Step3 Prophet

A look at how my USO stock is performing - Part 1

  I 've held United States Oil(USO) for several years now in the belief that oil prices can generally only go up. I say generally because we all remember back in the summer of 2008 when gas prices sky rocketed, fueled by a mini-bubble in the price of crude oil, only to come back down again later that year. It was this bubble that peaked my interest. If a commodity is overpriced, eventually it's price will swing lower, and usually over correct. I thought this over correction would be a good time buy, and chose USO to be the investment vehicle. I haven't thought much about it since then, but recent events in the commodities market have caused me to doubt my USO investment. When values are going up and everything looks good, it's easy to ignore problems with and investment. I suspect that I haven't been getting what I thought I was from USO.  Some questions that I would like to answer are: how accurately has USO actually tracked the price of crude oil, how it compares to the general market, and how it compares to alternative oil plays. 

  A little background about USO: It was created on April 10th, 2006. It's a Limited Partnership ETF with "The investment objective of [...] changes in percentage terms of its units’ net asset value (NAV) to reflect the changes in percentage terms of the spot price of light, sweet crude oil delivered to Cushing, Oklahoma, as measured by the changes in the price of the futures contract on light, sweet crude oil traded on the New York Mercantile Exchange (the NYMEX)." Quote source and image source is Google Finance. Basically what it means is that If oil prices go up by 10%, then the USO ETF should go up by that amount as well.

  Some Crude History: For some reason finding commodity prices is a little more difficult than a historical stock price, but I came across this Crude Oil Price History table showing week-ending prices from 2006-Present, which is good enough for my purposes. A brief review of the table shows December 30th, 2006 prices of $61.04, a high point on July 4th, 2008 with a price of $145.29, a low point on January 16th, 2009 $36.51, and a current price of $105.40 as of March 25th, 2011. This jibes well with what I vaguely remember from several years ago.  If you bought around the low price in 2009, you currently would be up about 288%. That would be pretty sweet! The graph shows the price history of crude and USO from 2007 to present.

Some even cruder history (mine): So I had this brilliant idea to buy after the oil price swings to the low end of the spectrum, but how well did the execution go? I currently have 70 shares of USO, with an average price of just under $31. Current share price is just over $42, which means my current gain is about 35%. The information my brokerage gives me supports that (37.03% by their calculations). That's not bad, but considering that I could have had 288%, what happened to my other 250%? 

  Maybe I didn't buy at the right time. Looking back at the price history it's very easy to see when you should have bought, but at the time you make the purchase it's hard to know. Here is my purchase history:

Date of Purchase	Shares bought	Purchase Price	Percent gain
2009-01-02	5	$35.47	19.40%
2009-01-07	3	$34.92	21.28%
2009-01-07	3	$33.37	26.91%
2009-01-13	3	$31.43	34.74%
2009-01-26	6	$32.65	29.71%
2009-02-04	14	$28.98	46.14%
2009-02-09	13	$28.50	48.60%
2009-03-06	14	$27.50	52.83%
2011-02-09	9	$36.65	15.55%

Holy mackerel of auto-complete! The bulk of my purchases occurred right around the low point in 2009. Another interesting thing you can see from the purchase history is that the price low point in USO appears to occur in March of 2009 vice January. A review of USO's price history shows the low point was actually in February, but there is not a huge discrepancy between prices.

A deeper look at USO vs Crude Oil. The graph of price history above clearly shows that USO does track crude prices. I took a closer look at several years worth of weekly data to figure out what is going on. Out of 200+ data points, I came up with this graph for Difference in the Percent Price Change of Crude Oil vs. Change in USO. A value from 0-1% means that for that week the change of USO's price was between 0-1% less than the change of crude oil. Less than 1% difference would mean it's tracking fairly close to the commodity. However, the majority of the price difference changes are greater than 1%, even as high as 19%! That is wildly out of sync with what USO's stated goal is. Looking at the numbers, we find that the value lag is greater than 1% over 50% of the time. For comparison I did the same calculation on SPY, which tracks the S&P 500 index. The difference was shocking. SPY deviated by more than 1% from it's index only 3% of the time, and the highest weekly deviation was less than 2%. By comparison USO is greatly under-performing (I know it's not an apples to apples comparison). Overall the standard deviation for USO is about 2%, which seems fairly small, except when you realize losing 2% a week is how you go from a potential 288% return to a 37% return. FYI, SPY's standard deviation is 0.30%  Also, USO is under-performing against the general market. A quick comparison between USO vs the S&P 500 on Google Finance shows that USO is lagging by about 13% since January 2009. I would have been better off just buying VOO(If it had existed at the time). 

Why USO lags the price of Oil. What separates USO from SPY is that USO cannot directly hold the commodities it wants to track, while SPY, which is based on large US stocks, can easily buy and sell equities to maintain parity with the general market(I won't go into details of how SPY works here). USO, on the other hand, plays the oil market by buying futures contracts, which are promises to pay a certain price for oil delivery at a future date. Since USO does not want to store oil, they must sell their oil contracts every month before the contracts are due. If the price of the oil contracts for delivery next month is higher than the actual delivery price(and it frequently is), this means they lose money every month just selling and buying contracts. The term for this unfavorable price difference is contango. This is actually spelled out in the USO prospectus, but I don't think I would have realized the impact of what that paragraph implied without seeing the results in action for myself. Here are some links with some more detail on why this is the true: How Contango Affects Crude Oil ETF's and ETN's (USO, OIL, DBO), and Commodity ETF Basics.

This post is running long so I'll do a Part 2 shortly. Next time week look at other alternatives.

Getting Rid of Junk Mail

  I've been through a lot of changes in the past few months: moved into a new rental house, bought a new car, bought some expensive equipment for the car using a store 0% financing offer.  While I'm excited to make the changes, one thing I'm less than thrilled about is junk mail. Whenever you apply for credit, buy magazines (which USPS offers you upon a change of address), or buy a house your name and address gets sold around to all kinds of advertisers, so you start getting lots of "PREAPPROVED" and "IMPORTANT OFFER" letters in the mail, which are annoying at best and could be very dangerous to your credit if they fall into the wrong hands. Not to mention those "cash advance" checks that could easily cost you hundreds of dollars with just a signature. So what can you do to make it stop?

  If you look at the credit card offers, usually they will include an OPT OUT notice with a number you can call to not receive pre-screened offers. I did this successfully several years ago. Since I move locations fairly often, most of my mail went to my parents house and I would collect it every few months. I went from getting 20-30 offers a month down to 3-5. After my most recent move and credit applications, however, the flow "SPECIAL OFFERS" has gone from a trickle to a fire hose spray once again. I've recieved 10 in just the past two weeks!

  How to stop credit card offers: When it comes to credit card offers you need to do two things: Call each company who you have a card with, and tell them not to send you cash advance checks. This usually takes a few minutes for each company. To stop new credit offers from companies you don't currently do business with, you can call 1-(888)-567-8688 (That's 1-888-5 OPT OUT) or go to www.optoutprescreen.com. By calling or using the website you can get a five year opt out in place. To permanently opt out you must sign and mail in a form available on the website. It took me less than 5 minutes to complete the web resgistration.

  To deal with offers from companies you already do business with is a little more difficult. You have to contact each of them directly, because they have a legitimate reason for having your name and address. Some sites make it easy, for instance, the American Express website has a communications center where you can tell them not to send you any "special" and "valuable" offers from them or their affiliates. Just look under Alerts and Communications, then under Privacy. Other companies you will just have to call the company and ask the customer service representative to remove you from their list.

To make other direct mail offers go away: The easiast way should be to go to dmachoice.org  which is run by the Direct Marketing Association. It feels kind of like going to the devil to make a deal, but from what I've read online it works. I tried to sign up, but I had trouble regeistering with them. Once I hit submit to send in my registration form, it just took me to an empty page with their header and footer. I tried re-registering with the same result, so maybe I should expect an email? I don't know, so if I don't hear from them by tomorrow, I'll try again or write them an email. Supposedly there is a $1 fee to get on the OPT OUT list, but I didn't make it that far in the process.

Once you have opted out, it will take awhile for companies to get the word. DMAChoice.org says to give it 90 days. During that time you should see your junk mail taper off. On the down side, the opt out is only good for 3 years, then you have to renew your opt out with DMAChoice again. Also, companies you have a relationship with (ie you've ordered from them before) need to be contacted directly to remove your name and address from the their mailing list.

Where to go for more info:

http://www.wikihow.com/Get-Rid-of-Junk-Mail

http://www.ecofuture.org/jnkmail.html

2010 Contributions to Roth IRA

Earlier this year I contemplated spacing out my Roth IRA contributions over the course of the year, looking for the lows and avoiding the highs. Sadly, the execution of that strategy did not go so well because this year has been a pretty steady climb for my preferred IRA investment, Vanguard's REIT index (VGSIX). I like it for my IRA because REIT's throw off a lot of dividends, and the IRA keeps those dividends tax free for now. Looking back now I would have been better off to just invest all my IRA money in January and collect the extra dividends and appreciation, but it's too late for that, so it's time to come up with another strategy. I've still got the bulk of my 2010 IRA contribution remaining, and since VGSIX has gone up so much this year, I'm going to diversify into something else (1 yr growth for VGSIX is 31%, whereas the S&P 500 index VFINX is only up 9%).

I've had my eye on some of Vanguard's Dividend funds. This wouldn't really be diversification actually, since I hold so much S&P 500 stock any way, but it would be a concentration of potentially higher quality stocks. Solid companies + Reinvestment of Dividends = high returns. Two fund that fit the bill are Vanguard Dividend Appreciation Index Fund (VDAIX) and Vanguard High Dividend Yield Index Fund (VHDYX). They both have high dividend yields, and expense ratios are the same as well. They are also both at a 52 week high right now, which make me reluctant to buy. Since everything is on a high right now, I'm going to hold off on my contribution a while longer. Thanks to IRA rules, I have almost 4 more months to decide.

Maybe it's just the engineer in me, but I love the way the IRS spells everything out on their website. IRS publication 590 covers IRA's, and it says:

You can make contributions to a Roth IRA for a year at any time during the year or by the due date of your return for that year (not including extensions).

 

You can make contributions for 2009 by the due date (not including extensions) for filing your 2009 tax return. This means that most people can make contributions for 2009 by April 15, 2010.

So I have until April 15, 2011 to make contribution for my 2010 IRA. I'll give the matter a little watching.

 

Free Credit Report After Buying Insurance

I got a Piaggio MP3 motorcycle to commute to work and have some fun. As part of the process I had to get insurance. Normally I use USAA for most banking and insurance items, but motorcycles are not covered directly by them and USAA has a deal with Progressive to cover motorcycle operators. Turns out motorcycle insurance is relatively cheap, but I didn't get the best rate according to Progressive because of items in my credit report. Progressive was nice enough to spell out in detail what factors went into their calculations, and because I didn't get the best rate I'm entitled to a free credit report from Experian.

My overall insurance score was 96. Apparently lower is better, and everyone starts with 100. I was given acknowledgement for having no late payments in the past seven years, and having a credit account at least 7 years old. The lack late payments was by far the bigger factor. I was deducted points for having a credit application within the last 700 days and opening a revolving account in the last year. Applying for credit is by far the biggest factor, but what affronts me is the time periods they look back. Seven hundred days is a long time to look back at credit applications. I have 10 credit accounts in good standing, which means I apply for credit about once a year, whereas they want no more than 1 every two years. When it comes to actually opening accounts, they look back 8 years at revolving credit accounts. Given that I opened my latest revolving credit account only 2 months ago to take advantage of a 0% APR offer, this wasn't a very big hit. Everything in the report about me is accurate, but it seems a little odd. Progressive also gave some interesting statistics for recent "average" insurance customers:

Credit Info	Averages
Number of open, satisfactory accounts:	4
Months since opening most recent account	11
Years since earliest open credit account	10
Number of collection accounts	2
Months since most recent past due payment	7
Most days any payment was past due in last 7 years	2
Number of days since most recent application for credit	161

The statement from Progressive compared my data to the averages. They made it clear they got their info from Experian, and gave details on how to contact them about my credit report.

It's been a while since I've looked at my credit report so I'm not going to pass up the chance to get it now for free. I could get it for free from www.annualcreditreport.com, but why waste my yearly opportunity. I went to Experian's website looking for a way to simply get a credit report, but I could not find it. The whole website is a total up-sell for their useless products and services. 

Luckily the information from Progressive also had a phone number I could call to find information about my free credit report. Calling that number resulted in me being directed back to the website, but to another page. The location for just seeing your credit report is the Credit Report Access page. There was a little bit of up-sell here, but I was able to get where I needed to go. The downside is that I couldn't access it online that same day. Experian is going to mail me an access code for "security purposes". Whenever I use annualcreditreport.com I get the report  right away, so this seems like something else is going on. I'll post an update once I actually get the report.

New Nook e-reader!

I'm a big fan of moving things over to digital (music, paperwork, business transactions, etc) but up until now I haven't really been satisfied with digital books. I've read a few on the PC, but that was usually because I couldn't get them anywhere else. The advent of the kindle caused me great excitement, since finally a major book distributor was supporting an e-reader, but I felt the device itself was lacking and the price point of $9.99 a tad high since I mostly buy paperbacks.

  Fast forward to 2010. I've sold the majority of my paperbacks(for space reasons mostly, plus extra cash is nice), and while I'm always buying more, space has been a big issue since now I travel more as well. Barnes and Noble book sellers has come out with a product that compares favorably to the kindle, and is better in many, probably most, areas.

   I ordered my Nook in early January. It was back ordered at the time, so the estimated shipping date was Feb 12th. Thankfully, it shipped sooner than that and I actually received it on the 12th. I would have received it sooner, but they don't ship to FPO AP addresses so I had to go through a trusted agent in the States. The Nook is not supported in anyway shape or form outside the physical United States. I knew this going in, but I am still surprised at the lengths B&N will go to in frustrating people outside the US. 

  I opened it up and set the Nook to charging. After it was fully charged (it took about an hour), I started the setup. One of the big features that I like is that Nook works with both 3G and wifi. Since I'm not in the U.S. , I can use my local wireless router to transfer files and download books. *I thought I would be able too, but this is incorrect since I can't register my nook. It recognized my wifi network after a short wait, and I was able to enter the WEP key with no problems. It was a little disconcerting entering the 16 digit key because there is a noticeable lag from when you press a button until the Nook responds, and I had to keep switching back and forth between the text and number touch screens. I think B&N recognized the lag and put in a feature where the password block displays the character you just entered before masking it on screen.

After I got some books on the nook, I went to my library.They didn't show up at first, but when I pressed check for new content,  it found the 7 new books I had downloaded from my PC.

The good:

• The user interface is fairly intuitive, which is good because the manuals that come with it are pretty light. However, you can download a 177 page users guide from the B&N website.
• My windows vista PC recognized the nook right away, and the nook realized it was plugged into a PC.
• Wall charging adapter included, which makes for faster and more convenient charging.
• Easy right and left hand page turn buttons. 
• Several different power saving modes. Once an image or text is on the main screen, it consumes no power. 
• Ability to lend books to friends for two weeks at a time. 
• Easy to replace battery 
• You can name your device. Hello "The Readinator'
• I found a software update on the B&N website. Download and install to my Nook manually was a snap.



• Buying and downloading ebooks is extremely quick, once you get around the limitations of the store. (See using the nook outside the US below)

The bad:

• Removing the nook for the hard plastic holder was incredibly difficult to do gently. There were actually instructions hidden behind my receipt that must have been late packing addition. Too bad I didn't see them first, although I ended up doing exactly what they said anyway.
• I checked out the settings and found that of the "2GB" of storage space, 1.28GB is actually usable.
• My first attempts at registering the Nook failed. This may be user error, or it may require 3G.
  Prognosis is lack of 3G connectivity. See Using Nook outside the U.S. below
  
• Long boot time and lagging input recognition time. This makes browsing annoying, but should be fine for just reading. 
  *I figured out that the touch lag is partially because Nook won't complete a touch action until you remove your finger.
• Pre-Ordering and Purchasing books with an FPO address is not allowed. Luckily, I also have addresses in the U.S.
• Scrolling on the touch screen sucks. The graphic is poorly made, and the touch response poor as well. It's still usable though. 
  *After reading the manual, I discovered that the scroll bar really is just for show. You can touch anywhere on the screen and scroll, which is why it highlights a selection first. Once you start scrolling the item is deselected.
• The Nook is not waterproof, so no reading in the rain. Thank you users guide.
• You can only lend an Ebook one time(unaccepted lending offers don't count). That really pisses me off. I can lend a hardcopy book as many times as I went, why not ebooks!
• The DRM content stores you credit card number inside each book you buy! It's used to verify your purchases if your nook is unregistered for whatever reason, but this is pretty outrageous to me. I bet the files are not that hard for potential thieves to crack.

  The neutral:

• I can't locate the external microSD card slot. Not a problem now, but maybe later. Considering the limited number of inputs and out puts, this should be pretty easy...
  *After reading the manual, I figured out you have to remove the back cover to get to the SD card   slot, the battery, and the sim card see pic below.
• B&N already has a software update. Looks like its mostly bug fixes, but hopefully future updates will add more functionality. On the plus side, you can update manually with a PC or over the air with 3G. 
• The Nook button is not actually a button, so the manual that keeps telling me to push it really should give you warning not to push it. It's a capacitive only sensor.
• Dave Barry (the writer/columnist) has his own user guide in "The Daily" section of the nook. Meh. He's done much better work.

    Special section on using Nook outside the United States(or how Barnes and Noble makes it really hard for me to give them my money). 

•  You cannot register Nook except with 3G connectivity in the physical United States. Overseas just does not work. You either have to have someone in the States register it for you, or live with it unregistered. I will live with the limitations for another 6 months until I go back home. Being unregistered doesn't really seem to limit the stand alone usage of the device, it just means you can't used the store from your device.  
• You can't buy ebooks from the store if your IP address is not in the United States. It doesn't matter if your shipping and credit card info are in the US, digital downloads require an US IP address as well. I got around that using a proxy server with an IP address in the US. 
• I was able to open my DRM purchased content on my nook without it being registered. Thankfully B&N had the foresight to realize there would be situations where you don't have your nook registered 100% of the time. You just have to enter first and last name, and the credit card you used to purchase the book. Entering it one time will unlock all other books on that card as well.
  

It seems that the back is actually a false back. Getting the cover off the first time was not too difficult with help form the User guide, and safely reattaching it was easy as well with the UG.

 

Test run of Zecco Options Trading

A few weeks ago I signed up for Options trading privileges from my brokerage, Zecco.com, and today my options access was granted.

The basic idea is simple. I have shares of a company in my regular trading account that I'm willing to sell and make some profit on. In the mean time, I intend to sell "covered calls" so that I earn money from the shares until they get sold. Basically, it means that someone will pay me for the right to purchase my shares of stock if it rises to a certain price. The risk is that the stock will rise the call will be used by the buyer. One of the nice things about Zecco is that you can have a pretty girl explain this and other investing techniques to you. Another explanation can be found here: http://www.mindxpansion.com/options/sell-calls.php .

I logged in today full of excitement, and then discovered I had no idea how to actually execute the sale. There are something like 11 fields to input information into, and I need to learn the right way to do it.

  

My starting point is the Zecco.com education section. I know basically, what I want, I just need to figure out how to tell that to Zecco. Sadly, zecco was less than helpful on the specifics of executing the trade. I was able to figure it out with an hour of experimentation and internet research, but it should have been easier.

My trade type options are: BASIC, COVERED CALL, LONG/SHORT ROLL OUT/ MARRIED PUT.  I'm trying to sell a covered call, but it looks like when I select that option it forces me to buy the underlying stock at the same time, which I don't need to do. I'll stick with basic for now.

My transactions options are BUT TO OPEN, SELL TO CLOSE, BUY TO CLOSE, SELL TO OPEN. Once again, I'm not sure so I'll look it up. It turns out that each option transaction has an opening and closing phase, unlike a stock which you can hold indefinitely. Since I'm writing a covered call, I want to SELL my option contract to OPEN the transaction. 

The rest of the fields aren't quite as obscure.

• Contracts: The number of options contracts you are writing or buying. One contract is generally for 100 shares of the stock, so I only want to write one contract.
• Symbol: is the stock ticker symbol.
• Expiration: is the last day on which the options can be exercised. 
• Strike: is the price you will sell (buy) the stock at.
• Order Type: Limit or market. Market means you will pay the best asking price around, Limit means you will only pay a certain price or better. I prefer limit orders because it is easy to know what you will pay.
• Limit Price: Is the maximum you are willing to buy/sell a stock or option for. 
• Duration: Either Day, meaning you will only buy/sell at that price for one day, or GTC, good till canceled, meaning you have to explicitly cancel the order.
• AON: All or none; if you check this all of your order must be executed at the specified price.

To actually execute an options trade I found you had to look up the options chains for that stock, which is step 1 circled in the picture below. You just enter the stock symbol and select the "options chain" link.

 
 

Step 2 is to select the option date and price you want. The default is the closet to expiring options, but you can select future months/quarters. I chose 19Jun2010. As you can see, the higher the strike price, the less money people are willing to buy the option for. Also, as you get closer to the expiration date, the cheaper the options sell for. Once you click trade, most of the boxes are filled in automatically at the top. I couldn't fill in some of the boxes on my own, so it makes me wonder how generic contracts get written.

Step 3 is to enter the type of transaction (Sell to Open) and the number of contracts. I'm only selling one for now, to make sure I really do understand the process and don't make a huge blunder.

Finally I previewed the order:

 

Expected Proceeds of $56.00. Nice. Now I just hope that F doesn't quite hit 13.00, and so I can sell it again next quarter.

Question about a bonus and F-connect test

I'm testing out the F-connect feature of Typepad, which should link my blog w/ my FB account.

Here is a question I pulled from yahoo answers. It caught my eye because its related to military matters and finance: I am reenlisting the the Air Force and receiving a $50,000 bonus. I do not pay any state taxes so I only want to know around how much I get to keep after taxes. I just returned from a combat zone and will not be going back for a long time. I couldn't reenlist overseas because I was just short of my window. Any help would do, but someone who has received the same or near the amount I am getting and could give me a rough estimate would help

Since he can't reenlist in a combat zone, the bonus is taxed at his normal rate, which means it depends on base pay, TSP savings, and how he gets the bonus. I'll make some assumptions here to show how it works.

Let's say you are single, E-4, have over 4 years of service, and no TSP contributions, which makes for a base pay of $2094/month or $25,129 a year. BAS and BAH are not counted since they are allowances. Special pays and bonuses are taxed, so you just have to figure it out what your expected income is for the year.

This year the 15% tax bracket is between $8,350 to $33,950, and the 25% bracket is between $33,950 to $82,250. (you can find these on page 101 of the i1040 pdf.)

You get roughly $10,000 in exemptions and deductions if you are single with no dependents, which makes your starting taxable income about $15,000, which means you start in the 15% bracket and each additional dollar is taxed at that amount until you exceed that bracket.

If you get your full bonus this year, the first $19,000 will be taxed at 15% so your tax will be $2850
($15,000 regular income + $19,000 bonus = $34,000 limit on 15% bracket)

Your remaining $31,000 bonus will be taxed at 25%, so you will owe $7750 on that part.

Including Social Security & Medicare @ 7.65%:  $3825

Your total tax liability is $7750 + $2850 + $3825 = $14,400 in taxes.

In this scenario, taking your bonus over 2 or more years would save about $2000

Downsides of Home Ownership

I've been playing around with yahoo.com answers quite a bit recently, and I came a cross a question asking about the negatives of home ownership. Home ownership has been on my mind alot recently because I may end up buying a house in the next year or two, and I'm not enthused about it. Here are some of the reasons why:

-It costs lots of money to buy and sell a house. Granted, houses have a fairly steady value, but I can't buy it without financing and selling costs are horrendous.

-It costs lots of money to finance a house, starting with the loan origination fees and ending with you paying more than the value of the house in interest payments.

-You have to pay property taxes, which will probably be overvalued due to the housing bust.

-Homeowners insurance is much more than renters. 

-Homeowners association fees + HOA's themselves. While it's annoying to have some little neighborhood group tell you what you can and can't do with your house, the scary part is that they can legally seize your house under very petty circumstances. 

-Upkeep costs. In my last rental home the sewer drainage pipes under the yard started backing up. The homeowner sent Roto Rooter to find the problem, which they sort of did, and Roto Rooter offered $5000 to dig up a 4x4x4ft patch of yard and fix the problem. The homeowner decided to do it himself, and he did a good job, but I never would have been able to do it. Also, a second hole was required. If I had owned the house (and I would have bought it too if I had been offered that at move in), I would have had to pay $10,000+.  Also, every 10-15 years homes need new roof, floors/carpet, appliances, etc.

-Home values will probably be fairly constant for a while due to the housing bust, recession, and the fact that any increase in interest rates will depress the median home price due to more stringent lending standards. 

There are many good benefits of home ownership as well, but I'm just being negative at the moment.

Dabbling in Options

I've been catching up on a number of finance blogs that I used to read quite regularly, and came across and interesting article from DoughRoller called "A Simple Yet Profitable Call Option Strategy". Much like DoughRoller, I haven't really considered dealing with options until now. Normally they are only good for two things:

• Managing risk in a portfolio.
• Wild Speculation.

Options are basically a promise to buy or sell stock (or other goods) at a certain price by a particular date. You have the option to buy or sell at that price regardless of the current value of the stock.

When used to manage risk, you can do things like preserve value of your assets even if the market takes a steep dive. This is good for someone who has a short term need to persevere value such as an estate executor maintaining an inheritance for someones heirs or a trust fund for a minor. Since options used in this manner generally limit your upside gains and cost money that you usually will never see again, I have avoided them.

You can also use them to increase your leverage by making promises to buy or sell stocks that you don't actually own. Wild speculation like that gets many people in trouble with options because if you make good bet, you can win lots of money with very little down but if you bet poorly, you can lose more than you would think possible. For that reason options trading accounts have a little more stringent rules than your normal stock brokerage accounts. Anyone considering options trading should put more than due diligence into their research to understand the risks and rewards. This article on investopedia has a good overview of why people use options, but don't let their talk of rewards and risk management cloud your judgment. Options are not a long term strategy. 

I still remember and episode of "Saved by the Bell" where the class plays with stock portfolios during a lesson and Zack ends up selling the stock and buying potato futures on margin. When the potato market crashes, somehow he is left with a parking lot full of potatoes.

The third thing options are good for is generating extra income by selling options contracts on stock I already own aka, a "covered call". Basically I'm letting someone buy the right to purchase my stock at a particular price before a certain date. Since I'm inclined to sell some of my current stock anyway, I think writing options contracts and making a profit on the income is a win-win for me. Whatever happens I get the contract price. If the options expire without being exercised, I still have my stock. If the options are exercised and my stock gets sold, then I make a profit( or maybe take a loss?) that I was going to take anyway.

My preferred stock broker is Zecco.com because of their free trades. They don't have as many features as some of the more expensive brokers, but I don't really need those features for my basic stock trades. To make things simple I'll keep my options account with them as well.

  At Zecco

• Options fees are $4.50 + 0.50 per contract.
• You must complete an options agreement form, which is basically a risk assessment form followed by 2 pages of legalese, and mail it in to Zecco. You can do this anytime during or after account opening. 
• You will be given a level of 1,2,3, or 4 based on what you want to do and the risk Zecco feels comfortable taking on you. For my basic purposes I only need a level 1 clearance, but I'll apply for level 2 to "keep my options open"(haha).

Levels 3 and 4 require margin accounts, which is basically a line of credit or loan used for purchasing stock. It's another form of leverage. Level 4 requires a minimum account balance of $250,000 and allows the riskiest trades such as uncovered equity(naked) options where you do not own the stock you are promising to buy or sell.

I'm mildly annoyed that I have to snail mail the form in but I remember having to do that for my inital account opening as well. I guess I'm spoiled by the interent age and want instant gratification.

IRA 2010 decisions

I've been giving a lot of though over the past two weeks to what I should invest my IRA money in this year. Last year I did pretty good investing in the Vanguard REIT fund, but this year the fund is up quite a bit, just like everything else. With pretty much all asset classes rising phenomenally in the past year, it's hard to find what is undervalued. Granted, bonds didn't rise as much as stocks, but they are not really expected to. I'm not that confident in my bond assessments yet anyway. Headlines like this could give anyone pause " Mamas & Papas To Streamline Recruitment Process With Applicant Tracking Software Bond Talent. " WTF mate? So I've decided to let my asset allocation strategy be my guide. Currently here is where I stand:

	Current	Goal
S&P total	28.28%	25.00%
Loans	8.73%	10.00%
Small Cap	5.85%	10.00%
International	19.58%	20.00%
REIT	11.89%	15.00%
Stocks	19.81%	10.00%
Bonds	5.85%	10.00%
SUM	100.00%	100.00%

As you can see, the allocation is grossly out of sorts. I'm not going to try and force the numbers to match my allocation exactly, because that usually incurs extra fees and taxes. I'm going to pour a little more of my investment money into certain areas, namely small cap, loans, and REIT, and sell a little bit of my individual stock holdings. I won't touch bonds for the moment because I only invest with them through TSP, and I don't want to change my allocations there just yet. For the small caps stocks, I'll look at adding a small cap fund to my vangaurd IRA, or maybe using their brokerage services and getting an ETF. An ETF would probably offer lower expense ratios, and because I'm making a big one time purchase the brokerage fee would not be as big a factor.

Since I think stock prices in all areas are still overpriced, I'm not in a rush to make changes right away. I predict we'll see a drop toward the end of January and into February. My goal is to have all my IRA money invested by the end of the first quarter, so I have a little time to research funds and to time when I put my money into them and my current REIT. Loans are good to invest in any time, but I'm not going to use them in my IRA just yet, although I probably should since they are high interest generators.