The risk assumes I place a smart stop loss order and that the open interest is high enough that it will sell quickly at market value.

Chipotle Mexican Grill is not only good eats, but is setting up for a nice trade.  Despite a recent decline since June 16th, the 30 day trendline is still moving upwards.   Last week the stock tested a low of $133.60 and $133.40 just six days apart, and has been holding it’s  value since.  In the past two days trading has been positive and todays closing of $139.50 is above the 7 day moving average.

But are the Fundamentals Still Strong?

CMG has been on my watchlist for quite sometime, and companies and markets change.  It’s always a good idea to cross reference the industry group.  I am a member of Investools and have been for several years. Checking the company’s information on Investools, I see that the industry group is strong with a 94% rating with industry money moving into the restraurant sector.

CMG as a company has also maintained strong financials which adds strength to the equity.

Cross checking with one other source, Investors Business Daily, we see a smart select rating of  99 and that CMG leads it’s industry group in its composite rating. (others that lead the group in order include MCG (McDonald’s), PEET (Peet’s Coffee), THI (Tim Horton, Inc) and NATH (Nathan’s Famous))  Each of these would deserve further research for short or long term trading, but none were previously on my watch list.  In addition, in order to stay diversified I would not invest in more than one restaraunt group at this point in time.

So my fundamental and financial analysis is complete with the cross checking of both IBD and Investools.  Either one of these subscription services can save you a ton of time in research, letting you make the decisions about technical analysis, timing and type of trade.

Managing Risk: Analyzing the Option trade

The Basics:
Current Equity Price: $139.57 (close on 7/8/10)
Recent Support: $133.50
Difference between Current and Support: $6
Target: ~ $10 gain in a 5-7 day period

Potential Options (> 30 days until expiration)
August 140 Call: $8.70  Delta .52  Risk $6*.52= $3.12  %age of account: 9.5%
August 145 Call:  $6.30  Delta .43 Risk $6*.43= $2.58 %age of account: 8%

Analysis of Risk
The general rule of thumb is not to risk more than 1-2% of your account value on a single trade. This allows for many “losing” trades with limited loss of account value.  Having a single “double” which isn’t uncommon in well chosen short term options trades will more than offset a number of small losing trades.   However as a rule of thumb in trading account with less than $10,000, you’ll need to accept a higher amount of risk in order to trade even single options contracts. (an option contract is 100 options…the minimum you can purchase in a single transaction).

So while 8-10% is higher than I usually risk, I will keep this on my short list for purchase in the morning depending on how the first hour of trading is going.

Comments or questions? I’ll keep you posted how this one may workout.

Two days later it set up again and I just couldn’t resist. Today I’m up 20% so far…$90 on a $380 purchase. I’m going to set a stop loss on this and wait and see if it goes higher.  Whenever I’ve lost money on a companies option, I always like to see if I can make it up later.   Nearly break even today, we’ll see what happens tomorrow and over the weekend.

ICE is also showing a rising 30 day moving average with a recent pullback. The price is strong at $100+  / share, which could encourage a good ROI on an options trade.  Not quite into oversold territory, so the set up is not quite there yet.

Finally PCP is showing a strong chart with hints of a pullback. I’ll keep an eye on that one as well.

Interestingly, a lot of my old watch list companies are showing really strong charts with consistently rising trendlines…some evidence that the company fundamentals are strong, which is a pre-requisite for showing up on my watch list in the first pplace.  (I Use Investors Business Daily ratings for my initial screen)

Here’s what I see:

CERN
Underlying: $60.80
Support: $56.50
Risk: $4.30

Sept 65 Call Option
Ask: $2.50
Delta: .57
Option Risk $4.30x.57 = $2.45

Acct Value:$2825.00
Risk = 10%

Since my account value is so small right now for a trading account, this is an acceptible risk for me. Ideally the risk is kept at 1-2%. For smaller accounts $10,000 or less, 5% is acceptable. For $3k, I’m OK with risking 10%…after all, this is my original money from nearly 2 years ago that I am still trading (infrequently).

So I just placed the order, and it was filled at $2.35

Now I’m going fishing!

I’m breaking my own rules a bit with the risk involved in terms of the percentage of my account to risk with any one trade, but my trading account is really small right now, so my risks will be a bit bigger than I like. I’ve justified this by telling myself I’m going to be depositing more money into my trading account soon, so my ‘real’ risk is a little lower.

Here are the details of this option:

GOOG (Google) underlying $418
Support $402 (Recent Low)
Risk $16
Option: Sept 09 Call 430 Strike @ 16.10 Delta .44
Option Risk:  $7
Acct Value: $~4000
Risk Percentage =  17%  (OUCH!! Don’t do this at home kids! That’s just for one contract $7×100)

I probably shouldn’t even be playing in google at all with this account size, but hey, what can I say. I’m in a slightly better financial position now than 2 years ago when I started. Even though my trading account size is small, if I lost it all, I have some cash in savings that is set aside for investing and investing education so that’s my justification.

Resistance $448 (Recent high)

I began making my current watchlist 3 days ago, and surprisingly, 1 or 2 came in with nice setups.

Today I purchased a long call on NFLX 42.5 September Option at $3.60.  The underlying was at about 41.00 at the time. I see support at 37.50, for a risk of $3.50 on the underlying. Since the option’s delta is currently at .5, that’s a risk of $1.71 on the option.  Since my trading rules tell me to sell if the option falls to half price, I’m well protected in any case.

Below is the 6 month chart. The two moving averages are 30 day and 7 day simple. Yesterday the stock closed above it’s 7 day moving average with volume after a pullback.  There are a few red flags in this trade which I will note for my own future reference in the event that this goes south.  Impatience is a major flaw in trading that I have to work out The flags are the lack of a consistent uptrend in the 30 day MA. It uptrended for a bit, and is now downtrending. In addition, Investools shows that it’s Industry group is out of favor, but Investors.com (Investors Business Daily) shows it’s industry group as an A+.

I had previously set a sell stop below the last support, but now, to lock in profits, I’ll move this to a training stop.  The other option is just to sell at open, but I don’t like that idea.  I’m putting a training stop at probably .10-25 cents  below.  I may miss a big upside if it’s volatile tomorrow, but I’ll lock in some profits.

So I made this purchase just now:

FST (Forest Oil Corp)

July 70 Call @ 2.50

Underlying stock was at 66.68, with support at 63.90, for a potential risk of about $2.70 on the underlying stock.  The delta of my call is .40, which equals about $1.08 potential risk on the option, or $108 dollars for one contract (100 options).

My current account balane stants at $4400, making $108  less than 1/4 of a percentage point risk on my total account.

I put in a stop limit order on the underlying at $62.10, or about 3% below the support to allow for some wiggle room.

Position sizing like this allows me to continue trading for a long time even IF they are all losing trades (they won’t be!).  Keeping your potential risk below 1% of your account value if your account is between $5000 & $10,000, even less if you have more money.

Stay tuned!