Flexibility and Psychology in Selling Naked Puts

How to Find Great Put Selling Trades
(Part 3 of 3)

In Part 1 of this 3 part series on finding great put selling trade ideas, we talked about the advantages of constructing your own personal watch list of stocks you actively monitor for attractive put selling opportunities - along with some ideas to keep in mind as you go about constructing that list.

And in Part 2, we covered the importance of clarity when it comes to mastering something - and in this instance, how we need to reject the wishy-washy platitudes of generic put selling and instead be laser focused on why we want to sell puts in the first place.

In this article, we conclude our three part series with a discussion on a key attribute I really believe you need in order to be a successful seller of puts - flexibility.

So let's limber up and see how flexible we can get . . .

Cracking Mr. Market's Code

The 2014 film "The Imitation Game" depicts the Word War II story of how the Allies cracked the German's encrypted intelligence codes.

Benedict Cumberbatch plays the role of Alan Turing, the brilliant but anti-social mathematician who constructs a massive, mechanical computing machine designed to run through every possible mathematical combination in order to decipher the code.

But the process is impractically slow.

There's no way the Turing Machine can process every possible combination in a singe day - and even if it did manage to crack the Enigma code, it would be a short-lived victory as the Germans change the "key" to the code every day.

So, as constructed, it's a futile, never ending chase.

I find an important correlation between the dilemma faced by the cryptanalysts in the film and what we face as put sellers

Below is an excerpt of some personal correspondence I had in January 2017 with a then newer member of he Leveraged Investing Club.

This wasn't entirely the point I was making at the time, but it does tie in nicely to what we're talking about here.

So how do you gauge the ratio between "right" and "wrong" trade ideas?

[editorial interjection - just to reiterate, we almost always make money at the end of the day regardless of whether we were originally "right" or "wrong" on a trade.]

Unfortunately, I don't know. I think that's something that's always going to be in flux to a degree since the market itself is always in flux.

What worked six months ago may not work six months from now, and vice versa.

>> Last year we had a whole series of beautiful trades where the common denominator was beaten down stocks of troubled but still profitable businesses.

It was a nice convergence of profitable businesses, very low valuations, and key technical support in the area and we had a number of great trades on a variety of stocks like MU, CAR, MS, AAL, and HPE.

Those opportunities are long gone now as those stocks are all trading much, much higher.

>> Now the best opportunities seem to be in retail, although I'm a little nervous about devoting too many resources to just one area of the market.

>> Back in 2015, in my 10 year old's personal account, we mostly sold KO puts all year long when the stock was trading in the upper $30s and thereabouts - sometimes the position was a little in the money and sometimes not. By 2016, that particular opportunity was gone

Life - The Grat Balancing Act

While I have definite trade selection, set up, and management processes and protocols, that doesn't mean it's in my best interest to rigidly enforce them.

I certainly understand the urge to look for that single formula or one indicator or specific situation that's 100% foolproof.

But I've also come to appreciate that the quest for great put selling trade ideas is also part dance.

Just because something involves math doesn't mean it's exclusively rational.

Just ask Alan Turing - the Enigma code wasn't cracked until the team became mentally flexible enough to begin considering the puzzle from a non-mathematical perspective.

They only cracked the code when they incorporated a human element - the psychology of the Germans themselves - into the mix.

In the same way, we also need to understand Mr. Market on both levels - the mathematical one and the psychological one.

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Warren Buffett Zero Cost Basis Portfolio Current Equity Holdings:

KO - 125 shares
KMI - 100 shares
BP - 100 shares
MCD - 30 shares
JNJ - 25 shares
GIS - 25 shares
PAYX - 25 shares

Open Market Purchase Price: $20,071.83

Less Booked Option Income: $16,341.71

Tot. Discount: 81.42%
Adj. Div. Yield: 19.59%