Opinion for a strategy?

Discussion in 'Options' started by oooooo, Jan 8, 2011.

  1. oooooo


    One strategy that I've thought about is:

    1. Sell at the money.
    2. "Use" the money from the sale and buy deep out the money.

    Pretty much a self-financing strategy.

    It's actually called "call back spread" or... "put back spread". However the strategy isn't very popular, I guess because it's explained the "american way", that is...all positions are closed/exercised at expiry.

    The idea is as follows:

    When you sell at the money one contract and buy deep-otm say 10 contracts...then a slight move up will make big profit.

    I see a few problems here though:

    1. Implied volatility. It's not secret that out the money options have higher IV. But is this really a problem here?
    2. Optimum time to exercise. You should close all your positions before experition...and you will be tempted to hold them more and more.
    3. Commissions. Commissions are a big problem here. I guess direct trading to cboe or trading via interactive brokers can offer better results.

    Basically, if you calculate this strategy via black-scholes's fair prices - the potential profits turn to be a shocker. Like...50% per month :). But again...these are the problems mentioned above. I guess someone will mention that "slippage" is a problem - but it's not. Or...that you're trading against the house which is a problem only in say forex options, etc.

    I guess I have to program and backtest the strategy on historical data. Again I am SLIGHTLY sceptical about it.

    10x and happy new year!
  2. spindr0


    In order to get 10 OTMs for 1 ATM you have to have some combination of low IV, short time duration or wider strikes. With that plus the slippage, commissions and possible IV decrease, that means that you're going to need more than a slight move to just break even.

    Like all option strategies, if the timing is right, it succeeds. If not, it loses. And 50% potential profit a month is nice but over the long run, it's a pipe dream. You'll get some of those but an awful lot of losers as well.
  3. If, indeed, you have a strong directional opinion about a market, you will not want to do a backspread because of the "short" strike-price position. Instead, you'll really load-up on the "long" strike-price and hope for the best. The backspread is nice in theory but not in reality. :cool:
  4. oooooo


    I still think the implied volatility calculations is what 'stikes' here and won't make it profitable. I just...need to make the calculations easily online and it will all show up :). However if this isn't the problem, what you suggest would be nice...BUT - i am pretty much against directional strategies without any hedging, unless i have some sort of insider information - which i don't SO...just can't handle the heat of such simple yet very profitable strategies. Of course another big problem with the backspreads is that if you're unclucky - then you can have a "losing" streak of say....10-20 deals were the stock goes the other way. Yes, you don't lose money...but you aren't making any. Not the best option if you have a dayjob like myself, and don't have millions to play with.
  5. Stick with credit spreads, debit spreads or covered-writes. You can "hedge" away a lot of the volatility exposure, sleep better and focus on your dayjob before trading other types of strategies. :cool:
  6. When I was mixing and matching options like chess pieces, there were a few times I thought to myself I was a millionaire! Luckily, I kept my silly thoughts to myself, but what a high! I assume this is what crack feels like. :) Now, I am skeptical of any idea that even hints of making a living trading.

    In the end, I am almost sure there is no way for retail traders to make any money by mixing and matching any combination of options. Your edge still lies with direction or volatility (or both). When I realized that, I have tried to find minimal strategies and avoided studying 4 legged monstrosities.

    I still like the backspread. Your idea is pretty interesting, but I personally would prefer the short option not being so close to the money and not so leveraged on the long side.
  7. Unfortunately, I have to add my voice to those of the others here. It's not going to work, for a variety of reasons.
  8. That strategy will hit a home run if the market makes a huge move, but that do not happen very often. Or you can keep most of the premium if the market do not move. Again, the market do make some moderate movement from time to time.

    I would like to see if you come up with some backtesting results. I guess this is the type of strategy that works well for a certain period of time, but then go bust when market condition change, i.e. can't do it blindly without any adaptation.
  9. AMA


    New to the board here(first post, actually), but I'd offer up the following on this strategy:

    * As others indicated, probably not gonna work, cuz you need a massive move to pull it off.

    * It -could- work if you have a fairly reliable indicator of a near term move in your direction. So, not a 'random' type stategy.

    * If could also work if you actively traded the ATM option. This assumes enough underlying movement such that when the expensive option cheapens up a bit, you buy some of 'em back, and when the option fattens up some, you sell a few of 'em. The old nibble away idea. This idea is probably best thought of as a way to offset depreciation while you're treading water, waiting on the 'big move' in your direction.

    Correct directional pick + fairly close on timing = $$$; otherwise, you'll probably only try this strategy once or twice...
  10. AMA


    +1 Yup. Hard to beat being right on direction.
    #10     Jun 14, 2011