Tag Archives: stock

Consider Taking Tax Losses Now – Beat The Year-End Bounce Rush

Recent stock market volatility has resulted in portfolio losers. NOW is the time to consider tax-loss selling to beat the year-end bounce rush. There are several questions to ask when considering taking a stock tax loss. With all the volatility in the stock market this year, many investors probably find themselves holding some stocks in which they have sizable losses. By selling those losers and realizing those losses, you can use the losses to offset taxable gains that you may have realized during the year. Most individual investors think about this strategy in December, which means that this tax-loss selling could push the price of some of these stocks even lower. This means that you probably don’t want to be selling your losers then, and may in fact want to consider buying some of these beaten down stocks to take advantage of this tax-generated downward pressure that goes away on January first. I’ll discuss this in more detail in the December issue of my investment newsletter . Moreover, under the U.S. tax code you can buy a stock back 31 days or more after selling and still recognize the loss. (If you sell in 30 days or less, the IRS will not allow the loss). This way you can take the tax loss and still participate if the stock eventually rebounds. When considering taking a tax loss in a particular stock, there are several questions you need to ask yourself: “Do I really want to own this stock anymore?” If not, you should just sell it and move on to other stocks with better gain potential. If you do want to own the stock for the long haul, there are other considerations: “How likely it is to rebound sharply in the next 30 days?” If you think the likelihood is high, you probably should not take the tax loss. Similarly, if you have a sizable position, you need to consider whether there is enough trading volume in the stock to get out and then back in 31 days later without significantly affecting the stock price. If you are concerned about the volume in the stock, it may be better to look elsewhere for your losses. Read more of my most recent investing advice and turnaround stock picks . Share this article with a colleague

Tetraphase Pharma Offers A Lesson In Risk Management

Summary Limit sell orders wouldn’t have protected investors from Tetraphase Pharmaceutical’s 78% plunge after hours Tuesday. Two ways for investors to limit downside risk from stock plunges like this are diversification and hedging. We examine the pros and cons of both of those methods of risk management. Tetraphase Tanks After Hours Shares of Tetraphase Pharmaceuticals (NASDAQ: TTPH ) closed up 3.54% on Tuesday, to $44.78. Less than 40 minutes later, TTPH was trading for under $10 per share after hours, as the dramatic graph below from YCharts shows. (click to enlarge) What tanked the stock, as Seeking Alpha news editor Douglas House reported , was the failure of its leading drug candidate, a broad spectrum antibiotic called Eravacycline , in a stage 3 clinical trial versus another antibiotic called Levofloxacin in the treatment of complicated urinary tract infections. Limit Sell Orders Don’t Limit The Loss A painful lesson some Tetraphase longs may learn here is that limit sell orders don’t protect against these kinds of drops. Consider, for example, a hypothetical investor who owned Tetraphase on Tuesday and didn’t want to see his position value drop by more than 20%, so he set a limit sell order at $36. The problem with this sort of limit sell order is that it won’t get you out of the stock at $36 per share, if the stock never trades at that price on its way down. Whatever price the stock opens at the next day is the price an investor would be offered for selling the stock then. Two Ways To Limit Stock-Specific Risk Two ways to limit stock-specific risk of this kind are diversification and hedging. Both have their advantages and disadvantages. The big advantage of diversification is that it doesn’t cost much.[i] As the Nobel laureate economist Harry Markowitz famously put it, “diversification is the only free lunch”. If you owned Tetraphase as part of an equal-weighted portfolio of 20 stocks on Tuesday, the worst impact it could have on your portfolio value going forward would have been -5%, because it would have comprised 5% of your portfolio. Of course, the flip side to diversification is that if a particular stock does very well, its impact to your portfolio would be similarly limited. Diversification limits the harm caused by your worst investment, but it also limits the benefit provided by your best ones. As Warren Buffett noted in a lecture at the University of Florida’s business school in 1998, If you can identify six wonderful businesses, that is all the diversification you need. And you will make a lot of money. And I can guarantee that going into the seventh one instead of putting more money into your first one is going to be terrible mistake. Very few people have gotten rich on their seventh best idea. But a lot of people have gotten rich with their best idea. Unlike diversification, hedging allows you to concentrate your assets in a handful of securities you think will do best, because your downside is strictly limited. Consider, for example, hedging with put options. Put options (or, puts) are contracts which give you the right to sell a security for a specified price (the strike price) before a specified date (the expiration date). An investor who owned 1,000 shares of Tetraphase on Tuesday and 10 put option contracts (each contract covers 100 shares) with strike prices at $40, would have been able to sell all of his Tetraphase shares for $40 on Wednesday, regardless of what price the stock was trading at then. The main drawback with hedging, though, is its cost. At Portfolio Armor , we look for optimal puts (as well as optimal collars) when hedging. Optimal puts are the ones that will give you the level of protection you are looking for at the lowest cost. A Tetraphase investor scanning for optimal puts on Tuesday against a greater-than-20% drop over the next several months, would have gotten this message, The reason he would have seen that message is that the cost of protecting against a greater-than-20% drop on Tuesday was itself greater than 20% of position value. The smallest decline threshold against which it was possible to hedge TTPH over the same time frame with optimal puts on Tuesday was against a greater-than-27% drop, and, as the image below shows, the cost of doing so was prohibitively expensive – equivalent to nearly 27% of position value. Note that, in the image above, the “cap” field is blank. If an investor had entered a figure in that field, the app would have attempted to find an optimal collar to hedge Tetraphase. A collar is a type of hedge in which an investor buys a put option for protection, and, at the same time, sells a call option, which gives another investor the right to buy the security from him at a higher strike price, by the same expiration date. The proceeds from selling the call option can offset at least part of the cost of buying the put option. An optimal collar is a collar that will give you the level of protection you want at the lowest price, while not capping your possible upside by more than you specify. In a nutshell, with a collar you may be able to reduce the cost of hedging, in return for giving up some possible upside. It was possible to hedge Tetraphase against a greater-than-20% drop over the next several months with an optimal collar on Tuesday, if an investor were willing to cap his possible upside over the same time frame at 20%. The cost of that protection would have been 8.26% of position value, which would still have been fairly pricey. Using Security Selection To Reduce Risk (and Hedging Costs) Another way to reduce risk, and to hedging costs, is to avoid stocks like Tetraphase in the first place. That may sound like hindsight at this point, but remember the hedging cost shown above was calculated using data from before the stock tanked. Hedging cost that high can be a red flag. By way of comparison, look what the cost of hedging Gilead Sciences (NASDAQ: GILD ) against the same percentage drop over the same time period with optimal puts was on Tuesday: As you can see at the bottom of the image above, Gilead cost 2.1% of position value to hedge. Tetraphase was 12.6x as expensive to hedge in the same manner. By limiting your portfolio to securities that are relatively inexpensive to hedge, you will end up avoiding some of the riskiest ones. How much should you be willing to spend to hedge? That depends, in part, on how high you estimate the potential return of your underlying securities. One approach is to calculate both hedging costs and potential returns for your best ideas, then, subtract the hedging costs from the potential returns, rank them by potential return net of hedging cost, and buy and hedge a handful of the highest ranked ones. That’s the essence of the hedged portfolio method, which we detailed in a recent article (“Keeping A Small Nest Egg From Cracking”). —————————————————————————– [i] To be precise, this isn’t quite true if you buy individual stocks rather than a low-cost index fund. All else equal, the more you diversify, the more trading costs you will incur. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Back To Cash, Back To Basics: Buying Stocks For A Discount

Our Portfolios are over 75% cash as we simply don’t trust these markets. We’re looking forward to going shopping but shopping wisely. That means reviewing some of our basic option strategies – techniques that makes us money. We took the money and ran – now what? As you can see, our Long-Term Portfolio is now swimming with cash as we cashed in our winners and kept the losers. Our losing positions include 24 short put sales that currently represent about $150,000 of that “Negative Market Value,” though it’s not really negative because we already have the Cash on Hand (a great benefit of selling puts), so it’s just a matter of how much cash we need to give back in the end. When we sell a put, we are promising to buy a stock for a certain price (the strike) and we get paid by the holder of the stock to make that promise. They benefit by putting a price floor under their stock and we benefit from getting cash in our pockets and, ultimately, from potentially buying a stock cheaply. Unfortunately, most people are traders, not actual investors, and they tend to forget why they entered a short put trade in the first place. Because of that, when the short put positions turn negative in a market downturn, they tend to start thinking of them as losses, rather than progress made towards buying the stock at our discount target. (click to enlarge) In the 2013 example, the stock that is used is AT&T (NYSE: T ) and the strategy was to sell the Jan 2015 $30 put contracts for $2. This obligated us to buy the stock for $30 in exchange for $2 paid to us by the stockholder. Had it been assigned to us, our net entry would have been $28 (as we had the $2 in our pocket) and, as you can see, $28.90 was the 2014 low and it hit Jan 2015 well above $30. So, in effect, we would have kept the $2 and not owned the stock and we could have then turned around and sold the Jan 2016 $30 puts for $2 and already we can sell the Jan 2017 $30 puts for $2.75 (higher premiums due to market volatility) or the 2017 $28 puts for good old $2. Either way, the concept is we don’t have to own T at all (no cash out of pocket) yet we collect $2 a year, which is more than the $1.88 annual dividend we’d be buying the stock for. If T ever does get a major selloff, we certainly don’t mind owning it cheaply and, since we’ve already collected $6 for not owning the stock, our net entry would be $24 – $8.50 (26%) below the current price. That’s our ” worst case ” – and then we can turn around and sell calls against the stock, promising to sell the stock to someone else at a pre-determined strike. If, for example, we were assigned T at $30 tomorrow, we could turn right around and sell the 2017 $30 calls for $3.50. That would drop our net basis to $24-$3.50 = $20.50 and, if the stock were finally called away at $30, our final profit would be $9.50 (46%) plus 6 dividend payments of 0.47 = $2.82 for a total profit of $12.32 on the $20.50 cash we ultimately put to work (60%). And that is how easily we slide into our 7 Steps to Consistently Making 20-40% Annual Returns: In a video from 2013 and you’ll notice the example was Transocean (NYSE: RIG ), which was trading at $44.13 when the trade was initiated on May 5th of 2012 and is now trading at $13.45 – a total disaster – or was it? As noted in the video, we sold call contracts for $1.60 per month consistently against it, collecting $9.67 before being called away with an additional gain at the $46 strike. In fact, this strategy forces us to cash out when a stock jumps up on us and, as you can see from this chart, that made for the perfect exit in the fall of 2014 at the $46 price mentioned in the video. Once called away, we don’t jump right back in and buy the stock again, because the fact that we wait patiently for a stock to be low in the channel and then sell those puts to give ourselves a 15-20% discount on the next entry and then go back to our call-selling strategy give us a huge edge on passive investors. We combine that with our basic strategies for establishing new positions – especially the practice of scaling in to new positions . We do, in fact, have 50 RIG 2017 $13/20 bull call spreads in our Long-Term Portfolio and it is our intent to sell puts, like the 2017 $13 puts for $4.50, which would drop our net entry to $8.50, which we feel is a good enough value on the stock to commit to owning 2,500 shares (25 contracts at $11,250). This more than pays for the spread so we make a profit on every penny the stock is over $13 times 5,000 shares we control and our worst case is we’ll own 2,500 shares of RIG for the long-term. (click to enlarge) Another great, live example of a put-selling strategy is Sotheby’s (NYSE: BID ), which is in our Options Opportunites Portfolio . Our cur rent position is 20 long Jan $34 calls, which we bought for $4 and are now $2.70 as BID has gone down further than we thought but now it’s very attractive to sell some puts to offset the cost of those calls. With the stock at $34.09, the 2017 $30 puts can be sold for $3.50, which is a net entry of $26.50, a nice 22% discount off the already low price. Selling just 10 of those reduces the basis on our 20 long calls by $1.75 each and now we own those long Jan $34 calls for net $2.25 and we expect Sotheby’s to be back in the $40s after their next earnings report (11/11) – plenty of time for us to cash out with a nice profit! It’s a very choppy market and we’ve gone mainly to cash but that doesn’t mean we won’t be agreeing to take other people’s money in exchange for our promise to buy their stock if it gets 20% cheaper than it is now. As the great Warren Buffett like to say: ” Be fearful when others are greedy and greedy when others are fearful .” Our strategy of selling puts to initiate positions sets us up to be buyers when others are panicking and then, once we own the stock, our strategy of selling calls sets us up to be sellers when others are in a buying frenzy. That’s why it works so consistently! Disclosure: I am/we are long BID, RIG, T. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. Additional disclosure: Positions as indicated but subject to RAPIDLY change (currently mainly cash and an otherwise bearish mix of long and short positions – see previous posts for other trade ideas). Positions mentioned here have been previously discussed at www.Philstockworld.com – a Membership site teaching winning stock, options & futures trading, portfolio management skills and income-producing strategies to investors like you.