Naked Iron Condor - can this strategy work?

Discussion in 'Options' started by benysl, Aug 31, 2006.

  1. benysl


    Emini S&P 1306.75

    Sell 1 Oct 1350 call for (+7.00)
    Sell 1 Oct Put 1270 for (+8.50)

    Collected +15.50 points as premium.

    Since this position is naked, we are running unlimited risk.

    1) Enter a Good Till Cancel Buy stop for the Futures at 1350 (protection for naked call)
    Immediately once the buy stop is trigger, buy a 1340 put (the +15.5 points premium will left with a +5.5 points considering the move from 1350 - 1340 is 10 points) so that will be the max loss. This position will be loss for whatever the premium is.

    2) Enter a Good Till Cancel Sell Stop for the Futures at 1270 (protection for naked Put)
    Immediately once the sell stop is trigger, buy a 1260 call (the +15.5 points premium will left with a +5.5 points considering the move from 1270 - 1260 is 10 points) so that will be the max loss. This position will be loss for whatever the premium is.

    1 problem arise
    Market GAP, Futures trade almost 24 hours so market doesnt gap much except unless it is weekend. Nothing much can be done

    Collect maximum premium.
    Able to close position at any time it is within range since time decay is in our favor

    Naked Put and Naked Call. Profit Limited. Risk Unlimited.
    Weekend market gap.

    Any Comments???
    I personally feel this is a better strategy than iron condor but of course the risk has increase also.
  2. FWIW, it's called a short strangle.

    You may want to compare selling straddles instead as the gamma risk can be more manageable. Size position accordingly and hedge with spot when deemed appropriate.

    Many people write OTM options naked on ES. Some people swear by it. I also personally received news of several people that blew up or suffered significant losses in the recent market correction by using this strategy. Do you have the discipline not to overleverage/position size appropriately? Only you know the answer to that question.

    The latest strangle writing journal on ET:

    I'm not sure I can comment on the efficacy of your GTC strategy.

    Good luck.

  3. tplast


    Consider the following:

    The net overnight maintenance margin (accounting for credit received) for the naked position is 2,234 and will go up to 3,600 at your put strike. Your maximum return on margin is 35%. Your maximum risk is unlimited.

    If you cover it with the 1260/1360 strangle, your maximum margin at the put strike is 312 and your return is 75%. Your maximum risk is 327.
  4. Why do you say that the gamma risk of selling straddles can be more manageable? Often adjusting short straddles mean you're losing money.

    If he hedges with a future position at a short strike, he's got a covered position. Balance the deltas and it should work, except for the gap risk which he rightfully points out is greatly lessoned due to the extended trading hours.

    On the other hand, benysl is suggesting collaring the position if the underlying reaches a short strike. During off-peak hours the options are not liquid and any attempt to trade them would probably use up all your credit. So it would be better to go with the future and short option position until the market opened. It would also be good to see a risk graph to compare the collar method with the above method of balancing the deltas with just a future and the short option.
  5. Just to clarify, I don't think the max loss is 10 points. I think the max loss is 10 points plus the cost of the 1340 put minus the original credit (15.50).

    If I am correct above the same max loss calculation would apply to your item 2.

    And, adding to your list of risks, couldn't the max loss of (1) and (2) both be encountered? Say if the underlying hit 1350 and then turned around and hit 1270.

  6. In reference to the gamma risk my intention was to convey the fact that the straddle bleeds gamma as it trades away from neutrality. Yes, you're accumulating deltas, but you're doing so at a decreasing rate. Contrast this with an OTM option whose gamma expands as it becomes ATM i.e. the deltas accumulate at an increasing rate. One may be inclined to think of how this manifests itself from a manageability perspective.

    The ATM straddle also obviously decays faster and as such, opportunities to cap the risk can come about sooner.

    Highlighting the straddle was merely an FYI for the OP to compare with the strangles, position sized apropriately. > 2 sigmas, both the straddle and strangle can end up in big trouble but perhaps the straddle is a more palatable proposition.

    This is an area that is somewhat of a specialist topic for Riskarb but I know you two don't get along LOL.

    Yes, gap risk is the bane of short straddles and the boon of long straddles. I wasn't neccessarily suggesting continuous delta balancing/negative gamma scalping. That would isolate the volatility component and most likely turn out to be a loser at current IV levels.

    I still don't think I can comment on the efficacy of the outlined strategy.

    The collar is a synthetic vertical that has been legged into at well below above fair value. There's no need for the futures position, just buy the appropriate option. I see no benefit to converting to this vertical, synthetically or otherwise.

    If just futures is used, then there is very real whipsaw risk potentially > naked option risk.

  7. Wouldn't that be the pits? Better know that probability for Oct. Looks to be less than 1% for Sep options at 15% vol.
  8. You are good to point out the synthetic. More about that later. Yes we are trying to think about manageability, but I'm still not sure what your point is or rather why you would prefer the straddle and think that it would be more "palatable"? Do you prefer living on the edge? Yes the straddle decays faster but with initial gammas and deltas many times greater you will have to address risk and losses far sooner than the OTM strangle. What will you do to cap the risk if not adjust to neutrality or butterfly it? And when you are having to deal with the straddle risk and losses the OTM strangle holder will be relatively free from any such concerns.

    This is not such a complicated or specialized matter to require the greater expertise of r/a, but if such is contributed I hope you will stick around to serve as translator. LOL.
  9. Gammas accumulate with a strangle due to the oft-mentioned convexity. In practical terms, you receive a much lower premium for underwriting.

    The problem in selling strangles is an issue of leverage. Nobody on the SPX credit spread thread is selling one lots... same can be said of a strangle seller. The insignificant premium exposes the seller to larger notional risks, in most cases. One lot straddlers become five lot stranglers.

    Yes, under 6-sigmas you'll lose a bit less selling a one lot, 20d per side strangle over a one-lot atm straddle. But we all know there is more to it than that.
  10. benysl


    hi thank you guys for your input really appreciate it keep it coming. The max loss is not 10 points. Let run thru the scenerio.
    Market trade at 1350 trigger my long futures position so I have a long position. Assuming that a out of money put at 1340 costs 15.50 points. (it should be a reasonable assumption. A out of money put by 10 points now costs about 13.00 taking time decay into consideration by the time futures travel to 1350 the 1340 put should costs very much lower)

    If market closes at 1320
    the naked call and put I have sold all have expired worthless so I collected +15.5 points - the put i pay for -15.5 so net is 0 points here but my futures suffer a 10 point loss from 1350 to 1340. From 1340 to 1320 I am protected by my 1340 put.
    So net loss 10 points here

    If market closes at 1340
    naked put and call I have sold all expire worthless. Premium I collected minus the put I have purchase net 0.
    Futures I have loss 10 points from 1350 to 1340.

    If market closes at 1400
    premium collected +15.5 minus the put i pay for -15.5. Net is 0. My naked call losses is offset by my futures long position .
    So net result here is no losses here.

    opposite is thru for the downside.

    If market trade from 1350 then reverse to 1270 (very unlikely thou not impossible. My losses will be double likely to 20 - 30 points at most.

    So my worse case is
    1) Market GAP on monday (highly possible) so when S&P trade around 1340 to 1345 on friday. I probably have to do some precaution.
    2) Market trade thru 1350 to 1270 (unlikely) worst losses * 2 around 20 to 30 points.

    #10     Aug 31, 2006