the markets were rallying, it was not the value of the underlying asset that drove the market higher; it was the mind-set of the investors.
● Investors become overwhelmed by greed.
When it seemed that anyone could get rich in the South Sea Company, no one wanted to miss that ship.
● Investors become paralyzed by fear.
In the case of the implosion after the 2001 terrorist attacks, fear drove investors to unload their stocks in a hurry.
● All market extremes are driven by two forces – fear and greed.
Markets might generally pay attention to asset value, earnings, and global trends, but when emotion starts driving price, it can take over in a hurry.
You might be wondering why a book on how to trade weekly options would start with a chapter about economic history. I believe in order to be successful trading in the markets, you must be able to understand how the price got to certain levels and how to control your emotions when everyone around you is losing control of theirs.
Without an understanding of market psychology, it is almost impossible to be successful. You have to know what the other side of the trade is thinking and how they are reacting.
After each chapter, there will a brief quiz. Take it and check your responses in the answer section in the back of the book. The questions will be multiple choice, and the number of points you can earn on a question will vary from one to three. If you can score 90 percent on any of the tests, you are ready to go to the next chapter. If you struggle with the quiz, please reread the material before going to the next section. This book is a building-block system to approaching the markets, and, therefore, if you don't build a solid foundation, the whole structure can come crumbling down.
Chapter 1 Quiz
1. The South Sea Company was set up to:
a. take advantage of new trade routes to the South Seas
b. be the world's first franchise
c. fund the Crown's debt from the Spanish War of Succession
d. do all of the above
2. Who funded the South Sea Company?
a. investment bankers
b. the British Crown
c. individual investors
d. all of the above
3. Why did Sir Isaac Newton lose his fortune in the South Sea bubble?
a. The South Sea stock was allowed to trade freely.
b. The Crown lost a great deal of money developing the trade routes to the South Seas.
c. Land companies drove up the price of the trade routes.
d. He was greedy.
4. What caused the Cotton Panic of 1837?
a. Andrew Jackson's feud with Nicholas Biddle
b. the move to a bimetal system to back the dollar
c. the expansion to the Western territories
d. none of the above
5. The lack of a lender of last resort in the 1837 Cotton Panic:
a. had little to do with the panic; greed was the villain
b. was accomplished by state banks
c. created a panic in the cotton market
d. caused the price of cotton to collapse
6. The 1836 British tariff on cotton:
a. caused cotton prices to collapse
b. caused land prices to collapse in the Mississippi delta
c. caused inflation
d. had little to do with the panic
7. What caused the railroad panic of 1893?
a. Congress allowed too many free acres for railroad construction.
b. There was competition among railroads.
c. Wall Street's greed led it to finance unneeded infrastructure.
d. Demand for coast-to-coast travel declined.
8. The stock market crash of 2001 was primarily caused by:
a. the terrorist attacks in New York City
b. an inflated market that was primed for a selloff
c. the Federal Reserve's lack of response to the crisis
d. the fear created by the attack
9. What was the Bitcoin bubble of 2014?
a. a classic example of a new technology that had no upper limit
b. an event caused by the collapse of the Mt. Gox Exchange
c. an event caused by government corruption
d. a classic example of greed
10. All the bubbles reviewed had which of the following common characteristics?
a. Technology had produced a product that had no upper limit.
b. Government regulations contributed to the problem.
c. Inflation caused the markets to collapse.
d. Greed or fear overwhelmed reason.
If you scored 90 percent or better, congratulations! If not, please reread the chapter to make sure that the first block of the foundation is in place.
Chapter 2
Modern Markets
In this chapter, we are going to look at the major markets that we will be trading weekly options on, and compare their similarities and differences. Before you can attempt to trade any market you must have a thorough understanding of how it functions. All markets are not the same, and it is a mistake to try and trade them if you are not familiar with the way that they trade.
Twenty-first-century financial markets no longer rely on face-to-face barter, as they had for centuries; they are conducted through electronic transfers. The markets we will be concerned with are highly sophisticated, and will always result in the exchange of funds. Almost all thriving markets rely on a form of auction. The party who wants to buy something will place a bid. The counterparty will place an offer. If no one is willing to yield, the market does not trade. When a trade does occur, it is called price discovery. This is one of the most important terms you will learn in trading. It is the market mechanism that allows the transfer of value.
Equity
