Geldpress

Stop gambling, Make Money!

There appears to be some common personality traits between gamblers, poker players and the stock, options, and day trader types, so the Geldpress team decided to do some coverage on poker to mix things up a bit.

The interesting thing about poker is that every player I have ever met and talked to claims to hate the game. Yet despite their hatred toward the game, they can still spend countless hours playing. Why do they hate the game? There are a myriad of reasons including suck outs, bad beats, river cards, other bad players, bad dealers, cracked aces, impatience, and many more. But even if those horrible cards and dealers don’t get you, and you manage to come out ahead, the IRS will certainly come knocking at your door to take what little you have left!

Let’s say you are fortunate enough to win a moderately sized poker tournament in the amount of $5,000. With the new IRS poker tournament rules, the house is required to issue a 1099-Misc to any tournament player who is paid out more then $600. Before you start thinking that the 1099 doesn’t matter, and that you can easily write off the win, consider this:

• You can only write off poker or other gambling losses up to your total winnings, and not a penny more.
• You can not carry over your losses from year to year.
• You must itemize your deductions to qualify for the write off. For those apartment dwellers who were smart enough to avoid the housing bubble, you will likely not be itemizing, which means you will pay taxes on the full amount of any reported winnings, regardless of any losses you incur!
• You can not easily hide behind the shroud of “Professional gambler status” with the IRS. To do so, you must prove to obtain the majority of your income from gambling, and you also can never show a loss in your business. It is the only business the IRS places such a restriction on.
• Poker dealers expect tips, and the rule of thumb is 5-10% of wins from poker tournaments or bad beat jackpots. Your 1099 will show the FULL AMOUNT of the payout, regardless of how much you tip the dealer! The 1099 will also NOT subtract out any entry fees. How is that for double taxation!

Compare those rules to the IRS rules for the stock market:

• The stock market is a long term positive sum game, so you are expected to WIN!
• All stock transactions can and must be recorded to the IRS – WINS and LOSSES. You only pay tax on the net sum of the two, compared to gamblers
• If you do incur losses, 100% of them are deductible, and can be carried over from year to year if you max out the IRS limit for yearly losses.
• You DO NOT have to itemize to claim investment losses. They are recorded on the 1040 schedule D, and is utilized regardless of whether you itemize the rest of your taxes.
• The tax rates that apply to net capital gain are generally lower than the tax rates that apply to other income and are called the maximum capital gains rates. For 2007, the maximum capital gains rates are 5%, 15%, 25% or 28%.
• Dividends from investments are taxed at only 15%, but is of course subject to change based on IRS rules.
• It is much easier to convince the IRS of your professional trader status then it is for professional gambler status. Professional traders can deduct all legitimate expenses used for their trading business – computers, phone lines, investment newsletters and adviser fees, travel expenses (Investment expositions), etc. Note: Still a few hurdles to IRS trader status, but certainly less so then professional gambler status. IRS Publication 550 has the detailed special rules for traders in securities, starting on page 72.

And if that is not enough to convince you to STOP GAMBLING, and MAKE MONEY, consider the fact that there are plenty of hands off investment styles such as mutual funds and ETF index funds. For those wanting to try and out smart the morons of wall street (does “BUY BUY BUY” ring a bell?), I’d recommend a lot of homework (Ugh, I sound like Cramer!!) as you progress down your path to investment wealth. And for the poker players in the audience, the good news is that good poker players will easily pick up the skills to do well in the options market. But you will need to learn how options work first. So go check out the Geldpress bookstore and BUY BUY BUY!

Get Rich With Options: Four Winning Strategies Straight from the Exchange Floor (Agora Series) by Lee Lowell

Other Tax Artciles:

• The IRS can be your friend

From the onion, and eerily true:

WASHINGTON—A panel of top business leaders testified before Congress about the worsening recession Monday, demanding the government provide Americans with a new irresponsible and largely illusory economic bubble in which to invest.

The Geldpress team has just uncovered another excellent free stock screening tool for those that are completely opposed to paying fees for good financial tools. The downside to the free tools is that no one site has it all – clear and concise financial reports for at least 10 years, historical price data for stocks and options, and easy to use fundamental and technical stock screeners. But if you don’t mind jumping from site to site, you may want to add etrade’s clearstation site to your bag of tricks.

Start your search at the clearstation website, and then click tag and bag in the upper left hand corner. Then click on technical events under the first orange bar. There are 24 easy to use pre-programmed technical scans built in, but the one I find most useful is the first one on the list (Trending up – MACD bullish). You can limit each search to a particular exchange (NYSE, Nasdaq, etc), or bring up the results from all exchanges together. Clicking on the bullish MACD search initially brings up just the list of stocks with bullish MACD’s. A sample result is shown below from a July 16th screen:

Using the above data in combination with a more detailed chart view is highly advised. For a much more detailed view, click on one of the Graphs links, which will display the default detailed graphs as shown in the example below:

The top chart is a price chart using bar charts, which are much more useful then line charts because they show ranges of prices, and allow easy viewing of support and resistance levels. The top chart also shows red or green upper bars indicating positive or negative MACD.

The second chart is a volume indicator and very useful for confirming whether the price trend is accompanied by high volume spikes, or perhaps just a random price change. Next is the MACD histogram, which shows a more detailed view of the MACD then the top price chart does. The bottom chart is the stochastic histogram which can be used to measure overbought or oversold conditions. Registered users can customize individual graphs and settings.

Disclaimer: The data above is just a sample screen and in no way meant as a recommendation.

I’m a big fan of the free investment web tools (Google finance, Yahoo finance, MSN money), but I’ve always stated that the fee based tools are worth the money. The free information is quickly closing the information gap on the pay services, just a bit more scattered and time consuming to find. Sector rotation and industry ranking information is one key feature of many fee based financial tools, but I just stumbled across the Prophet.net site that gives it away for FREE!

Here is the top portion of a basic snapshot of the prophet.net industry rankings:

The image above only shows the higher rated industry groups so they are all green, meaning that the money is flowing into these industry groups. On the prophet.net website you can see the entire performance grid, including the bottom ranking industry groups (anyone want to take a guess?).

This layout of the chart is remarkably similar to the investools big chart, but with a few more bells and whistles. You can change the view of the prophet.net chart to either historical trends or current performance. I personally perfer the historical information, as shown in the image above. The trending is read from right to left, with the most recent data on the left. The numbers in the chart are industry group percentiles, as compared to other groups. In a nutshell, the higher the number, especially when trending upwards from week to week, signifies that big institutional money (mutual funds, pension plans) is flowing into that industry group.

The information is particularly valuable for ETF investors who want to be in the next heated sector. It’s also useful for those that want to maintain hedged portfolios using pairs of ETF’s – one long and one short for example. The proshares inverse ETF in an out of favor group could act as the downside hedge, along with an upside play on a hot performing group.

The exact terms of the 5 year exclusivity agreement for AT&T to distribute the iPhone are unknown, but one certainty is that AT&T will struggle to make a profit with iphones. In the early days of wireless, carriers had an agenda of “growth at any cost”, and often incurred substantial losses in the process. Those days are over and the stockholders now have an agenda of “show me the money”. Customers and fellow bloggers may gripe at the $30 monthly data charge for the iphone, but even with that meager price increase, AT&T will still struggle to make money.

The evolution of AT&T’s data network has gone from GPRS to EDGE to UMTS to HSDPA, but they are all based on the TDMA (time division multiple access) protocol. Time slots can be configured by AT&T to be voice channels or data channels. While during a voice call, the phone is only capable of using a single voice channel, data usage on the iphone can occupy several data channels simultaneously. The exact RF network configuration for AT&T is unknown, and probably differs by region and area, but it is certainly feasible that a high data usage iphone customer can at times hog up 4 or even 8 simultaneous data channels. As data usage goes higher and higher, AT&T is forced to allocate more of those precious and expensive RF channels to data users, and thus forces them to spend more money building out additional voice channels.

Voice calls are charged on a per minute basis and AT&T can easily produce high margins with them. A typical 450 minute plan is charged out at $40 per month, or roughly 8.9 cents per minute. For those 450 minutes of voice calls, a user will only occupy 450 minutes of a single time slot dedicated to voice calls. The new 3G iphone data plan is charged out at $30 for unlimited data. Lets assume that an average iphone customer uses only 15 minutes of high bandwidth data per month, and that AT&T has their data network tuned to allow only 4 simultaneous data channels per customer. That iphone data customer is using the RF equivalent of 1800 minutes of voice calls, but at a cost of only $30 per month for the data plan. From my perspective, it appears that AT&T has re-adopted the “growth at any cost” agenda. Combined with the subsidized handsets, and the often rumored monthly kickbacks to Apple, I can’t see how AT&T will make any money on the iphone. The real winner on the iphone is Apple, and the real question to AT&T is how much money are they losing on the iphone.

At last check, the DOW is down another 1.5% for the day, but at one point had briefly fallen below the critical 11,000 level for the first time in 2 years. The VIX index is over 10% to 28.25. There are ways to protect your portfolio in these types of markets, such as put options, shorting stock, or covered calls. Notice I didn’t say sell into the panic (to the vultures of wall street!). I’ll briefly cover those 3 options here.

Put options are best to buy in times of low volatility as the market goes up, so with the VIX volatility index as high as it is, the premiums on put options is just to rich for me. As an example, consider an August Put option on the Dow Jones industrial average. The DIA ETF can be used to model the performance of the dow jones industrial average and sells for 1/100th of the price of the dow jones. With the DOW Jones trading at 11,100, the DIA trades at 110. The DIA is optionable, so put options are feasible, but the premiums are currently very high. Take a look at the DIA August 110 Put, which currently goes for $350 per contract, which is nearly all extrinsic value. That means for your DIA Put portfolio protection insurance to pay off, the Dow Jones would have to take another beating down to the 10,750 level by August 15 just for you to break even!

Shorting stocks or indexes is another option and mathematically simpler then put options since there is no extrinsic value and time decay to worry about. You can short the DIA at its current level if you think its going lower, or you can utilize the proshares Ultrashort Dow (symbol DXD) to gain double exposure on the short side of the Dow Jones. But even the biggest bears in the room (myself included) know that rallies can and do happen, and often at just the right moment to crush the life out of the shorts.

That leaves us with the covered call, which benefits greatly when the VIX peaks during high volatility markets. Take the same DIA as an example. If you bought 100 shares of DIA for $11,000, you could then sell an August 110 call contract to the market for approximately $380. It’s called a covered call because you have covered yourself first with the ownership of the underlying, in this case 100 shares of DIA. When you sell the August 110 call, you are obligated to sell your 100 shares of DIA for $11,000 anytime prior to August 15th, but only if the call buyer exercises his or her right to buy. With this covered call scenario, let’s consider a few possible outcomes:

1. DIA closes the August 15 trading session at 104. Your 100 shares will have lost $600 in value, but the August 110 contract you sold will have expired worthless, giving you a gain of $380, giving you a total net loss of only $220. The covered call sale protected $380 of your loss.
2. DIA closes the August 15 trading session at 110. Your 100 shares will be even in value, but the August 110 contract you sold expires worthless, giving you a gain of $380. That’s a 3.4% gain on your money in just over a month, when the securities you bought remained flat.
3. DIA closes the August 15 trading session at 115. Your shares are exercised, and you are paid $11,000 for them (110 strike that you sold * 100). But remember, you have also previously collected $380 for selling the 110 contract so you are still a winner in this case and make the same 3.4% gain on your money in just over a month.

Of course even with the covered ed call protection in place, there are still risks, especially with runaway markets. In the same example as above, consider the possibility that the DIA ends the August 15 trading session at 125. Despite that huge run up, you are still obligated to sell your shares for only 110. Regardless of how high the DIA gets to on August 15, you still are obligated to sell your shares at 110, so your upside is capped in this case to just the $380 you sold the covered call for.

Disclaimer: As always, there are no guarantees of accuracy for this or any information on Geldpress. And no information on Geldpress is meant as a recommendation. Make your own financial decisions, or consult your own financial adviser.

For additional reading, please purchase:

Covered Calls and LEAPS–A Wealth Option + DVD: A Guide for Generating Extraordinary Monthly Income (Wiley Trading) by Joseph R. Hooper

Most of us either know someone or have at least heard of someone getting rich through company supplied stock options. But few people actually understand the pricing and mechanics of stock options, or how to effectively buy and sell them for profit. Options are complicated trading instruments that require sophisticated knowledge and experience to succeed with them. But if you are looking for enhanced yearly returns in the market of 30-50% or more, then you will need to learn more about options. This article is just a basic introduction, so if you like what you see, then be prepared to spend significant time and effort reading and learning more. And check out the geldpress bookstore for plenty of reading material to keep you moving in the right direction.

First the definition. From investopedia, an option is:

A financial derivative that represents a contract sold by one party (option writer) to another party (option holder). The contract offers the buyer the right, but not the obligation, to buy (call) or sell (put) a security or other financial asset at an agreed-upon price (the strike price) during a certain period of time or on a specific date (excercise date).

The above definition can be broken down into:

• the right but not the obligation (most option buyers just re-sell the original option as opposed to exercising the option and selling the stock)
• to buy (call options) or sell (put options) a security or financial asset (100 shares of stock)
• at an agreed-upon price (the strike price)
• during a period of time (options generally expire on the 3rd Friday of every month).

But to really understand that definition, you need to look at an example. Today is July 9th, and the third Friday of July (options expiration day) is July 18th. There are 7 more trading days and one weekend left before expiration day. Take a look at the options chain below for Apple (symbol AAPL), and take note of the following:

1. The current chain is for July options expiration (7 trading days left until expiration). Apple also (currently) has tradeable options for August and October of 2008, plus January 2009 and January 2010.
2. Options come in two varieties – call options and put options. In the chart below, the call options are shown on the left and the put options are on the right.
3. Options have unique trading symbols, just like stocks. The symbol for the July 2008 Apple option with a strike price of 175 is .APVGO. (Note: Depending on your broker, the syntax for entering options orders can be one of “.APVGO”, “-APVGO”, “APVGO”, or possibly others)
4. Options have BID/ASK spreads just like stocks, but the spreads can be much larger with options as compared to stocks. When getting started in options, it is best to trade highly liquid and high volume positions where the options spreads are small (less then 20 cents between BID/ASK). The BID/ASK spread of the Apple July 175 as shown in the table below is 4.90 / 5.00.
5. Just as with stocks, it is not always necessary to buy at the ask and sell at the bid. You can always try your luck with a limit order halfway between the BID and ASK spread.

Other details:

• Contract size – An option contract always relates to 100 units of the underlying. So a July 175 apple contract would sell for approximately $4.95 * 100 = $495 (assuming our order was accepted at the midway point between the BID/ASK)
• Intrinsic and extrinsic (time) value – option prices can either be in the money, when the stock price trades above the strike price, or out of the money, when the stock price trades lower then the strike price. For out of the money options, the value of an option is 100% extrinsic value. You can also refer to extrinsic value as time value or even “hope” value. You need a large upward move in the stock price to be profitable with out of the money options. For options currently in the money, they have two components for pricing – intrinsic and extrinsic. Take a look at the July 170 option above as an example, where the ask price is showing $7.90, with apple trading at $174.25. For in the money options, the intrinsic value is the difference between the current stock price and strike price, and the extrinsic value is that which is left over (time or hope value). Using the same example, the intrinsic value is $4.25 and the extrinsic (time, hope) value is $3.65.
• The extrinsic value for in the money options is the minimum upward stock price increase you will need at expiration just to break even.
• Time decay – Option pricing is complicated and will not be covered in this article, but one thing to note is that option prices and values decay quickly, especially in the last 15 days before expiration, for which the above example applies.

Case study: BUY 1 contract of the July 175 Apple option for $495. (NOT A RECOMMENDATION!!!). As previously mentioned, option pricing is complicated, but only prior to expiration. At the end of the trading day on expirations day (July 18th in this example), options pricing is very simple. This is because time value no longer matters because there is no more time left. The only thing that matters is the stock price as compared to the strike price. A few possible outcomes for apple closing stock price on July 18th, as well as the profit/loss results are shown below for:

• Apple closes July 18th at less then $175 – The July 175 option expires worthless and 100% of the $495 invested vanishes into the wind.
• Apple closes July 18th at $177 – The July 175 option is worth $2, for a loss of $2.95. But since options always deal with 100 share lots, the actual loss is $295. This is a negative return of 60% on invested capital ($495).
• Apple closes July 18th at $189 – The July 175 option is worth $9, for a gain of $4.05. ($405 for the contract) This is a positive return of 82% on invested capital ($495).
• Apple closes July 18th at $194 – The July 175 option is worth $19, for a gain of $14.05. ($1405 for the contract) This is a positive return of 284% on invested capital ($495).

Remember, the above example is for illustrative purposes only, and NOT A RECOMMENDATION. In fact, beginning options traders generally stay away from such short term options because they are very volatile and very risky. However, the example above – with an opportunity for either going broke or capturing multi bagger returns -should at least explain what all the fuss is about with options. It is also worth noting that the above example is just one high risk case of using options. Despite their risky image, stock options can also be used in very conservative fashions to protect your portfolio, or even enhance the returns in lower risk manners. Be sure to check out the geldpress bookstore for great recommendations on further reading.

I also recommend:

McMillan on Options, Second Edition (Wiley Trading) by Lawrence G. McMillan

The VIX was introduced in 1993, and is used by many as a barometer of investor sentiment and market volatility. It is designed to show the market’s expectation of 30 day volatility. And since volatility is one of the main parameters used to determine theoretical options prices (along with stock price, strike price, interest rate, time and dividends), it’s a good idea to monitor the VIX as you write covered calls against your positions.

All things being equal, higher VIX numbers will allow you to sell your covered calls for a higher premium. For historical comparison, the range of the VIX in 2005 was 10.23 to 17.74. The markets were not as volatile in 2005 as they were today, and covered calls did not yield as hefty premiums as they do today. Today, the VIX closed at 25.78, well above the high range mark of 2005. Selling covered calls in today’s high volatility environment can be potentially very rewarding. In general, I want to be a buyer of options when the VIX is low and a seller of options (covered calls or calendar spreads) as the VIX increases. You can still make money buying options in high volatility (high VIX) environments, but you also have greater risk of the volatility crush, where your options positions decline in value significantly as the volatility of the market decreases quickly.

A dose of the painful truth for today:

• Mattel toy cars now worth more then General Motors.
• Luxury homebuilder Toll brothers debt reduced to junk status. Oh Robert, what happened to the good old days when you were buying land at any cost, because “It can’t possibly go down in value.”
• Washington Mutual stock chart
• Gas price average rises to $4.108
• Jobs continue to vanish.

And to balance things out, a tad of good news:

• More people growing gardens in Indiana

Take heed of your daily dose the next time Cramer spouts off his “BUY BUY BUY” signals.

The stock screening tools mentioned yesterday are generally used for fundamental analysis screens. For technical analysis screens, there are also plenty of free scanning sites available, such as this one from stockcharts. It breaks out scanning data into several categories, including:

• new 52 week highs and lows
• overbought and oversold based on relative strength indicators (RSI)
• strong volume gainers and decliners
• movement beyond bollinger band ranges
• candlestick pattern potential breakouts

However, as with anything else in life, you do get what you pay for. The free tools are a great novelty, but I am quite happy spending money every month for access to a more sophisticated stock screening platform.