One reason that options trading is popular and accounts for nearly 90 percent of the daily volume on a stock exchange is because of the flexibility it offers. Apart from the low investment required for an option buyer and the potential of making huge returns in a short time, the flexibility of playing around with numbers is a key reason for options' popularity among professional traders.
One can find the best computational finance brains creating new options strategies to many who successfully trade conventional strategies. A few also come with come up with strategies, which may defy conventional wisdom. One such strategy has been designed by Jyoti Budhia who mixes conventional technical analysis with option strategies.
Born in a family of brokers, Jyoti Budhia has been exposed to the markets from an early age. She has been trading conventional strategies for a long time but it was her discovery of using option premiums unconventionally and adopting new risk management strategies that have made her a consistent trader.
Jyoti Budhia is also a professional trainer who has trained nearly 50,000 participants as part of NSE’s training program in the last 12 years. In an interview with Moneycontrol, she talks of her strategy and the key issue that new traders need to overcome.
Q: You have been in the market from a very young age, can you walk us through your journey?
A: I have been in the market since the age of 12. My father was a sub-broker and I followed him in the BSE trading ring back then. Since my mother also came from a family of brokers you can say that markets were where I was brought up.
My college, SNDT from where I completed my M.Com was also close to the stock exchange. After college, I rushed back to the market. In those days, I was among the few women in the ring, but despite the crowd in the ring, women were always treated very respectfully in the ring. I was treated as a daughter by the seniors who also guided me in my initial learning.
In 1991-92, I started plotting technical charts under their guidance. They also taught me the nuances of fundamental analysis. Equipped with this knowledge I traded in the markets.
Since then, I have gone through cycles of profit and loss. Though I understood the importance of stop losses, over-confidence led to losses. It was always only one or two trades that caused most of the losses.
I managed to come out largely unscathed in 2008 but 5 years back one trade -- in Idea -- gave me huge losses. The stock gapped up against my position and when I reversed my position it again gapped down and caused huge losses.
These losses are all part of the learning process. After every loss, I go back to the drawing board and try to learn from it.
Q: How has your trading process evolved over the years?
A: The one important thing that has changed in my trading now, which is the result of years of learning is that today I think of stop loss and my exit first even before taking the trade. Unless my emergency exit route is not in place, I do not trade. This has been the key ingredient that has smoothened my equity curve.
This first thing is I go through the various charts in search of patterns. I look out for flag patterns, rounding tops and bottoms, triangle breakout or breakdowns. I also look for stocks near trendlines, support or resistance.
After identifying stocks through this screening I then use my proprietary strategy from trading these stocks. I use something that I call Jodi Bhav which is nothing but the total of a straddle pair. (Straddle is an options strategy where the call and put option of the same strike is either bought or sold).
I will explain this with a recent trade that I took.
I was scanning through the charts and identified Tata Motors DVR, which was showing a rounding top, had broken a trend line and its RSI (Relative Strength Index) were below 30 suggesting weakness in the stock.
Further, the price was below the expiry day closing of Tata Motors DVR. For me, the expiry day closing is the pivot which I use for taking a long or short position.
The expiry day closing of Tata Motors DVR was Rs 69.8, I added the price of call and put off 70 strike options which were Rs 8.7.
I reduced 8.7 from the expiry price which gave me a figure of 61.1, this was my target for the stock if it falls. I bought a 60 strike put which was available at Re 1. The stock fell to 61 in four days and my put was trading at 2.40.
I booked half my profit at that level. At this point, the 55 put was available at Re 1. I wrote that put to lock my profit. If the price fell till 55 in the coming days I would make incremental money on the trade, but if it moves up I would not lose as the written option (55 Put) would depreciate and save my capital.
I use this strategy very frequently. By scanning, I get around 2-4 trades in a week, which is good enough for me.
The other trade I took last week was in Reliance where I created a spread strategy by buying 1200 put and selling 1160 put.
The stock was trading below the expiry price and was trading at around 1230 when I entered the trade. The trade cost me Rs 13 when I entered. The 1240 strike Jodi Bhav was 73, which gave me a price target of 1157. I created the spread with a target price of 1160 in mind. The price on Thursday (when the interview was taken) had touched 1157.
Titan and Aurobindo Pharma were the other trade that I took. While Titan has been good Aurobindo Pharma has not moved much. My success rate is around 60-70 percent over the last few years.
The key aspect of my trading is the use of Jodi Bhav as a tool for calculating support and resistance levels.
Take Nifty of instance. Its expiry last month was 11250 and it's Jodi Bhav was 337. This gave me a support level of 10913. The market touched my level on Thursday.
Q: What about exits?
A: For me, the expiry day close which is a pivot also acts as a stop loss.
I will also exit if the chart turns weak or strong depending on my position. But if the chart showing strength in my direction I will trail my position by locking my profit.
I will exit my position in one of the three ways – either by trailing, a complete exit either if stopped out or chart pattern does not agree to my position or I will lock my position and let the profit run.
But under no condition do I trade without a hedge. If the trend is weak, I will short but buy a call option against it.
If the market is sideways I would prefer using an Iron Condor or an Iron Butterfly trade rather than straddles or strangles. At any point I have only 3-4 positions as monitoring them is easy.
The risk-reward on my trades are never lower than 1:2 and have been generating 2-3 percent per month consistently. Despite the drawdowns, the returns have been around 25-30 percent over the last few years.
Q: You have been training at various platforms for nearly 12 years, what is the most difficult thing to overcome for new traders.
A: Many students come with the notion that after taking a 2-day course one can learn everything about trading and start making money from the third day. They want a crash course in becoming a professional trader. Most of them want to leave their job and become full-time traders.
It takes a lot of time to change this mindset. I tell them to leave their job only if they are regularly earning four-time of their salary. And when they reach that level, few traders quit as by then they learn to respect the uncertainty that market offers.
A salaried job offers the peace of mind of receiving a steady income at the end of the month. In trading, if one is in a losing streak he would try to increase the size by the end of the month to make some money for the month. In the next month, he would be more aggressive to recover money lost in the earlier month. He enters in a vicious cycle and loses his mental balance to make informed decisions.
Many students come with the mindset that trading is easy. They come with the impression that all you have to do is look at charts and trade.
It’s this mindset that takes a lot of time to overcome. We handhold our students for nearly a year by making them paper trade. In paper trading itself, it becomes clear that trading is not as easy as they thought.