Understood.. but look at the cash flow of the trade set using ES to hedge. Collects approx $1500 up front premium. ES to hedge requires only $500 margin if he goes flat at the end of each session. Even if he has to buy it back 10 times that would only be $50 commissions. and $250 spread to get in and out. From my perspective the trade risk is hedged without using any cash. Roll it using the premiums.. What am i missing?
you're selling naked puts; converting to naked calls if market goes below the strike; converting back to naked puts if it goes above; back and forth. you have negative gamma risk at all times, i.e. a sharp move against your bias. stop or stop-limit orders in the ES book are not guarantees of anything. you risk poor or missed fills and excessive thrashing around the strike. sure the method can work, but toggling back and forth at the strike between naked puts and naked calls is not the holy grail.
From what I see on the test you just sell the first put just OTM? e.g. market closes @ 906 so you sell a 900 put, is this correct? Thanks
If it was that easy to hedge your put when it "goes below strike", people wouldn't even need the option position... It's like saying "I buy futures @ 1000 and close if it goes below"... Problem is each time your entry stop is trigered, it can just touch it and go back to 900... If you're going long at 1000 and stopping at 999, you can have 20 stops touched in the day, at 995, 5 stops... At 990, it will be touched only one time but you'll lose 500 per contract... You definitely need to backtest with one minute datas at least... I have been trading this strategy for 6 months ( not my main strategy), and the 0.22 sugar calls I sold have annihilated all my previous yearly profits. I've been stopped on my futures hedge 6 times with large stops and it was sufficient to eat all the premiums received this year. However, it doesn't mean it doesn't work. You really have to meticulously choose your options because any time the strike is reached, it's likely to be really costly compared to premiums received...
What if you sell 5 SPY 102 Calls and buy 1 ES 1020 Call? Your profit is the difference between the cross instrument premium collected and premium paid. SPY Options sell for more than an equivalent ES future options... Cross Instrument premium scalping. At expiration OTM everything is settled, ITM Your future options should cover with exposure limited to the execution or assignment costs.
Attached is OHLC for SPX_ES over past 90 days or so. The prices generally track one another but with a significant oscillating spread. The spread averages 1 ES strike with peaks and valleys of 4 strikes. I do not believe the Ops original hedge would cover his risk dollar for dollar. There may be an arbitrage opportunity: Enter when spread is one strike or more and exit when near 0 or negative. This price spread oscillates every few days... Might be possible to unwind and exit positions prior to expiration scalping premiums. Not a simple trade.. Cash tie up issues / cross instrument premium scalping. Settlement issues: owe shares and receive futures contract. Constant position monitoring. Lot of work and risk to scalp $200.
why do you have to convert from naked call to naked put right when it reaches the strike price? As some other people have pointed out, it is likely that you will then be whipsawed in and out of the market, costing comissions and slippage. The chief difficulty is that you would be trading to convert too often, therefore losing money in comissions on every time. Why not convert a bit further away? for example, if you are at the 1,000 strike price, and it seems pretty clear that the s&p is trading between 995 and 1005 (as an example) why not convert under 995 or over 1005? You would eat 5 dollars in between as cost, but you would also save money from comissions from unnecessary trades. There is probably an optimal 'convert level' based upon the trading range, which you could test for. At that level, you would pay the least in commissions and loose the least money when you do switch back and forth. I don't know if this will actually work better compared to straight converting at the strike price, but hey, it wouldn't hurt to test it and see.
Thanks for all the input. I am still testing the strategy and this month with the exception of the 31 where I was in and out of the trade 13 times x $7 comm on each full trade and a few missed ticks brought me to -$150.00 on the day. It has blown right past the naked short position and has maintained a very close hedge. I realize this could eat up alot of premium if it stays in the channel but in this case I will probably be 4 or 5 days without and risk on coming out of the futures contract. My thoughts are now that it would probably make more sense to sell the put and the call just out of the money to collect more premium on the front end so if I get caught in a few more days like the 31st it doesn't eat through the premiums collected. There is more variation on the emini to the spy than I would like. I am also going to test on the futures options so price would directly coorelate and be a perfect hedge. Less slippage. It is alot of work and possibly alot of commisions but I am looking to hedge as close to 100% of my trade as possible and just collect the time decay. At current volitility selling the call and put just out of the money you would collect 2.50 on each side. $2,500 in premium even if I spend $1000.00 protecting the position after taxes I am still making 5% on the trade.