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Managing Large Portfolios II

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PostPosted: Sun May 29, 2005 6:43 pm    Post subject: Managing Large Portfolios II Reply with quote

Sometimes, the market behaves in a way that makes it very tough to trade. Over the past two weeks, it has been the worst possible trading market, particularly for options. However, it has been an excellent buy & hold market, rather than a trading market, and with the use of trailing stops, the return to risk ratio is high, or at least risk is low. Normally, it's not a good idea to use stops with options, because options move by greater percentages than stocks. Consequently, it's better to "bail-out" of options, i.e. take partial losses, when there's enough volatility.

The overbought market continued to rally, with hardly any volatility to trade, and with only one small pullback day so far (where I sold many puts, bought some calls, and built-up cash). However, generally, it was difficult to bail-out of puts and buy calls. Also, the market forced me to buy more puts, using up cash, which I would sell on a market pullback to lower total losses. However, the pullbacks were too limited to sell many puts. Consequently, my cash position is almost depleted, and I'm holding even heavier positions in puts. Moreover, the market finished the week near a high, just before a three-day weekend, which means my next month puts will lose more time value.

My portfolio doubled in a six month winning streak to a high of $1.95 million. Over that time, the market was predictable, volatility was good, and the large majority of my top stock picks turned out to be winners. It was an easy trading market, too easy, and I was wary it would end, which it typically does. However, I never expected it would end the way it did. Over the past two weeks, my $1.95 million option portfolio fell to $1.36 million, and there's currently a great deal of risk in the portfolio, where I'll either make or lose large amounts next week (which I'll update in the next article). I'm still betting that the overextended market will pullback and that volatility will pick-up.

A few years ago, I explained to a well-respected top money manager and economist what a tough trading market it has been over a low volatile downtrend, where the bounces were small and the dips were big. I asked him if the market would soon become more volatile and bounce higher. He said "It has to." He was right. The market soon turned more volatile and then rallied sharply. I believe, the recent low volatile and overextended rally will soon turn into a more volatile trading range and then a steep sell-off.
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