When I look through potential ratio spreads, the main thing I fear, like most, is a violent move past the spreads breakeven point. An example would be buying a ATM 10 call and selling two 15 calls at a small credit when prices are around 10. If prices go above 20, were then losing on our uncovered call we sold. This has unlimited risk. Most strategies compensate for this by purchasing a further OTM call in some form or fashion. The challenge, remains with the money spent on the further OTM protection 'worst case scenario' hypothetical. I don't want to pay for that if I can avoid it. Then again, I do enjoy sleeping. Could zero be the solution. Zero is only associated with bankruptcy of a company, loss of all trading capital, a dead market with no movement, catching a falling knife etc, etc. And these can all be true depending on your style of trading. What if zero could be an advantage. If our same example is flipped, and we buy a 15 put and sell two 10 puts, this creates a much different criteria as far as unlimited risk is involved. Now, there's still risk from 5 to 0, but the most we can lose is only $500 assuming we don't adjust along the way. I just wanted to hear thoughts concerning the valadity of a premise which I'll reiterate. 1. Zero is an advantage by the fact that most traders only associate zero with negative outcomes, and thus is our advantage leads us to sweet setups acquired that the fearfull public, would never even consider. 2. Due to a large number of commodities and/or commodity ETF's like (GLD) that are backed with 'true' value underlyings, worse case fall out via a ratio spread, would get us long in a market we wanted in anyway. 3 It paid us $500 as it went down, on top of getting us a better price than just getting in at the market via for no real reason per se. 4. We could then decide to sell calls against our position as well
You should try to get over the unlimited risk fear. Naked positions involve risk. It doesn't matter if your short or long. It's risk. If you can't handle the risk, don't take it on.
I totally agree. You have the entire premise defined in just a few words. I don't prefer naked call options due to their unlimited risk to the upside, and this truth begins our origin for this thought. So instead of throwing out ideas deemed by most as to risky, I enjoy thinking of alternatives that are less risky. The setup presented here solves the fear problem due to a maximum risk (ie price at zero) being established right from the getgo and credit money in hand. This post is just another brainstorming idea during my daily thinking time.
First off, a small detail. In your example, you're comparing an ATM call ratio write with a 5 pt call ITM ratio. The results of each are very different. I'm not going to try to convince you that you should be comfortable with being naked. It seems like it's driving your thought process and you're focusing on that rather than figuring out what you can identify in a stock and then selecting the best strategy for that outlook. Have you modeled any of these positions? The reason that I ask is because if you're dealing with a $10 stock, the cost of a $20 call to hedge a +1/-2 10/15 call ratio is peanuts. It's not going to detract from your performance which is far more dependent on your timing and direction. There are a number of things that you can do to change the P&L spectrum if ratios entice you. If still fear based, uou can ease the ratio, perhaps 3:2 instead of 2:1. And for some real entertainment, look at buying the OTM hedge leg 2-1/2 pts away instead of 5, eg. a 17.5c instead of a 20 in the above example. And always remember that if something happens outside of regular hours trading, you can use the stock to hedge an adverse move.
When I look through potential ratio spreads, the main thing I fear, like most, is a violent move past the spreads breakeven point. An example would be buying a ATM 10 call and selling two 15 calls at a small credit when prices are around 10. If prices go above 20, were then losing on our uncovered call we sold. This has unlimited risk. Most strategies compensate for this by purchasing a further OTM call in some form or fashion. The challenge, remains with the money spent on the further OTM protection 'worst case scenario' hypothetical. I don't want to pay for that if I can avoid it. Then again, I do enjoy sleeping. Could zero be the solution. Zero is only associated with bankruptcy of a company, loss of all trading capital, a dead market with no movement, catching a falling knife etc, etc. And these can all be true depending on your style of trading. What if zero could be an advantage. Using a similar premise based on the first example, and price is at 15 (to make this easy,) we buy a 15 put and sell two 10 puts, this creates a much different risk riteria as far as unlimited risk is involved. Now, there's still risk from 5 to 0, but the most we can lose is only $500 assuming we don't adjust as prices come down. I just wanted to hear thoughts concerning the valadity of a premise which I'll reiterate. 1. Zero is an advantage based on the fact that its an absolute. It also brings up bad feelings among the majority of traders who associate zero and shorting, with ONLY negative outcomes unless your brilliant and were never spanked as a child. 2. Due to a large number of commodities and/or commodity ETF's like (GLD) that are backed with 'true' value underlyings, worse case fall out via a ratio spread, would get us long in a market we wanted to be long in anyway. 3. The second example paid us $500 as it went down from 15 to 10, via the 15put we bought with the premium from two short 10 puts. And we can get in long at a better price then had we just got long at 15. 4. We could then decide to sell calls against our new long position as well. I'm sure there are more variables, but it hit me the other day that I have been only looking at the negative side of prices going down close to zero. There is a way to use this absolute as an advantage. Thanks to those who wrote back so quickly to correct a few things. I appreciate that very much.
Another problem that I noticed is your statement: "An example would be buying a ATM 10 call and selling two 15 calls at a small credit when prices are around 10." There's a trade off b/t IV and time. The farther out you go timewise, the lower the IV needs to be in order to obtain a cost free position. Do you have any idea how far out in time you're going to have to go on a sky high IV stock in order to get a credit? I don't think that you know of many, if any, $10 stocks trading with 100-200+ IV's that you want to be in with a somewhat neutral strategy (a ratio write). In addition, a 2:1 ratio write performs better in an adverse move when the IV is lower. Compare a 10 pt move in a 50 IV with ratio with a 100 IV ratio, all other variables being constant. You just don't want the aforementioned circumstances as your set up. Now don't give up this premise. Credits can be obtained and you will find that here on ET you can pose as many "risk free trading" strategies as you can think up
Once again, I do thank you for your time and thoughts. I appreciate the encouragement and belief in my abilities. If you didn't think I should let this premise go, then you must think eventually I'll do it, so Thank-You.
This is funny becuase there's unlimited risk with a naked call but yet doing a covered call on say stock like IBM is safe because IBM can only fall 101.49 points (less premium). Yes?
I can't make a case for a short backspread over a long fly. If you're concerned about the naked one lot, then go long the wing to buy the fly. Any trader favoring the ratio does so because they're unwilling to own a small debit in the fly when they can take a small credit in the ratio. Penny-wise, pound-foolish. You're in the wrong trade if your goal is to earn the small credit on the ratio. Best-case is a pin to the short-strike, so why not simply fly it off and avoid the margin and additional gamma/vega. A quick-trade to the short strike will likely produce a winner in the fly and a loser in the ratio.
'I enjoy thinking of alternatives that are less risky' The more risky part was the the range of price on a move above 15, which I believe begins the loss of your single 10 call since theres a 2 to 1 ratio. Above 20 and were now going in the hole to infinity. The premise, would be, if we flipped and bought a 15 put with the premium received from two short 10 puts, $5 would be the most to lose on the short example which is why zero is the most important theme behind the trade. I'm sure I sound like a bunch of the knuckleheads who post here. Hypotheticals for help me grasp the smaller pictures that make up the bigger picture trades that elite members point me to. I couldn't have a short call in the first example at 15 and still sleep at night. When I get suggestions for flys and condors and frigatebirds, unlike most here, I have to study quite a bit more. But I'll kill anybody in persistance. You can short all the naked ES calls you want on that statement and still sleep like a baby. 'if you're concerned about the naked one lot, then go long the wing to buy the fly. Any trader favoring the ratio does so because they're unwilling to own a small debit in the fly when they can take a small credit in the ratio. You're in the wrong trade if your goal is to earn the small credit on the ratio. Best-case is a pin to the short-strike, so why not simply fly it off and avoid the margin and additional gamma/vega. A quick-trade to the short strike will likely produce a winner in the fly and a loser in the ratio. Could you give me examples for the two in your first paragraph (right way wrong way) And an example of pinning versus flying it off. Thanks to you both for all the help.