One More Asymmetric Trade Setup
Larry Connors' Trading Lesson of The Day | September 23, 2024
Today we’ll look at another simple way to structure trades for asymmetric returns. It’s a good one.
This one combines a leveraged ETF with an OTM put for protection.
Let’s focus on Single-Stock ETFs because their growth has been rapid and more are being brought to the public.
Stocks like NVDA and TSLA already have large daily movements. Their volatility is high and when you are correct, you have the potential to achieve substantial returns.
Their Single-Stock Leveraged ETFs provide traders with up to 2x the daily return (they reset daily).
The list of these types of trading vehicles continues to grow. Last week Tuttle Asset Management and Rex Shares bought out what is now the most volatile leveraged stock ETF to ever hit Wall Street.
Leveraged Microstrategy (MSTU) will move double the daily movement of MSTR. MSTR’s volatility is already an astronomical 88%. The new leveraged version moves double that amount on a daily basis.
Here’s the story on it to learn more: https://finance.yahoo.com/news/etf-volatility-race-heats-200-162235893.html
Obviously, these are high-risk/high-potential reward trading instruments which should only be traded by those who can afford the risk and know how to trade highly volatility instruments.
Structuring The Trade
How can one structure a trade in these instruments like NVDA, TSLA, and MSTU to assume fixed risk with the potential for substantial gains?
It can be done by going long the stock and then protecting the position with an OTM put.
Here’s an example:
The Leveraged ETF is hypothetically trading at 50.
Buy the stock and buy a 45 put at the same time.
Your total risk is now predetermined.
You risked 5 points, plus the cost of the option.
In exchange, you have theoretical unlimited upside in the ETF.
If you’ve timed your entry well, the gains have the potential to be substantial. The potential loss is limited, predetermined and you sleep at night.
As we’ve discussed throughout “Heads I Win; Tails I Lose A Little.
Look earlier this year at the run in NVDU (NVDIA’s 2x). It started the year in the mid 20’s. At its peak in June, it was trading in the 130’s.
Hypothetically buying it for $25 and buying the 20 puts risked approximately 7 points. At its peak that 7 point risk turned into an over 100-point gain.
Of course, these types of returns don’t happen every day. Asymmetric trading is all about risking small amounts of money, likely losing a number of times, but being there when the returns are substantial.
If you were bullish on AI and NVDA earlier in the year, and structured your trade like this one, you were looking at quadruple-digit percentage gains along the way.
Go back and read the many quotes from a number of the legends in trading and in the hedge fund industry.
They all trade very differently. Yet they all have one common theme: they structure their trades to be in the position to make many times their risk.
If there’s a holy grail to trading – this is it!
I’ll see you in the next issue of Larry Connors’ Trading Lesson of the Day!
Larry
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