Larry,
I have a Roth IRA account. It's not a margin account and so I can't short the market when the smart money flips. I was thinking I would just switch from being long the qqq to investing in Barrick mining or Newmont mining. Would you switch to gold or just sell and wait for the commercials to go long again?

Thanks,
Gary

Gary,

Even though I’m bullish on gold stocks, I don’t think they’re a good proxy for being short the stock market. To follow the signals generated by the COT report within an IRA so that you can participate in both sides of the market, I have two suggestions.

1. Rydex funds – Rydex has funds designed to produce results that correspond to the daily performance of the S&P 500 or the Nasdaq 100. When the smart money flips, you would simply switch to one of their funds designed to produce results that correspond to the inverse of the daily performance of the S&P 500 or the Nasdaq 100.

And you can choose the amount of leverage that you want – 100%, 150%, or 200% of the performance of an index. Also, since you are not going short yourself (they are doing it on your behalf so it doesn’t have to be in a margin account), you can invest in these funds within your IRA. If you don’t want Rydex, Profunds and Potomac Funds have similar index funds designed to match the performance and inverse performance of the S&P and/or Nasdaq 100.

There are two possible disadvantages to these funds that I can identify. One is that the annual management fees are steep – about 2%. The other is that there is no guarantee, especially with the leveraged funds, that they will be able to produce the results that they were designed to produce. But you can see their historical performance on their web sites and judge for yourself.

2. LEAPS – Many brokers will allow you to be long options within an IRA. So you could simply buy in-the-money LEAPS calls on the S&P (SPX) or Nasdaq 100 (QQQ) when the smart money is long and switch to in-the-money LEAPS puts when the smart money flips to being short. LEAPS give you plenty of time and the deep in-the-money options will have much more intrinsic value (much less time decay) and will follow the underlying index much better than an at-the-money or an out-of-the-money option. But only consider this alternative if you’re comfortable with options.

If you have any specific questions about either of the above alternatives, just post them and we’ll see if we can help.

Larry

Larry,
Thanks for the information. I was under the assumption that my Roth account will not allow me to purchase options, but I'm going to make a phone call and find out. I am fairly comfortable with Leaps. In my personel account I almost exclusively trade in 2 year Leaps. The website on Jesse Livermore is very interesting reading. It ranks right up there with my many books on Warren Buffet. It occurs to me that the more people talk about the new economy and new trading strategies, the more I realize that the common sense approach to investing that worked for Livermore and Buffet still applies today. I have been following the smart money since thay flipped to long in March. But I haven't made nearly as much as I should have. Several times I sold waiting for the correction that I new was coming only to watch the market advance another 5%. In his book Livermore describes that most of his money has been made by sitting rather than trading. Truely words of wisdom.

Gary

Gary, some brokers will let you buy options in your IRA account and some won’t. If you find out that yours is one that won’t, it will be easy to find one that will.

I’m glad that you enjoyed the Livermore book. It’s interesting to me that you apparently see some similarities between Buffett and Livermore. Most people wouldn’t see any comparison at all. On the surface they seem like total opposites in the way they approach the market. One is the quintessential value investor. The other could care less about fundamentals and just traded on price. But when you get below the surface, I agree that there are important similarities. They both believe in waiting for the right opportunity. They both believe that once you’re in a position you must be patient and wait. They both believe that above all you must protect your capital (something that Livermore was not always successful in doing).

Livermore’s quote about how he made his money by sitting and not by doing, is one of my favorite of his many classic quotes, and one that I always try to keep in the forefront of my mind. Many people have a profitable system. Van Tharp says that there are probably thousands of profitable systems that you could develop. Yet there are not many people who are able to make money with their system. Why? They don’t follow it. They can’t resist the urge to tinker with a profitable system. So instead of waiting for the system to work, they do something that causes it not to work.

Here’s my favorite story about not following a system. In the late 70’s I was in the brokerage business and I was trading a lot of futures at the time. I worked with a guy who was a very accomplished technical analyst. He was telling me for months that if silver broke out above a certain resistance level – I think it was $6.15 an ounce – that it would go all the way to $20 very quickly. He was talking about that every day and it sounded nutty to me because $20 an ounce silver was unheard of, and such a move would make someone very wealthy with only a small commitment.

Well, it was January of 1979, and sure enough, silver broke out above 6.15, and sure enough he bought it with all the available capital he had in his account. And sure enough silver went straight up. But when silver got to about 6.25, he sold his long position and went short! I said, “What are you doing? You’ve been waiting for this for months and your target is $20!” He said, “I’m just going short for a small pullback and then I’ll get in on the long side again.” You can probably guess what happened. Silver didn’t pullback. Instead, it just kept going up. He ends up losing money and never could find another place to go long. How high did silver go? You guessed it - $20 an ounce (it eventually went to $40, but that was a little later).

So having a profitable system is the easy part. Following the system is much more difficult.

Larry

I currently (not for long) use Ameritrade on my SIMPLE IRA. I tried to purchase options with my IRA but was denied. When I confronted Ameritrade about it's disclosure statement stating that it allowed the purchase of long calls & puts it said that the clearing house would allow it, but Ameritrade would not. I think I read that Brown & Co and OptionsXpress offered this service. Does anyone have a list of other online brokerage firms that allow the purchase of long options with an IRA account? I have nothing against these two brokerage firms, just want a good list so I can make the right choice.

Thanks,
David

David,

Hopefully someone does have a list, but in case they don't, you may want to start with the featured brokers at the Optionetics.com web site. One thing you will find, believe it or not, is that some brokers don't understand options. I'm kind of surprised about what Ameritrade told you. I thought they were better than that.

You're right about Brown. And I'm sure your right about OptionsXpress. A really fast growing firm that specializes in options is thinkorswim.com. I'm hearing some good things about them. They're run by real option pros (as is OptionsXpress). Others that are more likely to allow options in an IRA are Wall Street Access and Wall Street Electronica. A description of them is on the Optionetics web site.

Larry

Larry,
I was wondering why you don't wait till the commercials flip to long on gold before you invest. Is gold always short because the mining companies are hedging? If so what level of short to long do you look for to give you a buy signal?

Gary

Gary,

The commercials being net long vs. net short doesn’t’ seem to work in the other futures markets in the same way it works with the S&P. I think it’s because of - like you say - all the hedging activity in the physical commodities.

Here’s what does work – when the commercials get to an extreme net long or net short position then go with them. For example, when they get to the most extreme short position that they have had over a certain period of time ( I use a year and a half), then look to go short. And when they get extreme the other way, then look to go long.

As I’ve written in the SMR, I use Blees to help me with that. Blees gives futures markets a rating of “100” when the smart money is at the minimum net short positions that they have had in the previous 18 months, and they give them a rating of “0” when they are at the maximum net short position for the previous 18 months.

A few weeks ago, I backtracked buying the various commodities when, according to Blees, the commercials were rated “100” and selling when the commercials were rated “0”, and I came up with 44 winners and 4 losers.

For example, with gold you would have gone long on December 11, 2001 at 272.2. And you would have sold on February 4, 2003 at 379.7. Today, gold is at about 359.

Larry