I have two versions of Reminiscences of a Stock Operator (Illustrated), and I’ve read and re-read it more than a dozen times over the last 20 years.

For all the book’s wisdom, I’ve begun to wonder if Jesse Livermore is more Madoff or Joseph P. Kennedy, Sr. than a hero to the trading community. All of the aforementioned are known market manipulators and as men, were less than scrupulous. Kennedy took a stroke and eventually died of natural causes, Livermore killed himself, and Madoff should.

I rather recommend you follow in the footsteps of an unknown trader who remained emotionally stable, produced consistent annual returns, and acted within the best ethical practices of the day. You have the letter of the law and the spirit of the law, and there’s a big difference spiritually between the two.

What are your thoughts? Do you forgive Livermore all his demons and poor choices? Do you really want to trade like Jesse Livermore? Email me in confidence if you want and we’ll get a discussion going on this.Similar Posts:

• What Do You Make of Wheat?
• Systematizing Losses to Feel Good
• ABC News Quotes Mike Martin
• Control Yourself
• Jeremy Siegel Podcast

I thought I’d save two birds with one blog post. A reader of mine kindly suggested that I write more about options, so I’m going to do that wrt to the WSJ article today entitled Coffee Futures Are Near A 13-Year High.

From the article:

Coffee futures remain close to a 13-year high, as tight supplies and the prospect of dry weather hurting next year’s Brazilian crop have sent roasters scrambling to secure beans.

So if we are at multi-year highs, you might be bullish but are scared to enter the market at these levels. One of the ways you can be bullish and limit your downside is with options.

Notice that being scared is a function of fear, an emotion, and is not a financial term, yet it can have a profound effect on your finances. Smart financial decisions rarely feel good, but I digress…

Instead of buying December Coffee futures and posting the initial margin of $7,700 for the directional trade, you can use call options to capture the upside. It’s true you can cut your initial margin substantially if you just bought outright calls, but today I’m going to show you how to implement a Bull Call Spread — a position where you are simultaneously long and short 2 calls in the same account. [Trade this at your own risk. This is for educational purposes only.]

Click for a larger and clearer picture.

Options are all about floors and ceilings. You determine those floors and ceilings by the Strike Prices you select. They are probably the one instrument that you can trade that you can use to bet where the market IS NOT going to go, as much as where it might go.

In order to implement the Bull Call Spread, you need to buy the lower strike price and sell the upper strike price. In this case, I’ve chosen a call that is close to being At-The-Money and one that is 10 points higher. [see the chart above and the highlighted prices].

Buy the November 182.50 Call at 4.94 (a debit)
Sell the November 192.50 Call at 1.94 (a credit)

This will create a net debit of 3.00 or $1,125 per spread. This is your total cost to own the spread — it is also your maximum loss on the trade. [You get this number my multiplying .03 by 37,500 lbs - the size of the standardized contracts. Three points is represented as .03]

Keep in mind that if you have $25,000 in your account, you’re looking at risking 4% of your capital on this spread. That’s very aggressive to put it in perspective, and I’d say that there’s not enough equity in your account to withstand the emotional hit of losing that 4% several times in a row. An account with $100,000 would be more like it — and that’s true even though the spread itself is considered to be more conservative a trade than an outright, directional trade in coffee futures.

Any time you have a debit or a net debit, that represents your Max Loss on the trade. Don’t forget, if you trade the coffee futures outright, long or short, you always have unlimited loss potential.

In this case, you are saying “I’m bullish above 182.50 but only up to 192.50.” Because you are only bullish up to a point (192.50), you are going to have the buyer of the 192.50 call pay you in order to help finance the purchase of your 182.50 call.

The beautiful thing about a spread like this is that everything that you can earn or lose takes place between the strike prices. Theoretically, the absolute value of the difference between the strike prices is equal to the sum of the max gain and the max loss. Let’s take a look:

|SP1 – SP2| = Max Loss + Max Gain

|192.50 – 182.50| = 3.00 + Max Gain

Therefore 7.00 points = Max Gain

The break-even is the net debit added to the lower strike price:

182.50 + 3.00 = 185.50

Notice that you have a better than 2:1 payoff in this case. That says nothing about the probabilities of either of those outcomes, but your are bullish and you are trading with the trend while prices are approaching multi-year highs.

Here’s a graphic depiction of what’s going on (please pardon my handwriting):

Click for larger and clearer picture

At 182.50 or below, you suffer a total loss. Between 182.50 and 185.50, you lose incrementally less as the price of the contract approaches the break-even (noted as B/E on the graph). Between 185.50 and 192.50 you profit, with profits increasing incrementally as the contract approaches 192.50 where you experience the feelings of the max gain.

Beyond 192.50 you get nothing more because you are capped at 192.50 – remember you sold the call to someone else and you are obligated to deliver coffee futures at that price. You are considered “covered” in this case because you own a lower strike price (has to be the same underlying mais bien sur!!!)

Spreads are about using those floors and ceilings to make financial trade-offs that you are willing to make. Instead of paying $1,852.50 (.0494 x 37,500) to own the 182.50 call option outright, and have the unlimited upside that goes with it, you are giving up the potential for unlimited upside for a lower cost of $1,125. In the process you are lowering your cost by $727.50 or almost 40%.

If the contract goes to 192.50 or higher, you’ll have a gain of $2,625 or about 133%.

This spread trade can be implemented by commodity hedgers too, whereby the gain to the investor would be the savings to the hedger.

Similar Posts:

• Thinking Like Tony Saliba
• How Venezuela Can Have Their $80 – $100 Crude Oil Price Band
• Why Would Soros Buy Gold Futures or a Gold ETF (GLD)?
• Reader Question – Limit Moves
• Leading Indicator on Inflation: Gold Platinum Spread Revisited

• George Steinbrenner: “You Show Me a Good Loser, And I’ll Show You a Loser”
• Do You Have Self-Control?
• You Don’t Know Jack – HBO Trailer
• How Would You Trade Water?
• What Do You Make of Wheat?

In the interview I answered a lot of great questions that I think emerging CTAs and aspiring Prop Traders can benefit from. I hope that I’ve taken on and dispelled enough of the conventional wisdom and what I believe to be misbeliefs in developing your career and how to learn about trading.

Among the topics are the misconceptions of the benefits of trading a system versus specializing in one commodity, what indicators are overrated, another way to consider the ATR, and how to employ the Grúdlann Gheata Shan Séamuis emotional stop-loss system.

Similar Posts:

• Video Interview with Bill Dunn
• This Emotional Life tonight on PBS
• Reader Question on Trading Systems v. Discretion (Prop Trading)
• Milken Global Conference 2010
• Registration Update: UCLA Commodity Prop Trading Courses Available Online Now – Open Enrollment

“…terrifyingly bullish…” was the quote that stands out for me. Where did all these headlines go? One minute you had some jammy dodger in London who was going to kill your Valentine’s Day plans and then nothing.

Such is the life of reading the headlines about commodity traders and the wild positions they take. It’s a drag that the papers don’t have qualified journalists who actually know something about the commodity markets. The good ones are way too inside baseball. One that I like to read is John Kemp at Reuters.

Here’s the story the broke the news back on July 16 in the Financial Times:

Low inventories could drive prices higher if demand remains strong. Cocoa hit a high of £2,732 a tonne this week and some dealers say it could now top £3,000 a tonne. “It reminds us of 1976,” said one senior cocoa trader. In 1977 prices spiked above £3,300.

Armajaro appears to believe that the market is going to spike significantly higher by September, traditionally the tightest period of the year as chocolatiers ramp up production ahead of Christmas and the main West African crop has not yet come to market.

Although stocks of cocoa exist in warehouses not registered on any exchange, the delivery to Armajaro represents almost all the 270,000 tonnes of available stocks at Liffe-registered warehouses.

“The question is: what happens to those stocks?” said another trader. “Are they going to be marketed? If not, it becomes terrifyingly bullish.”

Well, we know that Mr. Ward has his beans on ice — literally — they are being refrigerated. Just because the contracts are lower than where he took delivery, does not mean he’s lost anything on the trade. He could have hedged, sold it forward, or engaged in a swap transaction.

The red circle on the graph above indicates the contract around the time Mr. Ward took delivery. That was around July 18, or “18 July” if you do things backwards like they do in London. (I’m heading to London soon btw.) Since then, the contracts have sold lower and it doesn’t look like anyone cares about his alleged hoarding (which it’s not).

Don’t believe everything that you read. It’s what’s not written that you miss…Similar Posts:

• Who Is Anthony Ward?
• How To Trade The Cocoa Trend Reversal
• Chevron to Lose a Stripe
• How To Marry Fundamental & Technical Analysis in Cocoa
• How Venezuela Can Have Their $80 – $100 Crude Oil Price Band

• Making Too Quick a Buck
• Day Trading Is Distracting You From Making Money

Please indicate if you would prefer to remain anonymous. If you don’t give me any instructions, the default value will be to NOT divulge any personal information. You must give me written permission.

email editor at martinkronicle dot com

More will be revealed (except your personal information).Similar Posts:

• Google Voice Invites for MartinKronicle Readers
• Introducing Brokers Getting Reneged On By FCMs
• Prop Trading Firms & Expected Value
• Michael Martin Podcast Interview Answers Questions For Prop Traders
• Routine Versus Ritual

Helmut Weymar (Hell-MOOT WHY-mar) had the great fortune of having two legendary economists help him during his years at MIT. One was Paul Cootner, the second was the late Nobel laureate Paul Samuelson. You’ll recognize several of the other speakers.

Weymar, the founder of Commodities Corporation, was asked to speak at a memorial service for his mentor at MIT. There are no “bylines” in the video as the speakers were announced at the very beginning of the ceremony. You can fast-forward to Weymar’s comments, which begin at the 73:50 mark. He’s in the green bow tie.

Among his remarks about Samuelson is his original objection to Frank Vannerson’s TCS for trading commodities with CC cash.

Everyone needs a mentor. Many of the best traders in the world have mentioned that their careers were influence by someone early on.

Paul Tudor Jones
Ed Seykota
Bruce Kovner
Helmut Weymar
Victor Sperandeo

Weymar is featured prominently in Sebastian Mallaby’s great new book More Money Than God in the chapter, Paul Samuelson’s Secret.
Similar Posts:

• Bruce Kovner, Having Made History
• Bill Dunn, Part 2
• How To Marry Fundamental & Technical Analysis in Cocoa
• Inside Prop Trading & Prop Trading Firms
• Portfolio Heat: Correlation between Equities & Commodities

Mike Bellafiore and Steve Spencer are the founders of SMB Trading. Bella and Spencer, along with their colleagues Adam, Roy, ZMush (Z$, Mush, Mushy, Z), JThoma, GMan, are prop traders and have one of the best training programs in the country.

I spoke with Mike about his new book One Good Trade: Inside the Highly Competitive World of Proprietary Trading (Wiley Trading), and his training program.

They also maintain a blog at SMB Training that I recommend.

You can follow SMB Capital on Twitter.

Chris Gillick, a current friend and former colleague of mine at Trader Monthly, helped Bella write this book. Gillick also wrote an article on SMB for the October 2008 edition of the magazine called Three Rules: Motion Detectors which can be found under the Press tab on their blog. Similar Posts:

• Live Twitter Q & A
• The Wisdom of Bear Stearns’ Ace Greenberg
• Routine Versus Ritual
• When Genius Prevailed
• Soros On Greece, 2008 Crash – We Haven’t Corrected The Imbalances

Here is the list, in no particular order, with links to the podcasts or video.

10 Laws of Enduring Success by Maria Bartiromo
The Invisible Hands by Steven Drobny
Think Twice by Michael Mauboussin
More Money Than God by Sebastian Mallaby
Trust Agents by Chris Brogan
4 Hour Work Week by Tim Ferriss
Financing The Future by Glenn Yago & Franklin Allen
Fiat Money Inflation in France by Andrew Dickson White
Ivy Portfolio by Mebane Faber
Buy, Don’t Hold by Leslie Masonson
The Quants by Scott Patterson
One Good Trade by Mike Bellafiore
Twilight in the Desert by Matthew Simmons
Rise & Fall of Bear Stearns by Ace Greenberg
What the Dog Saw by Malcolm Gladwell
Fearful Rise of Markets by John Authers
Talent is Overrated by Geoff Colvin
Oil: Money Politics and Power in the 21st Century by Tom Bower
Goodbye Gordon Gekko by Anthony Scaramucci
The Bourne Identity by Robert Ludlum
The Bourne Supremacy by Robert Ludlum
The Bourne Ultimatum by Robert Ludlum
The Girl with the Dragon Tattoo by Stieg Larsson
The Girl Who Played with Fire by Stieg Larsson
The Girl Who Kicked the Hornets Nest by Stieg Larsson
How We Decide by Jonah Lehrer (re-read)
Sh*t My Dad Says by Justin Halpern
Against The Gods by Peter Bernstein (re-read)
Out of Water by Samyuktha Varma and Colin Chartres

Fiction that I”m going to read (once I get some free time):

A Visit From the Goon Squad by Jennifer Egan
The Art of Racing in the Rain by Garth Stein
Shinning City: A Novel by Seth Greenland

Most of the fiction is on my Kindle. I love my Kindle. All of the other books are hardcover.

Here is the full list of MartinKronicle podcasts, which includes Jim Rogers, Victor Sperandeo, Tony Saliba, Linda Bradford Raschke, Barry Ritholtz, Charles Goyette, and Daniel Ammann.

Here is a list of books I loved in 2009.

Similar Posts:

• Books I Loved in 2009
• Read: Successful Traders Read
• Anil Kapoor Is A Trend Follower
• Victor Sperandeo: Read “Fiat Money In France”
• Dirty Rat Gamblers!