I read McMillan's OASI but he doesn't say much about spread selection. What criteria do you use when picking a vertical spread, other than the usual BEP and max profit analysis? How do you determine how wide the spread to go for? I want to do a conservative ITM bull spread on AAPL with high probability of ending up in profit at expiration. I checked out 65-75 for the long leg and 80-90 for the short leg. So far all the ITM spreads I checked out have poor risk / reward. Any inputs? Thanks!
Probability and risk/reward and inversely related. If you want a 99% chance of winning, you'll likely be risking $1k to make $10. At the money bull spreads will give you a 50-50 risk reward, in general. (e.g. if AAPL is at 90, buy the 85 call, sell the 95 call. Reward is $500, max loss is $500).
A little formula I use for picking bull call spreads. 1. have a price and time target, e.g. 'x' will get to $42 by jan 07 2. have software scan all the spreads of stock 'x' that expire in feb 07 (one month after time target so minimise time decay because you'll exit the position at the latest at your time target if not stopped out earlier) 3. from the scan result pick spread that doubles the fastest 4. write down ALL your stops - profit, loss, time and technical stops. This is your trade plan. 5. check stock for earnings, news 6. determine position size as per your money management plan (e.g. risk 2% of total trading capital on this trade with a 50% stop loss as an example - see step 4 above) 7. if above ok, place order. Good luck daddy's boy