A Fortune in Selling Naked Call Options (w/Martingale)

Discussion in 'Options' started by jones247, Jan 17, 2008.

  1. I posted the following strategy on another forum; however, I did not get any response. It seems that there are several experienced options traders at this forum. Please provide your input on what I believe is a sound strategy listed below:

    An individual could have been making about 15% - 20% per month writing (selling/shorting) naked call options over the last 3 - 4 months. If after a huge upswing break-out, one would write a call option in/at-the-money, it would yield a reasonably safe return. The common belief that selling options, especially calls, is VERY RISKY is a "red herrin". Although one is allowed to sell puts in an IRA, the selling of calls in an IRA is disallowed. The logic is really unreasonable. Although the market trends upward over the course of time, the reality is that it plummets in a short span of time, but rarely skyrockets in a short span of time. I would be VERY NERVOUS selling puts because any number of "black swan" events could occur that send sheer panic thru the market; thus causing a castostrophic collapse of the market. In the selling of calls, one need not worry about any geo-political or natural disasters, as such events would only secure the position of an individual who sells calls.

    Now the obvious question.. what if the market goes up against my position, especially if I'm selling ATM or ITM? Good question... that's where the notorious martingale system comes into play. I know, I know any mention of the word martingale is considered an anathema of the worst kind; however, if used in moderation and with discretion, it can be a powerful tool. So, how would I use the martingale strategy? Well, I'm glad you asked... if the trade goes against you by twice the value of the premium received, then cut your loss and sell twice as many contracts/lots. Remember, the entry point comes after a big break-out, and the 1st liquidation after a 8% - 13% increase on top of the break-out.

    HOW MANY TIMES HAS AN UNDERLYER RISEN MORE THAN 30% IN A MONTH? HOW MANY TIMES HAS AN UNDERLYER FALLEN MORE THAN 30% IN A MONTH? Euphoria will cause the market to rise slowly, but consistently, with a few sharp upward surges. However, fear and panic will cause the market to plummet in a fast freefall!!!
     

  2. One takeover event and you're dead!
     
  3. OP,

    Are you trying to convince us that this is a good strategy or yourself?
     
  4. When you're picking up pennies in front of a steamroller, the steamroller only has to win once.
     
  5. Selling calls in a down market looks like an easy way to make money, just like selling puts in an up market.

    Whether price increases are as common as price decreases is left as an exercise to you. At first guess, I'd say the odds are pretty even.

    1) Acquisition
    2) FDA approval
    3) Surprise fed rate cut
    4) Scare in base commodity (e.g. oil scare when you're trading VLO or XOM)
    5) Earnings surprise or earnings preannouncement

    Those are all reasons that happen *all the time* which cause prices to spike.

    That's just equities. Futures have numerous reasons why the price might spike outrageous amounts in a few days. (Just look at any grain, bond, or currency going back the last 10 years)

    This strategy tends to have frequent small wins and occasional big losses. You also need to develop a hedging strategy. Even if you immediately cover your call if it becomes ITM, your losses will not be small.

    A variety of hedge funds make good money with these option selling strategies, some even with very small drawdowns (LJM, for example). But, they're doing MUCH more than simply selling a few calls and waiting.
     
  6. I would only sell calls on indices or mega cap stocks...
     
  7. I understand that selling calls on anything less than a mega cap stock is a ticking time bomb. However, I don't know of anytime in the market place when a stock index or a stock that has a market cap > 50 billion increases more than 30% in any given month. This statistical fact would serve as the edge for this strategy.

    Walt
     
  8. But it only has to happen once and you're ruined. The risks are too high, given the payout.

     
  9. What premium are you receiving for the 30% otm option? How about a 5% otm call on XOM for example? The 90C for Feb is trading $1.25/1.50% of shares. Do you consider 1.5% a suitable return for unlimited risk?
     
  10. Here's an example. Would you want to be short the calls during May on this Mega Cap Stock?

     
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    #10     Jan 17, 2008