish or bearish—into a strategy based on the proba-bility of making a profit. Quantifying the probability ofa profitable strategy, or even of a stock reaching a cer-tain price, helps you longer term make smarter deci-sions. And you do that by looking at the probability ofa stock’s option expiring in the money or touching itsstrike price. [However, “touching” probability, is not acertainty, the market can be inconsistent, and canmove quickly and drastically.]

The probability calculation uses the option’s strikeprice, the current stock price, time to expiration, aswell as the option’s implied volatility. Crucially, theimplied vol is derived from the option’s market price,so a single probability number contains the market’s“implied” estimate of how much the stock price mightmove.

In fact, no chart can tell you that. But why shouldyou rely on probability numbers? Because they con-tain current market information via the option pricesthemselves, making probability numbers moreresponsive to changes in volatility and time. Remem-ber, the more volatile the stock, or the more time toexpiration, the more likely a large price change. Mar-ket makers make out-of-the-money option prices moreexpensive to reflect this. All else equal, higher optionprices mean higher implied vol, which feed directlyinto the probability formula.

In this way, it’s not just your opinion of a stock’schart that should go into a strategy. It’s the market’scollective wisdom.

A PICTURE’S WORTH A THOUSANDTRADESVisualize this with the “Probability of Expiring Cone”on the Analyze tab, under the Probability Analysissubtab (see Figure 1). This feature points to futuredates, revealing the range encompassing one standarddeviation of potential stock prices. That’s geek-speakfor a 68% likelihood of price action staying within thatrange before expiration.

You can edit the “Probability of Expiring Cone”study to show a different probability range, say 68%,95%, and 99%. The prices where the cone intersectswith future expiration dates are the upper and lowerboundaries of the stock price’s theoretical range forthat probability number. The further out you look, thewider the stock’s potential price range.

NARROW YOUR CHOICESDespite formal textbook definitions, traders tend to seestrike prices differently. Strike prices above and belowa current stock price are like boundaries—levels thestock price may or may not reach in the future. Look-ing at the probability numbers on the Trade page atdifferent strike prices and for different expirations, youcan see what the market thinks of a probability that astock price will either stay inside, or move beyond, aparticular strike price. And knowing the probabilitycan help you develop a more confident strategy rela-tive to your directional bias. At the end of the day, it’seasier to make sense of options with a few handyguidelines, to wit:

1. Pick the expiration2. Pick the strike price3. Pick the strategy

Step One: Pick the expiration. On the Trade page,scan the days to expiration on the left-hand side foreach month. For opening trades, a trader may considerusing options that have between 30 and 60 days toexpiration, or whichever expiration is closer to 45

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28•Probabilities•tdameritrade.com

FIGURE 1: A One-Two Punch. Inserting a probability cone to the rightof your thinkorswim Chart helps you determine trend as well as whichstrategy to employ. For illustrative purposes only.

We’re visual creatures.

68%RangeDec

68%RangeJan

68%RangeFeb

tm23_Charts_f3_rd4.qxd:pages.layout 2014-02-27 11:45 PM Page 28

days, give or take a few days. The logic? For creditstrategies that partly rely on positive time decay, thenumber of days to expiration has a balance of a grow-ing rate of time decay, and a higher absolute level ofoption extrinsic value. Sure, you can place a creditstrategy in an expiration with six months out thatmight have a large credit. But the rate of time decay islower. And you can place a credit strategy in an expira-tion with only a couple of days left that has a high rateof time decay, but no premium. 45 days may be agood place to start.

For debit strategies that rely on a favorable move-ment in the stock look for a balance duration of 30-to-60-days to expiration. This might give the stock time tomove enough so the strategy might become profitable.

More time than 60 days gives you more duration, butyour trade might not change in price much when thestock price changes. Less time to expiration can giveyou a more responsive debit strategy, but there isn’t asmuch time for the stock price to make a favorable move.

Step Two: Pick the strike price After narrowingdown expirations, narrow down the strike prices. Youmay consider looking for out-of-the-money (OTM)calls and puts that have about a 68% probability ofexpiring worthless. That number is available on the

Trade page as the “Probability OTM” field in the Customize choice in the Layout menu (Figure 2).“About” 68% might be 64% on the low side and 72%on the high side, for example. A 68% probability OTMmeans theoretically the option will expire worthless68% of the time. This means, if you had shorted thatoption, theoretically 68% of the time you would keepthe option’s premium, less transaction costs, as profitby expiration. Of course, 32% of the time the short

option could lose money, soit’s not a trading strategy inand of itself and nothing isguaranteed.

Just looking at the“Probability of Expiring”numbers for strikes at levelsimportant to you from yourchart analysis, you can get a

sense of market sentiment regarding the likelihood astock might be above or below a price at expiration. Ifyou add the “Probability of Touching” column on theTrade page, that further shows market sentiment of thelikelihood a stock price trades at the strike price at anytime between a given moment and expiration.

Step Three: Choose a strategy. Finally, create a tradingstrategy the combines your directional bias from bothcharts and probability numbers on the trade page. Youcan do this by comparing other options to the option atthe strike that has about a 68% probability of expiringworthless and between 30-and-60 days to expiration.

If you have a bullish bias, maybe you’d look at ashort OTM put vertical, a bullish option strategy thatloses money when the stock drops a lot, but can makemoney if the stock goes up, stays the same, or evendrops by a small amount.

Let’s say you see a short one-point put verticalwhose short option is at that reference strike tradingfor a $0.40 credit. Look at the put vertical at the samestrike in a further expiration. Is the credit much higheror lower? What’s the probability of the short optionstrike expiring worthless in that further expiration?What’s your potential credit if you move the shortstrike to the strike with a 68% probability of expiringworthless in that month? This lets you compare thecredit you may get—higher or lower—for a bullishshort-put vertical strategy when you move away fromthat reference strike. You might choose a lower credit

for a higher probability ofexpiring, worthless, or a highercredit for a lower probability ofexpiring worthless. The pointis, you’re quantifying thepotential profit, max loss, andprobability of a trade that origi-nated from a chart so you canmake a more informed choice.

ConfirmingYour SuspicionsWithout the Math

FIGURE 2: Probability layout from the Trade page reveals both acall and put that are just “about” 68% likely to expire worthless. For illus-trative purposes only.

SEE GLOSSARYPAGE 42

For more informa-tion on the risks ofinvesting, options,and probabilityanalysis, see page43, #1-3.

Important Information

With open-interest confetticharts (Click path: Trade page>Product Depth >Open Int.),you can see where the greatestnumber of open contracts areclustered—where other tradersare placing their trades. Keep inmind, this has less to do withthe absolute math, and is amore discretionary method, butcan be a helpful indicator withyour charts and probabilitiesfrom a high-level view. Go tothe Product Depth section inthe thinkorswim Trade page,and choose "Open Int." in theValue drop-down.

FIGURE 3: Confetti Charts on thinkorswim. In the pictureabove, note the greatest concentration of open-call positions isaround the 185 strike. This could be helpful when decidingwhere to center the option strikes in your trade.

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• Sure. Lots of famous Joe’s out there—JoeNamath. Joe Pesci. And naturally, JoeCamel. But we think our Joe Tassone’s thecoolest of all. In TD Ameritrade’s ActiveTrader group, he’s the reason your tradeshit their electronic lay-ups just the waythey should.

Growing up on Chicago’s south side,Joe would watch family members trade on the floor of Chicago exchanges, whichled him to trade equity options at a propfirm early in his career. Now, he’s in hisTD Ameritrade groove on the trading plat-form, with his eye on the ball and sportinga skill for clutch shots.

So, Joe, what’s a typical day for you? I handle day-to-day operations and pro-duction issues, making sure the systemruns smoothly. I also handle most of thetechnical communications between thethinkorswim platform and TD Ameritrade.

Uhh…Can you translate that into English? I monitor the health of thinkorswim servers.I make sure we route all orders correctly,and market data and quotes are updating inreal time. I handle issues throughout the

day—things like incorrect margin, or prob-lems with routing lines. Maybe a customer’sorder was rejected in error. There’s alwayssomething. Some customers call us the fire-men because we put out the blazes and dealwith the crises, small and large. When anissue happens during the trading day,there’s no time margin. Deadlines are like“right now.”

Have you had any close calls?About a year and a half ago, a technologycertificate expired. No one could log intothinkorswim one Saturday afternoon. Ourdevelopers had to regenerate the certificate.We ended up resolving the problem 15 min-utes before the open on Sunday.

You must have been sweating.Oh yeah, but I had a tremendous sense ofrelief when we got it fixed. The end result

was no client impactand that’s whatwe’re looking for. Ido take it personallyif something goeswrong with the sys-tem. I feel responsi-ble. If somethingmisfires, it’s on meto fix it at once andkeep it from happen-ing again.

How do you sleep atnight? I’m on call 24/7. Inthe middle of thenight, if a futuresrouting line goesdown, I work withour developers, theexchanges, and tech-nology staff toaddress it. But, wehave a team atmos-phere. I can’t anddon’t do everythingmyself. I have to beable to trust the peo-

ple around me as well and rely on themwhen I need to.

With so much pressure, how do you blowoff steam? I play sports. But, I’m not a guy who likes tojust go to the gym. I play basketball, soft-ball, football. I don’t like to run unless I’vegot a ball in my hand.

What’s ahead for your group at TD Ameritrade? Keep the systems running, keep innovating,stay ahead of what the market has to offer.

Good thing you got big feet. Lots of respon-sibility. So, what size shoe do you wear?Size 15—yeah, it’s a pain. It makes shop-ping for shoes kinda hard.

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30•Associate Spotlight•A chat with a TD Ameritrade VIP who's making things happen

•

Interview by Kira Brecht

•Illustration byJoe Morse

•

While the Wall Street show goes on, Joe Tassonemakes sure nothing gets in the way of your next trade

Keeping the Lights On

spot

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Trade Architect®

helps put your

strategy into focus.

Explore Trade Architect at tdameritrade.com/tradearchitect

Keep the market where you want it—in sight. Keep up with the turns and trends in the market with Trade Architect®, an intuitive,

Web-based trading platform you can access anytime, from any computer. It puts the tools

and features you need front and center—making it easier for you to identify strategies,

monitor market action, and be ready to strike whenever potential opportunities arise.

Market volatility, volume, and system availability may delay account access and trade executions.

Access to real-time market data is conditioned on acceptance of the exchange agreements. Professional access differs and subscription fees may apply.

Past performance does not guarantee future results.

TD Ameritrade does not make recommendations or determine the suitability of any security, strategy, or course of action for you through the use of TD Ameritrade trading tools. Any investment decision you make in your self-directed account is solely your responsibility. Please consult other sources of information and consider your individual fi nancial position and goals before making an independent investment decision.

TD Ameritrade, Inc., member FINRA/SIPC/NFA. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank.

© 2013 TD Ameritrade IP Company, Inc. All rights reserved. Used with permission.

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LET’S FACE IT. IF YOU’VE BEEN USING THINKORSWIM FOR A SPELL, YOU PROBABLY KNOW WHAT A KICK*$$ TOOL IT IS. AND AT SOME POINT, YOU MAY TEST ITS LIMITS. HERE’S A

FEW IDEAS TO CONSIDER TO GET YOUR JUICES FLOWING ON JUST HOW FAR YOU CAN GO TO GET YOURBURNING QUESTIONS ANSWERED ABOUT WHAT MIGHT HAPPEN TO YOUR POSITIONS IFWORDS BY THOMAS PRESTON PHOTOGRAPH BY FREDRIK BRODÉN

SPCLFOCUS

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•tdameritrade.com

Yet, once you understandhow the various tools work,you’ll see how a small invest-ment of time can make you amuch smarter trader and helpyou navigate even the mostdaunting of market jungles.

Now, most Hollywood jungleadventures involve pith helmets,khakis, and a sketchy, inscrutable“guide.” Feel free to dress anyway you want. But as I’m the guywho actually built the Analyze tab, you can trust I’llsteer you away from the crocodiles and toward thegems and jewels. In my opinion, think of the Analyzetab as a way to answer trade riddles—whether they’reeasy or complex. To start with, you might ask three not-so-common questions which the Analyze tab can helpyou answer. But first, let’s get a lay of the land and hackthrough some of the underbrush.

SPEARS UPThe Analyze tab has four pages, or subtabs:

1. Add Simulated Trades2. Risk Profile3. Probability Analysis4. thinkBack

Starting last, thinkBack lets you see end-of-dayoption prices going back 10 years, and lets you simulatetrades based on that data. But we’ll save thinkBack foranother discussion. The Add Simulated Trades, RiskProfile, and Probability Analysis tabs are divided intothree sections. On the top you’ll find the main visualdisplay of the specific functionality of the tab, like theoption quotes and order entry of the Add SimulatedTrades, or the profit/loss graph on the Risk Profile.Below that, in the middle of the page, is the Price Slicessection, common to all three subtabs. At the bottom,you’ll see the Positions and Simulated Trades section,also on all three subtabs. I’ll be referring to those sec-tions by name so you can find thecontrols you need.

Also, to prime the pump youmay need to enter a few simulatedtrades so you can see data on theAnalyze tab. To do that, click onthe Add Simulated Trades page atthe top and enter a symbol in thesymbol field (see Figure 1).

On the Add Simulated Trades page, you create simu-lated trades the same way you create real trades on theTrade tab. Left click on the bid or ask to create a simu-lated buy or sell, or right click to create a simulatedspread. Now, let’s see how the Analyze page can tacklesome questions. Even though these may not be yourexact trading questions, you’ll glean enough Analyzetab functionality to answer your own.

1—HOW TO GAUGE THE IMPACT OF FUTURE VOLATILITYQuestion: I trade earnings where the front month vol ismuch higher than the back month vol. How do I gaugethe impact on my position of a larger drop in the frontmonth vol, and a smaller drop in the back month volafter the earnings are announced?Answer: You might be familiar with the TheoreticalPrice tool on the Trade tab that lets you change the stockprice, date and volatility. But when you raise or lower the“Vol Adjust,” it pushes the vol of all the options in allexpirations up and down equally. That’s not so handywhen it comes to earnings.

You want to adjust volatility differently on one expira-tion from another because changes in the intermonthvolatility skew—where the implied vol in one expira-tion is very different from the implied vol in another—can significantly impact your positions across multipleexpirations. The Analyze page lets you test changes inthat intermonth skew (see Figure 2).

THE ANALYZE TAB. This mysterious fountain of mathematical formulas burbles forthsecret trading strategies and is said to be the deepest, darkest part ofthinkorswim®. According to lore, volatilities have entered here and werenever seen again. Some even say the platform was built in revenge whena trade went bad and hearts were broken. I can assure you, most of therumors are false. But the Analyze tab is one of the most feature-packedand powerful tools you’ll find on any trading platform—professional orretail—and can be intimidating to the uninitiated.

FIGURE 1: Analyze Tab Where you go to get your answers to your "What if?" questions on thinkorswim.For illustrative purposes only.

FIGURE 2: Testing Volatility Skew By adjusting theoretical volatility, you can see your positionlegs and the position greeks (like delta) change.For illustrative purposes only.

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THINK OF THE ANALYZETAB AS A WAY TOANSWER TRADE RIDDLES. YOU MIGHTASK NOT-SO-COMMONQUESTIONS WHICH THE ANALYZE TAB CANHELP YOU ANSWER.

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1— Look in the Positions and Simulated Trades sectionfor a small wrench icon on the far-right-hand side.

2—Click on the wrench icon and look for “More” in themiddle of the section.

3—Click on “More” to open up the controls for the indi-vidual expirations.

Vol Adjust fields open for each expiration in whichyou have an actual or simulated position. You canadjust the vol lower in one month and higher in anothermonth, or vice versa. The Vol Adjust raises or lowers allthe implied vols of the options in that expiration by thenumber of points in the adjustment. For example, a +5vol adjustment would move the implied vol of anoption from 11% to 16%. When you do this, theadjusted vols are used to calculate the theoretical valuesand greeks, as well as the theoretical profit/loss of theposition (step 4 in Figure 2 page 35).

2—HOW TO ANALYZE TOMORROW'S GREEKS TODAYQuestion: I can see the greeks of my positions on theMonitor page, and they show me the greeks at the cur-rent stock price and days to expiration. But I’d like toknow what the greeks might be with only a day beforeexpiration. How do I do that?Answer: Lucky for you, the Analyze page’s native lan-guage is greek! (Just don’t get it started on how “vega”isn’t a Greek letter.) And there are a couple ways to dothis—with numbers or pictures.

The Numbers—Price Slices1— Referring to Figure 1, type the underlying’s symbolof one of your positions in the symbol field in the upper-left-hand corner of the Add Simulations page. This willload the position in the Analyze page.

2— Referring to Figure 3, under the Price Slices section,you’ll see the greeks of your position based on the cur-rent stock price, volatility, and date. You might also seeother stock prices—or “slices”—plus and minus 10%from the current price. And for each of those slices,you’ll see the greeks of your positions calculated forboth the higher and lower stock prices.

3— Next, look in the right-hand corner of the Positionand Simulated Trades section for the Date field. That’sthe date the models on the Analyze page use to deter-mine the number of days until the options’ expiration.The expiration dates are fixed in the future, so bychanging that date on the Analyze page you can simu-late a different number of days to expiration. By default,

it’s set to the current day. However, you can adjust toany date in the future you want. You’ll see the greeks inthe Price Slices section, as well as the profit/loss graphon the Risk Profile change to reflect the new date.

You can also see what the greeks would be at a dif-ferent stock price by adjusting the prices in the PriceSlices section.

You can either click on the price and type directlyover it, use the up/down arrows, or click on the drop-down arrow of the “Offset” and select a different value.You can also click the Add Slice or Set Slices buttons andhave the price slices set to a percentage higher or lower,or a number of standard deviations higher or lower.

The Pictures—Risk Profile Now, if the numbers confuse you and you prefer prettypictures instead, switch from the Add SimulatedTrades page to the Risk Profile page. By default, theRisk Profile shows you the profit/loss graph of yourposition. But instead, you can display the individualgreeks (see Figure 4).

Click on where it says “P/L OPEN” at the top of theRisk Profile, and select one of the greeks from the drop-down menu. That shows the values of that greek foryour position across a range of stock prices.

Change the date in the right-hand side of the Posi-tions and Simulated Trades section, and it will changethe date used to calculate the greeks on the Risk Profile,in addition to the ones in the Price Slice section.

3—HOW TO ANALYZE YOUR POSITION AFTER EXPIRATIONQuestion: I have options that are approaching expira-tion and are currently close to being in the money. I alsohave positions in further expirations. How can I seewhat my position will look like after expiration if thenear-term options are in the money (or not)?Answer: When stock-settled options are in the money

at expiration, they deliver long or shortstock, depending on the position. Longcalls and short puts deliver long stock.Short calls and long puts deliver shortstock. But if the current stock price is ata point where it’s hard to tell if theoptions will be in the money at expira-tion, you don’t know what the position’s

FIGURE 3: Greeks byNumbers. In the Analyzetab, by adjusting the date forward you can analyzeyour trade’s current andtheoretical greeks (underPrice Slices), as well as cur-rent and theoretical futureP/L (under Positions andSimulated Trades). Forillustrative purposes only.

SEE GLOSSARYPAGE 42

FIGURE 4: Greeks by Pictures. If the numbers confuse you, try at achart of a greek and advance the date forward. For illustrative purposes only.

Choose your greek

Change datefor futureimpact on

greeks

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Q: When should Iswitch the Proba-bility Mode on theRisk Profile to Prob-ability of Touching?A: The probabilityof touching is thetheoretical likeli-hood that the stockwill reach a certainprice at any timebetween the presentand expiration. Youmay want to use theprobability of touch-ing mode on theRisk Profile if youhave positions likeshort naked puts orshort strangleswhere you mightwant to know theprobability of thestock price reachingeither the shortstrike or some losspoint.

Q: I want to experi-ment with somesimulated trades,but I have someactual positions inthose stocks. Howcan I see just thesimulated trades?

A: In the Positionsand SimulatedTrades section, clickon the “Show All”drop down menuand select either“Hide Positions” or“Hide Simulations.”

Q: How can I makemore of the p/lgraph on the RiskProfile visible onthe screen?

A: If you hold yourcursor on the hori-zontal price axis onthe Risk Profile page,you can drag it to theleft to show a largerrange of stock prices,or drag it to the rightto zoom into a nar-rower range. Also, ifyou hold your cursorin the main field ofthe Risk Profile, youcan drag to the leftand right to panacross the p/l graph.

Q: When I pan thep/l graph, the verti-cal axis with theprofit-and-lossnumbers some-times changesscale. How can I setit to a fixed range?

A: Look for a littlesquare icon with asquiggly line in theupper-left-hand cor-ner of the Risk Pro-file. Click that to seethe choice “Float YScale” (which is thedefault), and “FixedY Scale.” The float-ing y scale meansthe range of profit-and-loss numberswill adjust to coverthe highest and low-est values currentlyvisible on the RiskProfile graph. Thefixed y scale sets thecurrent p/l incre-ments and shifts thevertical axis up anddown to cover therange of p/l on thegraph. When youhave fixed y scaleselected, you canhold the cursor onthe Risk Profile fieldand drag it up anddown.

Q: What does the“Interest” numberin the Positions andSimulated Tradessection represent?

A: That’s the inter-est rate used in themodels for theoreti-cal option prices, thegreeks, and probabil-ities on the Analyzepage. That’s basi-cally the short-term,risk-free rate.

Q+A

delta, for example, will be after expiration. Maybe you’llhave stock, maybe you won’t. And the deltas from thestock can have a big impact on the risk of your position.Have no fear: the Analyze page has you covered.

1— See Figure 5. Click the wrench icon on the right-hand side of the Positions and Simulated Trades section.

2— Click the arrow to the left of “More” in the middle.That displays the options’ expiration dates in yourposition.

3— Look for the Exercise Price for each expiration,which is the current stock price by default. The Exer-cise Price is the stock price the Analyze page uses todetermine whether to evaluate your expiring options asstock (in the money) or nothing (out of the money) atexpiration. You can set a different Exercise Price foreach expiration in your position, creating the stockprice’s simulated “path.”

4— If you advance the date on the right-hand side ofthe Positions and Simulated Trades section to a day pastthe expiration date of any of your options, you can seethe impact of the Exercise Price.

Figure 5 shows a shot taken on 1/27/14 of the“future” P/L of Feb (near-term) and Mar put verticalspreads where the stock finished in the money the firsttrading day after expiration of the Feb options(2/24/14). With the stock in the money at $780. TheP/L reflects a loss of $3,000 on the remaining position.

WELL, WE MADE IT THROUGH WITHOUT A SCRATCH.And even though we didn’t explore every corner of theAnalyze page, you know enough to click on a few but-tons yourself and feel certain you won’t be dinner for aband of tigers.

FIGURE 5: Time-Travelling P/L. You can look at a theoretical P/L ofmultiple positions at once based on the stock price at expiration of thenear term options, such as the Feb/Mar vertical spreads pictured here.This shot was taken on 1/27/14 with the Date box changed to 2/24/14.For illustrative purposes only.

ANLYZ

For more information on the risks of investing andoptions, see page 43, #1-2.

Important Information

Adjust ExercisePrice to in the

money

Adjust to future date

afterexpiration

P/L of remainingMarch position

after Feb positionexpires in the

money

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Why do Treasury bond futures haveweird tick sizes? I can understand a $1tick value, or $10, or $25, or some easy toadd-and-subtract number like that. But$31.25? One tick in a 30-year Treasury bond future(symbol: /ZB on the thinkorswim® plat-form) has a $31.25 dollar value. $31.25comes from the days when everything—futures and stocks—traded in fractions ofpoints. Stocks used to trade in 1/16 incre-ments, which is a relic of the old Spanish“pieces of eight.” Bond prices traded infiner increments. Half of 1/16 is 1/32. 32ticks still represent a full point in bondfutures, even though stock prices havemoved to full decimalization, because theface value of Treasury bonds is $1,000,$1,000 divided by 32 = $31.25.

I know I can buy stocks on margin andput up 50% of the shares’ value. I can dothe math on that. But how do they comeup with the margin requirements forfutures?A futures margin (the amount of money youhave to put up to control a futures contract)is considered a performance bond againstpotential losses. Larger, more volatilefutures contracts have higher marginrequirements because of larger potentiallosses. For example, /ZB Treasury bondfutures have an initial margin of about$2,700. /ES E-mini S&P 500 futures have aninitial margin of about $4,500. The initialmargins are related to the contract size andestimated volatility of the future, and aredetermined by a +/- price change. Thefutures exchanges determine a one-daylikely maximum price change, and multiplythat by the size of the futures contract to getthe margin requirement. Individual bro-

ker/dealers can have higher margin require-ments than the exchange minimums.

What’s the contract size of a future?A futures-contract size is the amount of theproduct that the future represents. It’salmost always a fixed number, and tries tobe a useful and practical amount forhedgers and speculators in that product. Forexample, an oil future represents 1,000 bar-rels of oil. One corn future represents 5,000bushels of corn. The E-mini S&P future rep-resents $50 times the price of the S&P 500.

In my account I trade stocks and stockoptions, but I can’t trade futures. I can seethe futures quotes on the thinkorswim®platform, but why can’t I enter an order?Brokerage accounts are regulated by spe-cific government agencies and industrygroups. The SEC and FINRA regulate trad-ing in stocks, stock options, ETFs, andmutual funds. All those things are associ-ated with stocks (i.e. equities). Futuresand futures options are different. They’reregulated by the Commodity Futures Trad-ing Commission, or CFTC. The goal of the

CFTC is very similar to that of the SEC andFINRA, and basically encourages the effi-ciency of the futures markets, ensurestheir financial integrity, and protects par-ticipants against fraud, price manipula-tion, and abusive practices.

So, futures and futures options aretraded and held in futures accounts sepa-rate from stocks and stock options. Youcan in fact trade futures and futuresoptions at TD Ameritrade. (See the optionchain in the bottom of Figure 1 above.)You just need to open up a futures account(subject to TD Ameritrade approval). Itonly takes a few minutes to apply, andthere are no additional costs or fees toopen a futures account. Once the accounthas been approved and funded, you canbegin trading. But here’s the cool thing—the powerful technology behind thethinkorswim platform makes your futuresaccount visible using the same log in asyour TD Ameritrade equity account. Alltold, you can see your stock, stock option,futures, and futures-options positions inone place, and route orders from the sameplatform.

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38•Futures 4 Fun•Futures nuggets with thinkorswim

•Words bythinkMoney editors

•

If you recently started trading futures, you mayhave some burning questions. Well, burn no more.

Futures-isms forthe Newbieftr.

Futures and futures options trading is speculative, and is not suitable for all investors.Please read the Risk Disclosure for Futures and Options http://bit.ly/tdariskdisclosurefuturesops prior to trading futures products. Margin, options and futures trading privilegessubject to TD Ameritrade review and approval. Not all clients will qualify. Futures accountsare not protected by the Securities Investor Protection Corporation (SIPC).

Important Information

FIGURE 1: Familiar Face Futures trading is nearly identical on thinkorswim as itsoption and stock-trading counterparts. But learning the nuances of futures is crucial.For illustrative purposes only.

Don’t Have a FuturesAccount? For qualified accounts, you’llneed Level 3 optionsapproval to trade Futures.Log in to your account attdameritrade.com andunder the Trade tab, go toFutures & Forex for moreinformation.

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• J.P. Morgan was once asked what thestock market will do and he famouslyreplied: “It will fluctuate.” Let’s face it, themarket is hardly predictable. But here’s onething we can bank on: once every quarter,publically traded U.S. companies by lawmust report their financial status, morecommonly known as earnings announce-ments. And these releases produce someinteresting situations in options.

FIRST, THE CONUNDRUMLike any other commodity, options areinfluenced by supply and demand. Andearnings announcements are one of thoseevents that can create demand for options,meaning some investors are more likely tobuy rather than sell them. Here’s why: first,stocks can make big moves on the back ofheadlines, so some investors buy options(calls, puts, or a combination of bothdepending on the forecast) to make a lever-aged bet. Second, when investors own astock that’s about to report earnings, theymay want to buy a put option to protecttheir position in case the stock tanks (buy-ing a put locks in the right to sell the stockat a set price for a set period of time).

This excess demand can drive up prices,so option buyers have to be mindful of cost.

Another factor that affects option prices istime to expiration. The further out you gothe more an option costs, so around earn-ings, many traders tend to go with theshortest time frame they can. As recently asa few years ago, traders were limited tooptions that expired on a monthly basis.What if the nearest-term expiration was 40days away but earnings were in a few days?You’d be forced to pay for a whole bunch oftime you didn’t need.

ENTER WEEKLYSLuckily, the options market has adapted tothis dilemma by creating weekly options.For certain stocks, options are listed withtheir expirations each week, for five weeksout, in addition to regular monthly expira-tion cycles. Weeklys give option buyers theflexibility to better control the outlay for agiven strategy.

Using a recent example (Figure 1), a cer-tain new entrant in the auto sector reportedearnings after the market closed. Looking atthe option chain of XYZ in Figure 1, sup-pose an investor owned 100 shares but wasworried about a disappointing report. Buy-ing a $175 strike put would give them theright to sell the stock at $175, no matterhow low it went. Notice the cost differ-ences: $9.20 for the Weeklys expiring thatweek (plus commissions and fees), $10.45for the monthly November expiration (or15% higher), and $15.00 for the Decemberexpiration.

Since the protective put was onlyneeded for a short time (to get through theearnings news), the weekly option offered acheaper alternative to the regular monthlyoptions. Incidentally this protective putwould have come in handy because the

report was disappointing, and stock pricesdropped from $176.81 to $151.16 (and actu-ally fell near $120 a few weeks later). On theflip side, if the report were stellar, and thestock took off, and the put expired worth-less, you’d lose all of your investment.

Or suppose you were bullish and pur-chased the $185 call option. Again, doingthe price comparison shows $6.50 for theWeeklys, $7.70 for November expiration,and $12.20 for December. Every extra dollarpaid moves the trade’s breakeven pointhigher, meaning the stock has to go up evenmore to compensate. Now, bear in mind,because they’re short-lived, you need towatch Weeklys closely. Volatility can be sig-nificant. And if the stock move is less thanthe effect of volatility, your profit could suf-fer a “volatility crush,” thereby turning yourgains into losses..

Buying options around earningsannouncements can be a tricky game butweekly options can help give traders theability to buy only the time they need. Now,can we get a better answer to that age-oldquestion that J.P. Morgan so eloquentlydodged?

thinkMoney/23

•

40•Coach’s Corner•Pearls from your favoritetrading instructors.

•Words byMichael Turvey, CFP®, CMTInvestools Coach

crn.

TradingMoments,Not Time•

With every earningsannouncement, there’s aweekly option to consider

FIGURE 1: Weekly option chain versus “short-term” alternatives on the thinkorswim platform. For illustrativepurposes only.

For more information on the risks of thestrategies discussed in this article, see page43, #1 & 3.

Investools, Inc. and TD Ameritrade, Inc.,are separate but affiliated companies andare not responsible for each other’s services,policies or commentary. Investools® does notprovide financial advice and is not in thebusiness of transacting trades. For moreinformation, see page 9, #2.

For more information on transactioncosts, see page 9, #3.

Important Information

tm23_CoachesCorner_rd4.qxd:pages.layout 2014-03-03 2:06 PM Page 40

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tm23_CoachesCorner_rd4.qxd:pages.layout 2014-02-27 10:47 PM Page 41

thinkMoney/23

•

42•The Token Glossary•Terms you might stumble across in this issue.•tdameritrade.com

IN THEMONEY• An option whosepremium contains“real” value, i.e. notjust time value. Forcalls, it’s any strikelower than the priceof the underlyingequity. For puts, it’sany strike that’shigher.

OUT OF THEMONEY• An option whosepremium is not onlyall “time” value, butthe strike is awayfrom the underlyingequity. For calls, it’sany strike higherthan the underlying.For puts, it’s anystrike that’s lower.

Greeks• THEORETICAL VALUES THAT HELPMEASURE THE FUTURE VALUE OFAN OPTION AFTER SOMETHING HAP-PENS, SUCH AS TIME PASSING,VOLATILITY FLUCTUATING, ORDIRECTION CHANGING. THEY TAKEUNCERTAIN VARIABLES ANDATTEMPT TO QUANTIFY THEIRIMPACT, THEREBY ALLOWING YOU TO“STRESS-TEST” YOUR OWN OPTIONSTRATEGY. THE FOUR MOST COM-MON GREEKS ARE DELTA, GAMMA,VEGA, AND THETA.

DELTA• A measure of an option’s sensitivity toa $1 change in the underlying asset.

Gamma• A measure of what an option’s delta isexpected to change per $1 move in theunderlying.

VEGA• A measure of an option’s sensitivity toa 1% change in implied volatility.

Theta• A measure of an option’s sensitivity totime passing one calendar day.

found on page:

36

Implied volatility • The market’s perception of the future volatility

of the underlying security, directly reflected in anoption’s premium. Implied volatility, is an annu-

alized number expressed in percent (such as25%), is forward-looking, and can change.

28

12, 28 & 37

found on page:

21, 28 & 36

Open Interest• THE TOTAL NUMBER OF UNCLOSED OPTIONSOR FUTURES CONTRACTS THAT DAY.

Short Put Vertical• A defined-risk, bull-ish spread strategy,composed of an equalnumber of short(sold) and long(bought) puts inwhich the credit fromthe short strike isgreater than the debitof the long strike,resulting in a netcredit taken into thetrader’s account atthe onset The risk inthis strategy is typi-cally limited to thedifference betweenthe strikes less thereceived credit. Thetrade is profitablewhen it can be closedat a debit for lessthan the creditreceived. Breakeven issubtracting the creditreceived from thehigher (short) putstrike.

Spread • An option positionor order that containstwo or more option“legs,” which typicallyincludes at least oneshort and one longposition.

Vertical Spread• A defined-risk, direc-tional spread strategy,composed of a longand a short option ofthe same type (i.e.calls or puts). Longverticals are purchasedfor a debit, while shortverticals are sold for acredit at the onset ofthe trade. Long calland short put verticalsare bullish, whereaslong put and short callverticals are bearish.The risk of a long verti-cal is typically limitedto the debit of thetrade, while the risk inthe short vertical is typ-ically limited to the dif-ference between theshort and long strikes,less the credit. credit from the call.

found on page:

21, 23 & 25

found on page:

37

found on page:

28

found on page:

23

found on page:

found on page:

23, 25 & 26

25found on page:

found on page:

gls

tm23_Glossary&Disclaimer_rd4.qxd:pages.layout 2014-02-27 7:53 AM Page 42

2/ OPTIONS STRATEGIESTrading options involves unique risksand is not suitable for all investors.Mini-options do not reduce the pershare cost or price of options.

The long put strategy provides onlytemporary protection from a decline inthe price of the corresponding stock.Should the long put position expireworthless, the entire cost of the putposition would be lost.

A long call option position placesthe entire cost of the option position atrisk. Should an individual long callposition expire worthless, the entirecost of the position would be lost.

Spreads, condors, butterflies, strad-dles, and other complex, multiple-legoption strategies can entail substantialtransaction costs, including multiplecommissions, which may impact anypotential return. These are advancedoption strategies and often involve

greater risk, and more complex risk,than basic options trades. Be awarethat assignment on short option strate-gies discussed in this article could leadto unwanted long or short positions onthe underlying security.

The naked put strategy includes ahigh risk of purchasing the correspon-ding stock at the strike price when themarket price of the stock will likely belower. Naked option strategies involvethe highest amount of risk and are onlyappropriate for traders with the highestrisk tolerance.

Naked option strategies involve thehighest amount of risk and are onlyappropriate for traders with the highestrisk tolerance.

The risk of loss on an uncoveredcall option position is potentially unlim-ited since there is no limit to the priceincrease of the underlying security.

Option writing as an investmentstrategy is absolutely inappropriate foranyone who does not fully understandthe nature and extent of the risksinvolved.

A covered call strategy can limit theupside potential of the underlying

stock position, as the stock wouldlikely be called away in the event ofsubstantial stock price increase. Addi-tionally, any downside protection pro-vided to the related stock position islimited to the premium received. (Shortoptions can be assigned at any time upto expiration regardless of the in-the-money amount.)

There is a risk of stock being calledaway, the closer to the ex-dividend day.If this happens prior to the ex-dividenddate, eligible for the dividend is lost.Income generated is at risk should theposition moves against the investor, ifthe investor later buys the call back at ahigher price. The investor can also losethe stock position if assigned.

The maximum risk of a covered callposition is the cost of the stock, less thepremium received for the call, plus alltransaction costs.

Rolling strategies can entail sub-stantial transaction costs, includingmultiple commissions, which mayimpact any potential return. You areresponsible for all orders entered inyour self-directed account.

Supporting documentation for anyclaims, comparisons, statistics, or othertechnical data will be supplied uponrequest.

3/ FUTURESProbability analysis results are theoreti-cal in nature, not guaranteed, and donot reflect any degree of certainty of anevent occurring. The probability pro-jections in the Analyze page assumethe underlying stocks follow a lognor-mal distribution. The results arederived using the Black-Scholes for-mula for delta, consisting of the currentstock price, number of days in thefuture, current volatility of the stock,and the risk-free rate of return.

1/ GENERAL DISCLAIMERThe information contained in this article is notintended to be investment advice and is for illustrativepurposes only. Be sure to understand all risks involvedwith each strategy, including commission costs, beforeattempting to place any trade. Clients must consider allrelevant risk factors, including their own personalfinancial situations, before trading. Past performanceof a security or strategy does not guarantee futureresults or success. Transaction costs (commissions andother fees) are important factors and should be consid-ered when evaluating any options trade. Optionsinvolve risk and are not suitable for all investors. Sup-porting documentation for any claims, comparisons,statistics, or other technical data will be supplied uponrequest. It is not possible to invest directly in an index.

important

info

thinkMoney/23

•

43 •ArticleDisclaimers•Important info that youneed to know.•tdameritrade.com

•random musings for traders at TD AmeritradeSpring 2014

thinkMoney/23

10/HOW TO LOSE YOUR PANTS WITH ETFs

18/A ROOKIE’S GUIDETO SHORTING

OPTIONS

26/THE “PROBABLY”METHOD TO

PICKING TRADES

TRADE ANALYSIS FOCUS

32/WHAT WOULDHAPPEN TO MY

TRADE IF...?

TD Ameritra

de earns #

1

online broke

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by

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(See page 9 fo

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tm23_Glossary&Disclaimer_rd4.qxd:pages.layout 2014-02-28 10:17 AM Page 43

Choose your app attdameritrade.com/mobileapp.

* TD Ameritrade and tastytrade, Inc. are separate, unaffiliated companies. TD Ameritrade is not responsible for any third-party content or opinions presented.

iPad® is a registered trademark of Apple, Inc.

The paperMoney software application is for educational purposes only. Successful virtual trading during a one-time period does not guarantee successful investing of actual funds during a later time period —market conditions change constantly.

Market volatility, volume, and system availability may delay account access and trade executions.

The risk of loss in trading securities, options, futures, and forex can be substantial. Clients must consider all relevant risk factors, including their own personal financial situation, before trading. Option, futures, and/or forex trading privileges subject to TD Ameritrade review and approval. Not all account owners will qualify. Futures and forex accounts are not protected by the Securities Investor Protection Corporation (SIPC).

TD Ameritrade, Inc., member FINRA/SIPC/NFA. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. © 2013 TD Ameritrade IP Company, Inc. All rights reserved. Used with permission.

TDA 2012 SS 03/13

Swipe, drag, and tap your way through the market.Our mobile trading apps are optimized for the iPad®.TD Ameritrade MobileThis easy-to-use app is packed with trading essentials and innovative functionality. Place trades, discover potential investments with Snapstock™, and access enhanced third-party research.

TD Ameritrade Mobile TraderAct on your most sophisticated trading strategies with this technologically advanced app. Trade equities, multi-leg options, futures, and forex; view live, streaming international CNBC feeds and premium video content from tastytrade®;* and test-drive theories with paperMoney®.

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PRSRT STDUS PostagePaidTD Ameritrade

The risk of loss in trading securities, options, futures, and forex can be substantial. Clients must consider all relevant risk factors, including their own personal financial situations, before trading. Options involverisk and are not suitable for all investors. See the Options DisclosureDocument: Characteristics and Risks of Standardized Options. A copyaccompanies this magazine if you have not previously received one.Additional copies can be obtained at tdameritrade.com or by contactingus. Trading foreign exchange on margin carries a high level of risk, as well as its own unique risk factors. Please read the followingrisk disclosure before considering trading this product: Forex Risk Disclosure (www.nfa.futures.org/NFA-investor-information/publication-library/forex.pdf). A forex dealer can be compensated via commission and/or spread on forex trades. TD Ameritrade, Inc.,member FINRA/SIPC/NFA.TD Ameritrade is a trademark jointly ownedby TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank.© 2014 TD Ameritrade IP Company, Inc. All rights reserved. Used with permission.

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