online discount brokers, part 2: costlier ones, and why I eschew them

I barely looked at anything that would raise my cost of trading substantially above what I get from MerrillEdge (at what they call "Superior" status, which just means I have a good total for the amounts in Merrill and BoA accounts and/or do many trades): commissions of $4.95 to trade stocks or ETFs (with the first 30 trades each calendar month for free), $4.95 plus $0.75 per contract to trade options.

I'm a skinflint -- I don't like paying money unless I feel I'm getting full value for what I'm paying, and (ideally;-) then some. So, rates such as Fidelity's (stocks $7.95, options $7.95 + 0.75/contract), Schwab's (stocks $8.95, options $8.95 + 0.75/contract), AmeriTrade's (stocks $9.99, options $9.99 + 0.75/contract), OptionsXpress's (stocks $9.95 up to 1000 shares, a cent per share if more than 1000; options $1.25/contract with a $12.95 minimum, higher unless you're an "active trader" doing at least 35 option trades/quarter), and so on up, turned me right off those popular choices.

Some investors of an ilk quite similar to mine (prudent, conservative, fundamentals-focused) may not care -- they do very few stock trades, and never options. But me, I like for example to "scale into" a position -- buy some stock in a good company that I've decided is substantially undervalued, but not my full intended position at once; buy more if Mr Market gets even more wrongly (I hope;-) pessimistic; and so on down (possibly "filling up" on dips to the full position I always hoped to hold) -- so it may easily take me several smaller trades to build up to a position that could conceivably have been acquired at once (but dearer;-). (Sometimes, but for some psychological reason less often, I do the reverse when a stock becomes fully-valued-and-then-some so that I want to sell it).

Plus, I like differentiation -- sometimes, I guess, I overdo it a bit (say, 50 positions -- no Peter Lynch's portfolio, but a tad too broad for my stock portfolio size, which even for a keen differentiator should be fine at even half that many) -- so the number of trades to build my full portfolio is similarly multiplied.

Then there are little tricks, such as...: say that, researching some particularly interesting idea, I end up deciding that there are, not one, but two or three good companies more or less in that niche, all a bit undervalued by the market. Then, I might buy a "seed position" in each (for a total amount that's, say, about half of the final position I mean to have in that specific play); then follow carefully the market's behavior with respect to the individual companies (as well, of course, as the companies' fundamentals!) and play it by ear.

Say for example that the two companies' (A's and B's) fundamentals are and remain equivalent (for the prospects in the time frame I care most about, say the 3-5 years range typically), but Mr Market in its unending manias raises A's stock 5% (putting it that much closer to a fair valuation) while sinking B's by another 5% -- then I can sell off A, double my stake in B, and end up with a fully position in B (and out of A) substantially cheaper than I would via the "buy the full stake outright" approach. (If Mr Market did exactly the reverse, for whatever passes for "reasons" for his behavior, I'd be just as happy owning A instead -- I'm a skinflint, after all, so I focus on getting a low cost basis!-).

All of this means that doing (say) 20 or 30 stock trades in a month is not at all strange for me, and some months I even go a bit over 30. So, just for the stock, what I get more or less free at Merrill (OK, call it $50 for a few trades exceeding the 30/month quota) would cost me, say, $2000 a year at Schwab -- sorry, but for skinflint me that just doesn't feel good... why toss away every year the price of two superb laptops like Apple's new 11" Air (my wife Anna just got one -- I got the 13" version, but hers is cuter, smaller and lighter, as well as cheaper!-)? What am I getting in return for such a splurge, again?

My penchant for safe, conservative options plays makes this kind of consideration even more important -- but I guess that's better left for another, later post.

Options: investing or gambling?

Most people associate "options" with sheer gambling -- just read the rousing condemnation of them in Peter Lynch's generally excellent book "One Up on Wall Street", for example. Yet -- pause for a moment and think about it -- each option trade has two counterparts, a buyer and a seller... can they both be "gambling"?

Option trading is a zero sum game, after all (net of commissions -- and, on a deep-discount brokers today, those aren't too terrible): if one party is taking a likely small loss in the unlikely chance of scoring a large gain, doesn't it stand to reason that the other party must be accepting a likely small gain in the unlikely chance of giving up a large loss (or, more precisely, the unlikely chance of missing out on the possibility of a large gain)?

The way I like to look at it is: options (covered calls, specifically) are somewhat like lottery tickets. The buyer of a lottery ticket pays a small price and usually gets nothing in return, but once in a while "might" walk off with a jackpot; the seller of a lottery ticket has no chance of thereby making a fortune, but pockets with certainty the ticket's small price and, by repeatedly selling many tickets, makes a pretty steady income. Once in a while the ticket just sold will have been a winning one -- this is not "a large loss" to the seller, unless said seller incorrectly "frames" it mentally in that way;-), but it can be seen as having "missed out on the possibility of a large gain".

A lottery seller who was terrified of one day selling the jackpot-winning ticket and thereby hoarded all tickets himself, never selling any, would nullify the small but steady and certain income they might have realized by selling the tickets to the public. If anything, this is the "gambling" attitude -- never sell a ticket because it just "might" be the big winner -- really similar to buying tickets with a similar hope, after all.

And this, believe it or not, is what most conservative investors end up doing, without realizing it: by not selling covered call options on their stocks, they're unknowingly turning into gamblers!-)

OK, this is put somewhat paradoxically, mostly to whet your appetite for more discussion of options, but more and more writers are getting convinced of that and making a good job at explaining and evangelizing this strategy. I'll have much more to say about it, too, but, for now, you could start e.g. with this site, which seems to do quite a decent job getting you started, or many of the excellent books on the subject.

I recommend Ron Groenke's books and site (if you don't mind the idea of paying 150+ $/year for his Windows-only software) and Paul D. Kadavy's "Covered Call Writing" and "Put Option Writing" books (his software, actually just several simple and useful Excel spreadsheets, is free -- you just have to write to ask for a copy at the address given in the books -- but differently from Groenke's it doesn't get info such as stock prices and option premiums from the net, you have to look it up and enter it manually).

For better-explained theory (no sw though!-), Thomsett's "Options Trading for the Conservative Investor: Increasing Profits Without Increasing Your Risk" is, I think, still best. (Haven't read Wolfinger's "The Short Book on Options: A Conservative Strategy for the Buy and Hold Investor", but I believe it supports the same core ideas and strategy).