-
How Wide Should Your Strikes Be In A Credit Spread?
Posted on January 16th, 2010 2 commentsGot the following question this week:
First, thank you for providing a great service. I have been trading options for about a year and have learned a lot from your tips and alerts.
Now, I have a question about position sizing. I am trading $100k of my funds using your alerts. When you send out an alert I multiply the number of contracts by 10 when putting on the trade. My question is: instead of just multiplying the contracts, can I use a combination of increasing the contracts and/or increasing the width of the strikes?For example, if the alert was to sell 2 SPX 1200/1210 Calls, instead of selling 20 10 point spreads, could I sell 10 20 point spreads? What would be the pros/cons of doing something like this?
It seems to me, if I widen the strikes, then when I need to make an adjustment, I could sell the near strike and buy the next strike as opposed to rolling the whole spread. Is there any advantage to this other than lower commissions and (possibly) better fills? More risk? I feel like I am missing something or not really thinking the strategy all the way through.
Thanks,
AdamMy reply:
Adam,Thanks for the compliments and the great question. I intend to post the question on my blog so everyone can benefit.First let me say that I am not a licensed investment advisor and so i cannot provide you with specific advice.Now let’s tackle your question.You can increase the width of a strike on a trade. That will increase the risk/the max loss/ and the margin required. If you then lower the amount of contracts you can equalize it.Let’s look at the SPX 1200/1210 calls you mentioned:If I put the trade on right now, the breakeven is 1200.30 and the credit is .60So if I do ten of these the credit is 600 and the max loss/margin is $9,400Let’s widen the strikesNow I will sell the 1200 and buy the 1250My breakeven is now 1201.76 and the credit is 1.70If I want to keep the same margin of roughly 9400 I would do 2 contracts.The credit would be 340 and the max loss/margin would be $9,660That’s about half the credit for the same risk. But the commissions would be lower because instead of doing 20 options we would only do 4. Even with lower commissions I don’t think you will save the $260 you are giving up in premium.If you sell the 1220 call, you would have to do 5 spreads for a margin of $9,450 and your credit would be $550.Now let’s look at adjustments.Let’s say SPX rallies from 1136 where it is today.This can get complicated with the math, and I am not a math guy so i will just explain it instead of doing the math and giving you exact numbers.1210 is closer to being at the money than 1250 and so the delta of the 1210 option is .07 while the delta of the 1250 is .02As SPX goes higher the 1210 will rise in value much faster than the 1250. And so when you do adjust you will pay the same to buy back the 1200 in either trade, but you will get more for selling the 1210 than you would for selling the 1250 and so the loss will be lower.Now your question was if you adjust you wouldn’t have to move your long option. Just leave it at 1250. True. But then it offers very little protection as a hedge.If you have access to backtesting software you can verify this yourself, or even use the thinkback feature at thinkorswim.In all the backtesting I have done on the SPX, I have found that in credit spreads, the “optimal” difference between strikes is 10 points. I have also had other traders tell me that the “optimal” difference between strikes in SPY is 1 point, which means the same thing.Feel free to papertrade this. By papertrading you can see for yourself how it plays out instead of just taking my word for it. Test 10 point strikes vs 15 vs 20 vs 25. 10 points works for me, you might find 20 works better for you. -
Results for October 2009
Posted on November 20th, 2009 No commentsThe results are in.
For October 2009, OptionGenius.com was + 2.72%.
Not very impressive is it. But the S&P was down -1.98%.
Trade #4 for the month was rolled forward to November. If I had not rolled it, it would have expired worthless and with a profit. Instead it is now November Trade #3.
Both iron condors did great in October. I took a more conservative stance this month because of October usually being a very bad month for the markets. And this one did not disappoint.
It started out smooth, then dropped towrdas the end of the month, then reversed and rallied up just as fast as it had dropped.
Can you saw “whipsaw?”
But both condors did great with no adjustments required. What really hurt was an IWM butterfly that busted my chops. If I had just put that trade on and forgot about it, it would have been profitable, but alas, that’s not how it works, so this trade was a loser.
Regardless, it was a positive month in a year that has been anything but ordinary. The site is still on track for a 50% plus year if November and December work out.
Right now I am up + 36.11% for the year. Which is better than most hedge and mutual funds, and double the S&P.
-
May Trade Results
Posted on June 3rd, 2009 1 commentFor the month of May, my results were a nice gain of 11.71%!
This is following a nice double digit gain last month.
We had four trades this month:
- SPX, the S&P 500 index
- RUT, the Russell 200 Index
- AAPL, Apple Computer
- WMT, Wal-Mart.
I recorded double digit gains on three of these and a 9.5% gain on the SPX position.
Just another day at the office.
OptionGenius.com members can see each trade and any adjustments on the Past Trades page in the membership section of the site. If you are looking for double digit monthly returns, what are you waiting for? Sign up today. I already have one trade for June underway and I am looking for more.
One of my favorite habits is to reward myself after a positive month. To treat myself, my wife and I go out to lunch at one of our favorite restaurants. Normally it is my favorite, On The Border. But this month, I think we will go out for Sushi. Since my wife introduced it to me I have really started to like it. But I still need here to mix the Soy Sauce and Wasabi together. Someone it just tastes better when she does it.
-
New Trade and Adjustment
Posted on May 19th, 2009 No commentsFor OptionGenius.com members:
I just entered a new trade. I have also made an adjustment to a current trade. Our SPX trade has given us the opportunity to exit one side of the trade. The other side is still doing well.
http://www.optiongenius.com/amember/login.php
So far this month, all three trades are doing very well. And this fourth trade which I added today also looks to be very profitable. This trade is on WMT. Wal-Mart just had earnings last week and the stock is in a well defined range. The volatility of this stock has also been declining meaning that the chances of huge wild fluctuations is declining.