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Spread
Scan Issue: December 07, 2006 - Volume 121
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Joe Ross Spread Trading Newsletter.Each week we present spread trading examples and opportunities in order to help you become a more professional spread trader.
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Today we consider an inter-market energies spread: long January 07 Heating Oil and short January 07 Crude Oil (420*HOF7 – 1000*CLF7). Since making its low in September, the spread has been in an up-trend channel. Now seasonality comes into play. Will it help to move the spread higher? Will the spread break out, or will it stay in the trading channel? Please note: NY markets are not easy to handle. Please talk to your broker before you enter any trade!
Traders may want to enter the spread at $14,630. Please ask your broker about the margin. Suggested risk is $1,500. Initial projected objective is $1,500, then a move to $20,000 or higher. Basis is seasonal (11/30 – 12/20).
On October 23 we told subscribers of our daily newsletter, Traders Notebook, "Consider entering an intra-market meats spread LCJ7 – LCG7 at a spread value of 0.925. Margin for the spread is $540 (reduced margin). Suggested risk is $400. Initial projected objective is $400, then a move to 4 or higher. Basis is seasonal and a 1-2-3. Comment: Please check with your other spreads. Maybe you are already in FCF7 – LCG7."
Here's how we suggested managing this trade:
11/28 Suggest entering MOC tomorrow if not already in the trade.
12/04 Suggest moving stop to 1.175.Open equity on remaining contracts: $160 per contract.
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Student's Question: "Andy, is it dangerous to take trades in related markets at the same time?"
Andy: Yes and no! As long as you know the markets are related, and you know what can happen if something goes wrong, everything is fine. The problem comes if you don’t know about the relationship of your spreads. Very often the relationship is easy to see. For example, you are in FC-LC and now you see a new trading opportunity in FC-FC. It is obvious the spreads are related to each other. But what about W-W and C-C? Or even more difficult to see, the relationship between Feeder Cattle and Corn. Unfortunately, I am not able to give you a general answer. All you can do is to look at the charts. Find out how strongly they are related, and try to imagine what happens if one of the markets goes crazy. Example: Imagine you are in the spread A – B and you are thinking about entering X – Y. Now, all you have to do is to think about what will happen to X – Y if A falls like a rock. Or what will happen if B rises to the Moon. Do it for each contract of all of your spreads, and try to find out how it will affect all your open positions as well as the ones you would like to enter.
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Disclaimer:
The Commodity Futures Trading Commission has asked us to advise you that trading spreads is complex and carries a high degree of risk. While there is opportunity for incredible wealth building, there is also the risk of losing even more than you invested. Of course, that's not unlike most other businesses. But informed traders are the best traders!