Tony: Thomas, we are back, my friend. Closing the Gap, the Futures addition.
Tom: We are off to a pretty, little, interesting start here today Beef, we got a lot of stuff going on.
Tony: Yes we do.
Tom: What's going on?
Tony: Not much.
Tom: A little Beef in the house, Mike Hart in the house today.
Tony: Beef, no Wick.
Tom: Yeah. What? Don't. No. No don't.
Beef: Beef, no wick.
Tom: No weck, no weck.
Tony: Whatever!
Tom: Weck.
Beef: W-E-C-K
Tom: You have a little wick, that's a weck. Okay? Don't mess it up. Okay it's beef on a weck.
Beef: Correct.
Tony: Whatever!
Tom: I have still never had one.
Beef: You got to try it. I mean
Tom: Where am I going to try it?
Tony: They go back and forth to buffalo a thousand times.
Beef: We know the right people.
Tom: I know that we know the right people, the problem is nobody has brought one home.
Beef: All right, I'm going back in October.
Tony: Christmas won't be coming this year.
Beef: I will bring one back in October.
Tom: You're going to have to wrap it up, do a nice job.
Beef: Oh yeah?
Tom: Bring it back, a couple of them.
Tony: Do me a favor, don't wrap it up, throw it on the floor a couple times and then feed it to him.
Tom: 8:07, Thursday, July , September 4th, its feels like groundhog day so it could be July 4th or…
Beef: What's the difference?
Tom: August 4th. It doesn't really make a difference, we are September 4th right now. S&Ps are up 6 bucks, they are at pretty much right around new highs. NASDAQ up 12 bucks, not new highs but its close enough. We have already scout the NASDAQ a couple times today, probably we'll put on one more offer in there Tony.
Tony: Got it.
Tom: I don't know why but, just because it's working, maybe it's one of those inside days. I don't really know. You ready Beef?
Beef: Let's do this.
Tom: We did a segment with you on Closing The Gap of the Futures 2 weeks ago. The segment was on futures calender spread, and at the time we were talking about oil, and we were talking about trading the front 2, the 2 most active months of oil and the spread between those 2. If you remember it was trading for around 46, 47, 48 cents when you came on the show that morning.
Beef: Yup
Tom: I hadn't done futures oil spread in a while. Right, Tony? We hadn't done that in a while.
Beef: No.
Tom: You said,
Tony: Futures oil? I don't remember the last time we had done one.
Tom: You came on and said you've been trading this for about 10 years. I mean I knew that, but
Beef: Yeah.
Tom: You were trading it for about 10 years, and you traded millions of contracts a year of these spreads. I'm thinking okay, this is interesting. There's a huge capital saving, it's a different kind of spread. Let's see what happens. I bought some at 47 I think I paid. The next day they were trading 46, 47. Pretty much all day they moved around
Tony: That's $10 a tick.
Tom: Yeah it's $10 a tick. It moved around a couple of ticks. Next day it moved up to in the low 50s. We took it off, we said okay, this is nice. Made a few chuckles.
Beef: Nice little scalp.
Tom: Nice little scalp. We did that a couple of times, and say okay this is cool. Next thing you know 2 days later it goes to $1. The Beef held it up until a buck.
Beef: Yup.
Tom: I mean actually I went to buy it up until $1.10 or something. Right now it's trading for 75 cents. We figured okay, let's come back to do another show, but this time let's talk about different things that I could have done or you could've done rather than I didn't really need to take. I just took the profit because it'll be fun for the show.
Beef: Sure.
Tom: But I would've rather done maybe
Tony: Hey if you thought it was going down to $1 you would've held it.
Tom: Yes.
Tony: Oh it's you.
Tom: My point is that maybe there were some other things we could have done. Let's see.
Beef: Yeah absolutely. Let's do this.
Tom: As a follow up to the previous segment covering the /CL crude oil calendar spreads. Today we'll take it one step further. And we'll look at a trade known as a butterfly calendar spread.
Beef: Okay.
Tom: This is very different than a traditional equity butterfly. Explain.
Beef: Exactly, that's actually right where I wanted to go with this, is a, everything… Forget the options world for a minute when we talk about future butterflies. We're talking about each month in the future and a strategy around it. Basically as a spread is you're buying the front, you're selling the back. A butterfly is just one step further where you sell the second month, and then buy the third.
Tom: Okay.
Beef: We'll get more into it. I'm just verbalizing it right now.
Tom: This is a calendarized butterfly. Rather than selling the spread that you're long, you're maintaining some risk relationship to a further out bases instead of… You're going to be shortened out 2 of that middle strike, and long the near month and the far month.
Beef: Correct.
Tom: Okay.
Beef: Yup.
Tom: All right.
Beef: That's actually well-said how you said that. Perfect.
Tom: The plot.
Beef: That was well said. I like that.
Tony: Oh don't you suck up to him now too. I mean I don't need you to come up here and do this.
Tom: Tony…
Tony: I expect better out of you.
Tom: Tony
Tony: Yes.
Tom: The plot thickens.
Tony: The plot thickens. That's correct.
Tom: Every crude oil future trades at its own price and expiration. The price differential between months is known as a calendar spread. What are we looking at here Beef?
Beef: Okay. We see each month is being plotted, and the price of each month going back to March. Do you see where this spread is wider on the chart and then it gets narrow?
Tom: Yes.
Beef: That's the spread between prices.
Tom: Okay. It's clear that this spread has, I mean based on what I'm looking here, which goes back to March of 2014, this spread trades… It moves all around the underlying, the natural underlying price, but the spread seems to widen and narrow, meaning that… There looks like there's some mean reversion between all those different colors.
Beef: Absolutely.
Tom: I don't even know what the mean is, but it looks like there's a mean reversion between all those colors.
Tony: Right. But it's $100 top to bottom if I'm looking at it right. It might be from 94 to 104?
Beef: Well so yeah that'd be kind of the price range and also you-
Tom: But that's crude oil price range. That's not spread. We're talking about spread.
Beef: This is crude oil price and we're just plotting each individual month going back.
Tony: Yeah, yeah, gotcha.
Beef: This will be more into like the calendar spread that-
Tom: What you want to take away from this picture is all the different times when the spread widens out, and all the different times when the spread narrows.
Beef: Right.
Tom: It's just a visual, because while also you're trading a calendar spread, you're trading it because either you're selling it… Well, actually it's a little different in this world. Either you're trading it one way or the other when it's real wide. You're buying and selling it when it's real wide or you're buying and selling it when it's real cheap to take advantage of some, of this kind of movement.
Beef: Exactly.
Tom: Somebody wrote me last night and said, "Don't say that it's cyclical, say that it's oscillating. Call it whatever you want."
Tony: Sure. Call it whatever you want. Right right right.
Tom: Call
Tony: It's a one-half dozen of dollar.
Tom: That's right.
Tony: Maybe oscillating is a better way, but yes.
Tom: It could be oscillating, it could be cyclical, but whatever it is there is this kind of movement with the spread, and what we're trying to do is when most people think of spread movement… Beef, they think of it like this, okay? Which is reversion to the mean like volatility, but what we're actually doing here is this kind.
Beef: Correct.
Tom: That's the calendar side.
Tony: Right. Think Sosonoff-like. It's Sosonoff-like. It's this cool. It's getting wider.
Tom: Bobby Jenks.
Tony: Right.
Tom: Oil spreads are often highly correlated to the price movement of spot crude.
Beef: I wanted to just put this up [crosstalk 00:07:25]
Tom: Yeah, let's put some perspectives around that.
Beef: Yeah, often you'll see. I had a lot of questions why did I, why when I came out of the show last time we want to get long the spread. It was actually, it was related to the price movement. We were at a lower range of the actual spot price. It come off quite a bit, and the spread had also come off, so that was one of the factors of why I would get long that spread at the time.
Tom: Yeah, the difference is that even though you wanted… Well, the difference is that whatever you do in the front month. That's, with commodity options, futures options. Whatever you do in the near month is whether you're buying or selling the spread.
Tony: Is what you do in the spread. If you buy in the front month, you sell in the back month, then you're buying the spread. If you sell in the front month, and buy in the back month, then you're selling the spread.
Tom: Yeah. Are the spreads? Is this a…? Is the correlation between the, like for example in oil spreads. The correlation between the price of oil and the spread, is that a consistent? Or does that change just like bonds and S&Ps change all the time?
Beef: Changes all the time, and sometimes-
Tom: Right. There's no give in.
Beef: No way. Sometimes oil will be down to $2 and the spread rallies 15 cents in-
Tom: Right. Right.
Beef: Yeah, it's not perfectly correlated and just as kind of a general rule I think.
Tom: Right. For example, let me just give you another perfect example, because we're on the same topic. This… A lot of us have the NOB spread on, myself included.
Tony: That's Bonds Over Notes.
Tom: NOBs are Notes Over bonds.
Tony: Whatever, well you have it, but yes.
Tom: NOB spread is Notes Over Bonds.
Tony: Got it.
Tom: Notes Over Bonds.
Tony: If you're buying the NOB spread.
Tom: It's Notes Over Bonds. That's what NOB stands for, Notes Over Bonds. This morning, bonds are down-
Tony: If you're buying the spread.
Tom: 16 ticks. Now sometimes when bonds are up the NOB spread outperforms, and sometimes when bonds are down the NOB spread… The NOB spread outperforms. You don't really know. This morning notes were down 5 ticks, bonds were down 16 ticks, [inaudible 00:09:26] come in 11 ticks with bonds down. You don't know which way… You know what I'm saying?
Beef: You know the general feel, but you don't know.
Tom: That's right. That's right. I guess the takeaway from this is these are all interesting ways to trade.
Tony: Yeah. Yeah.
Tom: You can think Marshawn Lynch is going to be the best running back in football but you don't know.
Tony: That's correct.
Tom: Can be some guy you've never heard of. He might not even play.
Tony: That's correct.
Tom: I want this to be clear. It's no different. Tony…
Tony: You're making me sick.
Tom: You might want to put.
Tony: I'm happy that you're [scalping 00:09:55] pretty easy-
Tom: You might want to put that one down on the board too.
Tony: But you're making me sick.
Tom: People ask me all the time, why you guys, why? What's interesting about Bob? Not the actual winning trades whatever it is. It's the activity. When you see the screens blinking a lot.
Tony: Looking for opportunity. Right.
Tom: It's we just made 3, 15 handles of a NASDAQ. It's just that activity pre-market that keeps you engaged, because the screen keeps blinking today, because it's busy.
Tony: That's correct.
Beef: Absolutely yeah.
Tom: At least so far. Yeah. That's the correlation. Let's go to the next slide.
Beef: Yup.
Tom: Much like a calendar, the spread between the two-
Beef: Which is the spread between the two months.
Tom: Which is the spread between the two months.
Beef: Yeah.
Tom: A calendar butterfly can be thought of as a spread between two spreads. I like that. To better understand this concept, let's look at the component-
Tony: That's because you complemented him earlier so he has to say, "Oh you said it well this time."
Tom: I really like that shirt on you.
Beef: Thank you, Sir.
Tony: Now you're just making my hair stand up on my back.
Tom: Okay. Please take us through this okay?
Beef: Absolutely. All right. To put on a butterfly. Okay let's first start with, we're going to buy the front month spread, which is getting long October, and then selling November, and then next to October we have the current price of $94.83. You're selling November, which is $93.91. The spread is the price differential between the 2, which is 92 cents. That's where the spread at the time that we wrote this was trading at.
Tom: Now the October and November's the one we originally did.
Beef: Right.
Tom: Okay, that we did for 47 cents-
Beef: 47 cents
Tom: At the time we were writing this it was 92 cents, and this morning, just to put it on there, it's 77 cents.
Beef: Correct.
Tom: Yup.
Beef: And then, let's say we have this on, and I… Even for example, let's say we put this on at 46 cents and we're like, all right we've made some profit in this. Should we sell? Should we take our profits? What are other things we could do? Potentially what we could do is we could sell the November, December as sort of a hedge against-
Tom: It's not sort of a hedge. It's more than sort of a hedge.
Beef: It's definitely a hedge. I guess you could say it's definitely a hedge, but you're creating a butterfly-
Tom: It's not a perfect hedge.
Beef: It's not a perfect hedge, but you're creating a butterfly. If the front month continues to rally strong, it's going to outperform the back month.
Tom: Right.
Beef: And that would one reason why you might consider putting on a butterfly. I have a butterfly on right now.
Tom: Okay. Let's go back for a second. I put this original trade on… I'm sorry, put this original trade on for 47 cents. Let's just say, "Perfect world." It goes up to 92 cents. I have to decide whether to take a profit, or I could sell the back month November, December, and have a butterfly on for a 10-cent credit. Those are my 2 choices.
Beef: That's it.
Tom: Now most times Tony and I will opt for taking profits.
Tony: Sure.
Tom: I'm not sure recording this and saying, "Wow all of a sudden we're going to change the way we trade." I mean, most times we are going to opt to take profits from 47 to 92. I mean that's a… Yeah, from 47 to 92. That's a 45-cent profit. That's a $450 on a [walnut 00:12:58]?
Tony: That's what I wanted-
Tom: Yeah.
Tony: To happen, and it happened. [inaudible 00:13:00]
Tom: Yeah. We're going to take that. We're going to take that spread off, because we trade this bigger than 1 contract. That's probably what we're going to opt for. But like you said, you like to mess around with their stuff. You like to be constantly involved. And you would've, let's say sold the back month spread, the November, December for 57 cents. At that point you're in the butterfly for a 10-cent credit. Now, you're still up 45 cents. I want you to be clear about that.
Tony: Sure.
Tom: You're still up the whole 45 cents, but now you're betting on the butterfly continuing to widen out a bit.
Beef: Exactly.
Tom: And it's not like in that point in time you give up your 45-cent profit for a 10-cent profit. You still have the same.
Beef: You still have it. You've locked in that profit, and now you're long the butterfly from-
Tom: You're long it for 10 cents when it's trading at 55 cents. That's what it is.
Tony: Sure. The money's still at risk, just put it in your pocket.
Tom: The money's still at risk, but you still have that same profit.
Beef: And then I'll also say on the flip side some occasionally, I might put on a spread and it'll go against me. I'll use the butterfly as a way to say, all right I feel like, I don't like just being long this front month right now-
Tom: Right.
Beef: And I want to take risk off, so I'll throw the butterfly on the opposite side.
Tom: How often on your trading career would you… Let's just say, everything is going right, you have a profit. Most of the times you take profits, don't you?
Beef: Yeah. Almost always.
Tom: Almost always.
Beef: Yeah.
Tom: So this is one of those alternatives to taking, you're still taking a profit by doing this. But you're… an example, Tony, would be like you and I put in a position. We sell our call spread, right? And then all of a sudden the markets started going our way. We buy a cheaper call spread for us. We just butterfly it off.
Tony: Sure.
Tom: It's a very common strategy, and very few people do it in futures. When you do it in futures Mike. Let's say you did it 10% of the time. It's because other things are working for you.
Beef: Right.
Tom: It's because you've got some good positions on.
Beef: Yup. For that type of strategy-
Tom: You're pressing a little bit.
Beef: Pressing a little bit. I would also, sometimes I would just trade it as its own product. I would enter into-
Tom: As a butterfly?
Beef: Enter into it as a butterfly. Now the butterfly market does exist on the exchange.
Tom: But not through the software we use.
Beef: Not through TOS.
Tom: Yeah.
Beef: If we were going to trade the butterfly.
Tom: Yeah.
Beef: We would leg into it. I would bid, say the front month spread.
Tom: Right.
Beef: Get filled, and then I would offer on the offer of the next month, trying to work the legs.
Tom: Okay, you've brought up an important point. If the spread is actually traded on the exchange on an inside market, and you're trying to do it as a retail customer through legging it, you cannot compete on…
Tony: The [inaudible 00:14:34] market spread is going to be tighter than what you-
Tom: Yeah. You can't "scalp" that. You can put it on as a defensive move. You can put it on as an offensive move, through good legs. But it's not a scalping vehicle for a retail investor.
Beef: Correct.
Tom: Okay.
Beef: Yup.
Tom: Is there a capital savings for a retail investor?
Beef: There is.
Tom: Okay.
Beef: And we'll get into that yet.
Tom: We've got to move forward because we're out of time.
Beef: All right. Okay.
Tom: Much like a futures calendar reduces the risk of holding an outright future, a future butterfly can also reduce the risk. We've put up all the examples there. And all this by the way will be archived, right? There you can see, in this case, the outright, Mike, is $3,000 to trade a future.
Beef: Right. Just to trade a future.
Tom: The calendar spread is 625, but the butterfly spread's only 495. That's the capital requirement, because again, you're taking the risk down at every one of those level's.
Beef: That's right. Yup.
Tom: Span margining is very clear of the concept-
Tony: Of risk. Yes.
Tom: Of risk. Yes, they get it. When they look at that position 1 by 2 by 1, they're assessing kind of that less than 2 standard deviation risk could be at 495. Beautiful. Side note. To chart in the ThinkOrSwim platform, it is /… Well, we'll just leave it up there. You can…
Beef: Right. You can pull this. Since we're running short on time, I don't know if we want to go through…
Tony: Do you want to see it on the-
Beef: Yeah, maybe if you can pull it up real fast. Oh perfect. There you have loaded. And then what I would do here Tony is I would switch it to a line chart.
Tony: Okay. Candle Line.
Beef: Yup. Okay. And then expand the Y-axis.
Tom: Okay.
Beef: There you go. So now you can see. Now we really only look at it through this expiration cycle.
Tony: To see what it is, you can see right here, it's /CLV4-2 CLV [crosstalk 00:17:22]
Tom: It's a relatively slow moving vehicle?
Beef: Yeah, and that's really what I wanted to show here. You can see the range for this cycle, which is after the last set of data-
Tom: That's why the capital requirement is so much less.
Beef: Right. And if we're on the lower end of the range, you can throw it on, you might be looking at… These things move 10, 15 ticks maybe throughout the cycle. Occasionally I have seen these things explode, so don't feel like there is no risk with these.
Tom: Right.
Tony: If you're going month to month here, you're looking at it, like a -2 to about a 24. You're looking about 30 ticks.
Tom: I have to tell you, though. This is tough to squeeze out a lot of the money on. This is much more of a… One of the reasons I think in the future I may try one of these is just to see if it keeps me more engaged.
Beef: Let me give you an example though, of when I did this. Remember when the natural gas market exploded back in?
Tom: Yeah, sure. 6:30 or whatever it was.
Beef: Right. For me, I wanted to get short natural gas, but I didn't want to take the risk exposure of being short in outright future.
Tom: Okay.
Beef: Too much risk I felt. However, the spread natural gas exploded also. One potential trade I could have shorted just the spread.
Tom: I got it.
Beef: I felt like that was even too much more risk. Rather than do that, because the butterfly expanded so much, I shorted the butterfly market.
Tom: And how many ticks were you able to take there?
Beef: I was able to take more than 50 ticks, almost 100 ticks.
Tom: Out of the butterfly?
Beef: Yeah.
Tom: Wow.
Tony: Move at extremes is what you're really trying to say.
Beef: Yeah. When you have an explosion like that. Yeah.
Tom: Well, I had no idea. That's really interesting.
Beef: That's one way that you can use a butterfly in extreme future movements.
Tom: For our study we wanted to chart the front month butterfly price movement over the past 10 years. However, this posed a challenge in that the front butterfly stays active for only one month before rolling to the next. That is confusing, so to achieve this, we created a program that dynamically accounted for this and plotted only the active month.
Beef: Doctor data spent quite a bit of time with this. This is very cool. I've never seen a chart actually-
Tom: Wow.
Beef: Chart, this is showing me active month.
Tom: I've only seen something that's not the actual live roll.
Beef: Yes. Yeah. Now we can do this with any future, the software, the program exists now. We have it here, in-house.
Tom: Wow. The doctor at work.
Tony: Yes.
Tom: Accounting for the role, this chart shows the active front month future butterfly. September 2nd, 9am at 35 cents. Looks like it's actually higher than that right now.
Beef: No. It looks like it on the chart, but actually last month it's spiked quite high, and now it's come off.
Tom: I can see. You can pretty much… You can make a case for this to be selling it. Did we say it was like 50? I don't remember exactly, I couldn't…
Beef: I almost think like, since we're in this cycle, we're in this cycle where we're higher. I think we say we're higher the cycle, you can make the case for maybe possible next cycle. The butterfly is going to start coming off. But I think in this front cycle that we're in I wouldn't get short the butterfly in this cycle. I would wait till next cycle.
Tom: We're not good waiters. Yeah. That's the problem.
Beef: You could get long-
Tom: What if somebody wanted to see this? How do we do this? This is just proprietary to us right now?
Beef: This is proprietary to us.
Tom: Okay. But it's nice what you show us, and at least now it works.
Beef: Yes.
Tom: And the reason is proprietary to us because we're not trying to hide, hold something back. It's because we can't resell data.
Tony: Yeah, no.
Tom: That's the, we just-
Tony: We share everything.
Tom: Yeah, we share everything we can. We just, it's hard sometimes.
Tony: Can't share something you don't own.
Tom: Over the past 10 years we've seen the spread of, we've seen this, we've below this spread of 35 cents 89% of the days.
Tony: Wow.
Beef: Yeah.
Tom: That's cool, too. I hadn't seen that.
Beef: This is news to me too. That's really neat .
Tom: So over the past 10 years, we've been… See that kind of stuff is really cool. That's the butterfly spread below.
Beef: It's the butterfly. Yeah.
Tom: Where is it today? I got to plot this butterfly.
Tony: 27?
Beef: It's at… 27 it came off. I mean, it was at 39 cents a day ago.
Tom: Really?
Beef: And then when we had the sell-off, the $3 sell-off came out at 8 cents and now we're down another couple of cents.
Tom: Okay, so we have to track this. If it gets up over 35 again we're going to sell it. Just small.
Tony: Sure, sure, sure.
Tom: We'll start small, and we'll put that position on, we'll leg into it, and we'll put that position on and I think everybody benefits from this. That was awesome.
Tony: Yeah, let me just put there just real quickly for you. You could see here where it was trading here, where like Beef said, right around 39 cents or so, 38, 39 cents. Now it's around 29 cents.
Tom: I got it. I got it. Wow.
Tony: Beautiful. All right cool.
Tom: I thought it was cool. Beef, good job.
Tony: Good job, buddy. That's 2 inside the product's home runs out of you. Nice job. We'll be back in 90 seconds. This is tastylive live.