Candlestick Trading Blog

---

It’s black, dirty and a part of almost every topic on TV or in the newspaper. It is not pollution although some cannot talk about it without talking about pollution. The subject is oil and these days, oil investment is looked on with the same disdain as oil itself. While the oil economy has become so huge that it boggles the imagination, oil investment itself should be considered by traders as a big opportunity for them as well.

An unnamed environmentalist once compared the oil companies and their executives to the heads of the tobacco companies who used harmful additives and denied that cigarettes were a threat to health. Without turning this into a moral forum, that simply isn’t a valid comparison and while we might not like the huge salaries of oil executives, their business approach is neither harmful nor addictive. The money management and soaring prices make for good business and good oil investment opportunities.

How are tobacco and oil executives different?
The environmentalist’s statement was merely a headline grabbing comment. The tobacco companies got very rich concealing information that proved tobacco was harmful and included chemicals that made it more addictive. The oil industry and its executives are guilty of nothing like this and oil investment is not immoral either. They produce and sell the most important commodity in the world. Oil companies are among the very largest companies in the US and have posted the largest profits in the history of investing. Whether buying company stock or investing in oil futures, an investor can find ways to profit along with the oil companies by oil investment.

How is oil the most important commodity?
Think about it; sure you could say food is more important but the big picture proves otherwise. In modern America, only a small percentage of the population produces food; the rest buy their food at the neighborhood grocery. How does that food arrive at the grocery? It is brought by trucks that use oil and gasoline. The two biggest factors on the price of food are the weather and oil. If the weather is bad, food prices rise. If the price of oil rises, food prices rise as well. The same is true of nearly all other products as well; shipping costs can be almost as much as production costs and any rise in the price of oil is likely to be reflected in the price of the product. Oil investment gives a trader the opportunity to make money investing in stocks or futures of the most used and needed commodity in the world.

If you take the theory further, the world would be completely different today if it weren’t for oil. Oil powers and lubricates the machines that build businesses, housing, hospitals and all of the other things we take for granted. Without oil most of the things we have today wouldn’t be possible. A key to investing in the stock market is finding a company with a product that people need and nothing in the world is in more demand than oil. Oil investments capitalize on the most used commodity known to man.

Opportunities in Oil Investment
Oil investment is going to continue being a wise move, whether investing in corporate stocks or oil futures. Oil related stocks are typically among the best stock picks and the normal ups and downs of oil prices can be very attractive to those who trade futures.

Conclusion
Depending on your perspective, the oil industry is not the evil empire that it is portrayed to be and oil investments can be very attractive. Whether stock investing or commodities trading, oil can be an excellent addition to your investment portfolio. Do your technical analysis, consider your trading plan and make your oil investment work for you.

Warren Buffett, the greatest investor in the history of the stock market and one of the richest people in America is attributed as saying that “investors should know their limitations.” There is a simple wisdom in that saying that applies to everyday life; know what you are able to do and what you can’t do, then do the things you can. Ask yourself, if you got a chance to fight with a grizzly bear, would you do it? You say that is crazy because the bear is bigger and would kill you? Ok, it’s probably an extreme example but you get the picture; you realize that you don’t have the ability to fight with a bear and you wouldn’t do it. Well, sometimes it is the same in the stock market and yes, there are people on Wall Street that successfully fight bears and bulls everyday with a great equalizer. Index funds give investors the tools they need to exceed their limitations.

What are index funds?
An index fund is a type of mutual fund that keeps a stock portfolio designed to match the performance of a stock market or one of its stock sectors as measured by an index of selected stocks. Index funds are also known as market funds.

Why are index funds better than going alone?
The vast majority of investors on Wall Street really do not know anything about investing. They don’t define their goals, they don’t learn stock charting and they refuse to perform fundamental analysis on companies before they buy. These are the same investors that don’t understand what happened when they lose their money. There are very few investors that, over the long haul, out-perform the results of the major indices like the Dow, the S&P 500 or the Vanguard Total Stock Market Index.

Index funds such as these and others give the average investor the ability to exceed his or her limitations. These funds are diversified portfolios and represent investment options in a portfolio with a size only a few investors could match. Because they have such a large portion of the market represented in their portfolios, it is extremely difficult to outperform index funds over the course of a year, let alone 10 or 20 years.

What if I want to do it on my own?
That’s one of the beauties of the stock market; no one can tell you that you shouldn’t be playing the stock market. But if you hope to have success at it, you have to commit yourself fully to the endeavor. Winning the stock market game requires an understanding of the basics of stock market investing, a clear stock trading plan and the best resources available.

The first thing you need to do is start learning about the stock market. Start with Benjamin Graham’s book on defensive investing, then read anything you can about Warren Buffett. Both of these men are giants in the world of investing and because of their stature, their views demand a certain level of respect. Your learning should also include an ever-increasing understanding of the stock market terms and techniques of Wall Street. You need to understand Wall Street news and how Wall Street talks and acts in order to recognize its characteristics.

Second, you need to develop a plan for your investing. Define your goals and identify a course for getting there. Want to trade stocks? Make your plans accordingly. Prefer the idea of futures markets or options trading? Those are good possibilities as well. What are your stop loss strategies? Knowing these things will help you make a plan that increases your chances for success.

Finally, you need a stock trading system that will help you track your investments as well as your potential purchases. The best system for this is Japanese Candlesticks. This is a stock trading system with over three hundred years of use and it is far and away the best for tracking stocks and commodities as well as understanding the trends and patterns that occur in the market.

Conclusion
For the average investor, nothing beats index funds. Index funds are simple, secure ways to invest and prosper in the stock market. Index funds allow the investor to relax, knowing that he or she is using the most consistently performing method in the stock market for investing. For the more daring investors, index funds might be a part of an investment philosophy that gives the investor complete control over his or her financial future. Whether investing on your own or taking advantage of index funds, you need to know your own limitations.

Whether you are a seasoned veteran or a beginner investing in the stock market, you will no doubt hear the phrase “earnings season” with great frequency. Earnings season refers to the month after each quarter’s end: January, April, July or October. This is the month that companies announce their earnings for the previous quarter. Investors and analysts in the market tend to be cautious when earnings season arrives. Companies that meet, or beat, their earnings estimates reap the benefits with rising stock prices. Companies that miss their number tend to take a beating.

Follow the Leader
For companies that are leaders in their stock sectors, their numbers are issued in advance of earnings season in the form of earnings estimates. There is an unfortunate domino-effect when industry leaders miss their numbers. Often times, a slip by the industry leader will affect the stocks of other companies in the same business sector Because of the significance of the leaders’ earnings, most market analysts follow these companies’ earnings and issue earnings estimates, which are reported in earnings per share.

Cloudy Picture
Sometimes earnings season brings a clear picture of where a company stands; other times, it’s not so sunny. Some in the stock market believe that earnings season is a good thing, where management is offering a projection as to where the company is financially. Other people believe that earnings season is simply a practice which provides a forum for management to use misleading information about the company in an effort to improve the standing of its stock prices. There would be the temptation for a company executive to issue a lower forecast than their research shows in order to exceed that forecast when earnings season rolls around.

Charges have been made in the past that companies have, in fact, manipulated the numbers in order to make the financials look better. “Earnings guidance” is a management estimate of where the company is headed in the future. There are rules concerning the content of this report, but there is also ample opportunity for the company to polish the numbers to appear better in the eyes of successful traders.

There is also another little earnings season item to recognize; this is called “whisper estimates” and it is another source of earnings estimates. This is an unofficial supply of stock market information, usually coming from a company source, an inside trader or investor. There is no real way of confirming this information so it is wise to be careful and perform more fundamental analysis before using the whisper estimate.

Who Benefits from Earnings Season?
Not everyone benefits from earnings season information even if it is accurate. For long term investing, earnings season really has no bearing on market strategy. An earnings season report is short-term information and a long-term investor may only look at this info as a possibility to pick up another low priced stock or to dump an asset that is struggling.

Conclusion
Like metrics for technical analysis, there is some benefit to the information gathered at earnings season, but it should not be over-emphasized. This is only one piece of information and before buying or selling, you should confirm your findings with additional research. Earnings season is the opportunity to identify movement in the stock market and use that movement to your advantage.

If only it was easy. You want to evaluate a company because you think it is going to be the next hot stock. You decided to verify your belief with a little research. You log onto the Internet and do a search; you were right! The stock climbed 20% last year so you rush off to buy 500 shares. It is true that past earnings can give you an idea of the likelihood that a stock will perform well in the future but that’s only an indication. To get a better view of the future, you need to look at the earnings estimates.

What are Earnings Estimates?
At the risk of sounding simple, it is exactly what its name implies; an earnings estimate is a projected, “educated guess” at the upcoming performance of a particular company. When coupled with a company’s past earnings, earnings estimates can have a certain amount of credibility since barring any unforeseen circumstances, a company will tend to maintain its existing trend. While earnings estimates don’t factor in stock volatility or changes in the economy, they do carry enough weight that analysts at major investment banks, brokerage houses and other institutions produce earnings estimates for actively traded stocks.

Not Cast in Stone
Earnings estimates have an interesting feature. Unlike metrics like earnings per share, the projections that earnings estimates represent are not static; since they are the best projections based on available information, the numbers change as the information evolves. These numbers, which are constantly revised, are guesses about what the company will be earning in the coming years. This revision can be upward or downward based on the factors involved. If the economy falls into a recession, the earnings estimates for a company may be adjusted lower. If a company is outperforming its estimates, the same numbers might be adjusted higher.

There are a number of websites on the Internet that report these estimates on their stock quote screens. Most collect a number of estimates and average them for a consensus estimate in one form or another.

The Only Information You Need?
If you can glean this information from the Internet or a stock screener, you might be wondering if you need anything else to start making stock trading decisions. The answer is…yes! You cannot get a full picture of anything by looking only at the earnings estimates. Successful trading starts with basic stock information but it depends on solid fundamental and technical analysis.

Have you put together your stock trading plan yet? If not, earnings estimates really won’t help you much. Your trading plan is your key to determining exactly how you are going to trade. What do you know about fundamental analysis and technical analysis? Being able to determine the financial health of a company and the current status of its stock is crucial.

One More Thing
There is one more piece to this puzzle. In addition to earnings estimates, a trading plan and technical and fundamental analysis, it is imperative that you have a stock trading system like Japanese Candlesticks. The candlestick charting system is a powerful tool in determining the directions of an asset even before it moves.

Conclusion
We can’t foretell the future, but investing in companies that have delivered solid earnings estimates and show strong consensus earnings estimates is a good choice.

Spend any length of time around the stock market and you will hear about options contracts. Some people will say that options contracts are too risky and others will tell you of the fortunes they have made trading options contracts. In either case there are reasons that people trade options contracts; they offer things that stock contracts can’t and in some cases are excellent ways to realize profit while limiting your risk.

When you write an options contract, what are you getting?
Here is the definition of an options contract: An option contract is an agreement between two parties to buy/sell a stock at a fixed price and fixed date in the future. The reason this is called “options” contract is that as time decays, (this is the term for the passage of time) if the deal becomes unfavorable for the buyer he or she can simply let the options contract expire or opt not to fulfill it.

What are the different types of options contracts?
In essence, there are two types of options contracts; Call Options and Put Options. A Call Option is an agreement to buy an asset while a Selling Put is an agreement giving one party the right to sell the asset.

Example of a Call Option
Let’s use an example for some option trading education. Fred buys a Call option contract from John. The options contract says that Fred will buy 100 shares of MEW Industries from John on September 8th at a strike price of $15; MEW Industries is currently trading at $20. At this point Fred has no obligation; he has only purchased the right to buy the stock if he desires. If the stock is at $20 on September 8th, Fred can buy from John at $15 per share, also known as the strike price. John can then keep the shares or make an instantaneous profit buy selling them for their current price of $20.

If the shares are trading for $10 instead of something above $15, John wouldn’t be interested since he can buy them for less investing in the stock market. In this case he will simply let the options contract expire and Fred gets to keep the premium that John paid for the option contract. One thing to note in this example is that John won’t actually be buying his options contract directly from Fred but from a broker instead; the end result is the same but the broker facilitates joining buyers and sellers.

Example of a Put Option
Here’s a second example. John sells a Put option contract to Fred. The options contract says that John will sell 100 shares of MEW Industries to Fred on September 8th at a strike price of $20; John purchased his MEW Industries shares for $15. There is a $0.25 per share premium on the contract, so John has realized a $25 profit already. If the price is not at $20 on the 8th, the contract expires and John keeps the $25 premium. If the price is $22 on the 8th, John will sell the shares to Fred, keep the $25 premium along with the $700 ($7 per share for 100 shares) he is a successful trader, making a total of $725 on the deal.

Conclusion
Options contracts can be beneficial way to accumulate income in the stock market. Stock option trading strategies allow the trader to realize profits, in many cases, with limited risks. When using solid technical analysis and a strong trading system like Japanese Candlesticks, options contracts provide another good method for playing the stock market game.

Wouldn’t be great if you could trade in the stock market and own a crystal ball, the kind that tells the future? With option value you may not have a crystal ball, but you do have some insight on how strong an asset on which you have purchased an option really is. By identifying the break even point of an option you are able to see where your profit or loss is in relation to that point.

Intrinsic and Extrinsic Values Defined
An option’s value can be broken down into two parts: extrinsic value and intrinsic value. Intrinsic value is the portion of the option that can be gained if the option is exercised. Extrinsic value is anything above the intrinsic value; this is also known as the time value.

An Example of Intrinsic and Extrinsic Values

Consider the following example:

Underlying: MEW Industries
Underlying Price: $18
Type: Call Option (American style stock order)
Strike Price: $15
Expiry Date: 8th September

Now, imagine that this particular call option is currently trading at $5. Let’s dissect this price.

First we can look at the intrinsic value; this is the option’s value that, if traded, would create a profit. We know that the call option's strike price is $15 and with MEW Industries trading at $18 it is already worth at least $3. This is an example of intrinsic value; this is the profit that can be made by exercising the option.

What They Really Mean
We know that the option is worth $3, which is its intrinsic value, but it is really trading for $5. The other $2 is called the extrinsic value; it indicates the option value that the market puts on this asset.

An option value that is sitting at 0 intrinsic value is said to be “out of the money”; this means that if you exercised your position at this time you would lose money. If you were to buy this call option on MEW Industries at $20 and market value is $19, you lose money; not exactly the picture of successful trading. At the same time, don’t think that there isn’t any option value to an asset with 0 intrinsic value; it can still have option value because traders believe that there is still some chance that the underlying could trade in a favorable direction, which would make the option profitable.

No Value is Still Valuable?
Option value is relative. Consider this; a position has an option value of zero, in other words it has no intrinsic value. Yet this same option has a price of $1.75; should you assume the option value is overpriced? Not necessarily. If you look at the option, it still has six months before it expires which gives it plenty of time to gain investing value. If it expired tomorrow, it would be considered worthless, but now there are still 120 or more days in which it can rise; this indicates the option’s value related to time.

Conclusion
Option value is important both the current value of a position but its future as well. When considering whether to keep a position or trade out of it early, it is wise to calculate the option value to help determine whether it is likely to improve its position or fall back.

Calculating option value can be a technical analysis tool that you utilize along with candlestick charting to verify your positions. Stock charting with a system like Japanese Candlesticks is an excellent method of verifying your analysis and anticipating the direction of a position. Using this method along with calculating option value can help you to become more successful with options trading.

Ever watch that base-stealing threat in a baseball game? He’s on first; he leads off….a little bit more, a little bit more, daring the pitcher to try and get him. The pitcher even throws to first in a vain attempt to snag him. Finally, the runner sees what he’s looking for and he takes off for second; the catcher doesn’t even stand a chance to get him out. The guy is fast, but more importantly, he sees something while studying the pitcher that tells him exactly what is going to happen. Sure it works in baseball, but how does this apply to the stock market?

Stock Market Trends – Getting the Jump on the Market
The base runner was looking for indications of the direction the pitcher was going; the stock market will give you hints to its direction as well. If you understand stock market trends before they happen, you already have two of the three key factors for understanding the market, time and direction. Coupled with volatility, a successful trader has the basic stock information needed to “take second” and make a profit in the market.

Eliminating the analogy, understanding stock market trends is also about looking for indications. How well could you adjust your investment timing in the stock market if you knew three days in advance what was going to happen? What if you only knew one day in advance? Could you improve your investment success? Of course you could.

Variables Involved in Knowing Stock Market Trends
There are a couple of pieces of information that will help you determine the direction of the market. These two gems are price and volume; each of these tells you something different about the market and together they can give you insight into stock market trends.

• Price – This is somewhat intuitive. Prices will rise until they reach their market value and then they will fall until the market value readjusts. A good way to determine price is to look to the three major market indexes, the Dow, the S&P 500 and the NASDAQ to provide a quantitative evaluation of price. It is also possible to calculate an average price per share based on overall sales divided by the number of available shares on the market. Because stock market trends are cyclic and so are stock prices, this variable is quite logical.



• Volume – Volume is also a typically reported value and an important part of calculating stock market trends. On more active days volume will rise and on slower days the volume will reflect it with a decrease. Volume is a factor in stock market trends because increases in stock volatility tend to indicate changes in direction.

Option volatility is one of the most important concepts in all of options trading. An understanding of stock volatility will help a trader understand whether an option is a good value or a bad value related to the trends of the underlying stock. It is important to use sound analysis principles to understand the movement; this way an investor is better able to determine if an option is more likely to reach its expiration date in the money or out of the money.

There are two types of option volatility that we will discuss: implied volatility and historical volatility.

Implied Volatility
Implied volatility is defined as where the stock market views an option’s volatility in the future. By using a pricing model, an investor can derive the implied option volatility for the future. Together with historical volatility and theoretical fair value, implied option volatility helps identify a projected direction.

Historical volatility is the measurement of how volatile an asset has been in the past. By using a pricing model to determine the fair value of an option, it is possible to theorize whether an option is overvalued (priced above the fair value) or is an undervalued, low priced stock option. If an option is low but has a history of strong upward movement, it is likely that another upward movement is likely to occur. If the option is high, the likelihood is that the option will not sustain its high and fall due to being overpriced.

Historical Volatility
Historical volatility is a statistical calculation that tells option traders how rapid price movements have been over a given time frame. The most common technical analysis of historical volatility is called the Standard Deviation. Standard Deviation analyzes the range of a set of data points against the average. The more spread out the data, the higher the deviation. This deviation is commonly known as volatility.

The Benefit of Understanding Historical Volatility
By reviewing the historical volatility, it is possible to draw educated conclusions from your fundamental analysis about the current and future trends of an option’s volatility. Stocks that have big trends and frequent price movements are known as volatile or said to have high volatility. On the other hand, stocks whose price fluctuations are gradual and predictable are known as low volatility instruments.

The Importance of Volatility
Why is understanding option volatility so important to those who are trading in the options markets? It is tremendously important because option volatility is a way to calculate and anticipate the possible price changes of the asset in the future. Stocks that have experienced high volatility in the past can be expected to have large price changes in the future as well. As a result, options that are based on assets with high volatility can be expected to have higher prices. The higher the volatility, the more likely it is that the underlying asset will trade higher than the strike price by the expiration date. Conversely, an asset which displays lower option volatility is more likely to have a lower stock price than the strike price.

Conclusion
Calculating option volatility is another perfect example of the benefit of fundamental and technical analysis in the stock market. As an investor performs more research and looks at the tendencies and trends of an asset, he or she is better prepared to make strong moves when buying and selling, whether in the stock market or the options market. Understanding market movements, especially related to options volatility, is a key to being a successful trader in the options markets.

Stock market strategies - education is critical and everyone should learn the terminology of the market. It is difficult to be effective in the market if you don’t understand the difference between long term investing and day trading. Once you understand stock market basics  and stock market terms, you can begin to learn and implement the strategies needed to be successful in the market. Covered calls are an excellent “first strategy” to learn; selling a covered call means that there are investors willing to pay for the right to take a stock if it reaches a much higher price. Selling calls requires that you have at least 100 shares of a stock. It is an excellent strategy to implement while waiting for a stock to reach your identified sell point. This technique can be used over and over, and it can be a great way to create income.

As you analyze trends in the market and identify sell points, you will find times when you are looking to take profits as the market adjusts. Selling covered calls is an excellent way to indulge in a little profit-taking while holding on to the shares for a sell-off at a later date.

An example of covered calls…
We have defined covered calls; by selling calls, you are able to accumulate income passively over time by collecting the premiums on your options. If your option doesn’t reach and maintain the strike price during the time period, the premium and the stock are yours. If the market price of the stock does reach your strike price, you make a nice profit selling the stock and you can purchase more of it in the future if you desire.

Let’s say that you have 300 shares of MEW Industries that you purchased for $15 per share. You are either bearish on the stock market in general or your research indicates that MEW Industries is poised for a bearish move. You want to hold this stock so you are looking to sell covered calls instead. You opt to sell out-of-the-money call options, meaning that your strike price of $20 is above the current market price of $15. The premium on this sale is $0.50 so you immediately pocket $150 or 300 shares multiplied by $0.50. If MEW Industries’ stock prices don’t reach $20 before the expiration date of your covered call option, you retain the stock and the premium is yours. In addition, you can sell more covered calls on these shares if you wish creating more income. If you duplicate this covered call two more times, you have paid for your stocks, ignoring commissions of course!

What happens if the stock does reach the strike price? This is even better; if the stock reaches your strike price of $20, you would have to sell it to fill your covered call. Three hundred shares at $20 is $600 and you get to keep the premium as well, bringing your total to $750.

Selling covered calls not only works well in a bear market but also when a bull market peaks and creates a bearish lull for a particular stock. Selling covered calls is a good technique for long-term investors who want to keep certain stocks but are seeking protection for possible declines. With a few covered calls worked into your stock portfolio, you’ve actually created your own hedge fund without the high fees that normally accompany them.