SPX Credit Spread Trader

Yes... you could play the short month... but.... most people would convert the longer term monthes of the diagonal into a Put Spread by selling a calendar against it.... then add a Bear Put Spread and lock into a Butterfly. It would all depend on their market outlook. See if this helps.

Here's an Example:

Original Trading Plan: (long Vega)
Enter Diagonal when Market was at 1400, VIX = 10 (Long VEGA)
B Jan 1325p
S Dec 1350p

On VIX spike Monday (15%)

Sell Jan/Dec Put Calendar against original Diagonal (taking VEGA profit)
S Jan 1350p
B Dec 1350c

Adjusted Position is now a Bull Put Spread (VEGA neutralized):
Long Jan 1325p
Short Jan 1350p


Trading Plan Going Forward:
1. You can now hold 1325/1350 Jan Put Spread (directional or play THETA ) or

2. Purchase a Jan 1375/1350 Bear Put Spread forming a 1325/1350/1375 Put Butterfly. Locking in profit, reducing return potential, but freeing up margin or

3. Adjust back into the Original Diagonal, after a VIX return to 10ish.


This is one of the major advantages of the Diagonal over the Spread. You can play VEGA!

Murray

 

Murray:

Thanks for providing a detailed example. This is very helpful for understanding the mechanics and instructional for what the buzzwords really mean.

 

This is just a reminder, Don and I will be doing a live chat tomorrow for the members of ET regarding prop trading. We will take on all of ET as members fire away tough questions at us. I'll be more then happy to answer questions regarding options trading as well. I welcome all of you here to join in on the chat. Now is your chance to ask all the questions you were afraid to ask.

http://www.elitetrader.com/vb/showthread.php?s=&threadid=80880

 

This no doubt will be one of the best events on ET. Unfortunately, I can't be available to listen in. Would someone please record the chat and make it available to the rest of us. It would be very much appreciated.

Thanks.

 

I echo rdemyan's request.

 

Would you say that holding Jan 1325/1350 Put Vertical makes sense here ?
You may convert this vert into fly by adding 1350/1375 only if market goes down to 1350 and get more gamma ?

 

Anyone read the article in this months SFO by Mike Parnos about selling ITM guts strangles using wide strikes. R/R profile is similar to Iron Condor when you add further OTM long options to hedge the naked position but played a little differently.

All prices hypothetical right now so just follow the strategy for now.

For example, if SPX is at 1400, you could sell the 1440 Put and the 1360 Call. Assume you take in $85.00 in premium. If the index is anywhere between 1440 or 1360 at expiration, the ITM short strangle is worth $80.00 so you keep $5.00. The breakeven points are 1355 and 1445 so actually if the market is anywhere between 1355 and 1445 you make some money.

To hedge against a move outside the range, you would buy some further OTM calls and puts just the way an Iron Condor is constructed.

So you could buy maybe 1340 puts and 1460 Calls. Assume that cost you $2.00 total (gonna check on some actual examples once market opens). So your net credit profit potential is now $3.00.

What is your maximum risk? If the index crashes to 1340 at expiration, the short 1440 Put is worth $100.00. You took in a credit of $85.00 and spent $2.00 on long options for a net credit of $83.00. So your net loss on the position is $17.00. Assume you did 10 of these, it is $17,000 maximum risk.

$3,000 potential profit on $17,000 maximum risk is 17% return! One way this compares better to the usual Iron Condor is the normal IC we discuss here usually requires selling large numbers of contracts. here we can do just 10 and have less money at risk than selling $10.00 spread ICs for $1.00 where, at least for me I would sell 100 lol. Less profit in the "guts" Iron Condor but less risk (two always go hand in hand).

I think you get better theta if the market stays flat but these short options are deep ITM so the time value premiums are not that much relatively. As the index moves to one of the breakeven points, it will be moving further ITM so time value premium will shrink naturally. So you have to pick an uncle point ahead of time as opposed to waiting for it to hit the long put or call strike and get out. My advice is if it hits a breakeven point make an adjustment or get out.

You could push the whole position lower maybe. Assuming market dropped you could buy back the formerly deep ITM call which is now only slightly ITM and roll it down and perhaps roll the now deeper ITM put down as well (also shifting the longs).

CAVEAT: wide bid/ask spreads on SPX means you might get bent over a bit on getting in and out for good credit/less debit so it might not make it as feasible. The author suggested doing it on XEO which has tighter spreads.

BOTTOM LINE: These are still Iron Condors with risks higher than the credits. BUT, from my point of view, they might be easier to adjust or handle with smaller spread numbers and some unique adjustment options. I am also looking into using ES options to see if the spreads are narrower and easier to handle. I coudl yse less margin for higher monthly returns with the same IC approach.

I am still studying the volatility issue since we are dealing with deep ITM options and vols are not as big an issue since the deltas are near 1.00 and deep deep ITM options do not spike with vol increases as much as your ATM or OTM options. Off to optionvue to test since there is a vol factor, just want to see what it is.

I may have left off some nuances here as I am trying to summarize what I read so let me drop the usual disclaimers to avoid pointless tangents:

" These are still ICs by nature and definition, just using deep ITM v. deep OTM options. They have no inherent edge. There are no risk-free profits. It is not a holy grail. My opinion is that they might be easier to manage for me with smaller contracts or a way to use them on XEO or RUT. Do these at your own risks. This is NOT easy money or a beginner strategy. I am not offering an idea for more "edge" just a different way to make the same play. Yada yada yada.....

 

The strategy is a horrible one. It's synthetically the same as selling the OTM strangle. Only you have 1/50th the liquidity. Nothing new here. Learn your synthetics!!!!!!

 

1. It is an Iron Condor not a short strangle..

2. I said the wide b/a of SPX makes more feasible on XEO, RUT or option futures.

3. Synthetically it is the same as an OTM IRON Condor. See this is why I put in all my disclaimers to avoid the tangents lol. It is no different than using the 1440 OTM Call and 1360 OTM put. But it may be easier to handle then the other form of the IC.

 

Yes, but your guts is the same as a strangle. All you did was synthetically sell the strangle and buy the wings!