Can your example be traded also using a standard ReqT margin account at a retail broker like IB or TDA? Or will these brokers ask for more money?
Yes. I could have placed that order in our retail Schwab account. And we do not have seven figures, and we do not have portfolio margin. We don't even have $60K in cash. If I had placed the order, it would have been paid for with a margin loan secured by stock and ETFs.
no you can't execute this order in retail accounts, check the volume. assignment risks would be off the charts.
Logic tells me that it should be possible to do b/c one uses a spread exactly for that purpose. Ie. why then use a spread trade at all if in the end it can't give the guarantee it promises?.... It's a breach of contract etc...
Schwab would have allowed me to place that order, in that particular example. You are correct that in some cases, the broker's risk management algorithm will stop an order if there is a high risk of assignment. I've attached a screenshot of a credit spread that was rejected. In this example, the order is only 500 contracts, and with strikes that are two dollars apart, the max loss is supposedly only $100K. But if I get assigned on the short leg and the long leg is out of the money, then I have to sell short 50,000 shares of SPY, and that's about $24 million of stock that I would be short overnight, and of course the broker is not going to allow that to happen. But in my previous example, that kind of risk is not there. In the previous example, if the short leg expires in the money, then that means the long leg is also in the money, and the two legs get exercised simultaneously, so the position simply dissolves, in that example at the max profit. In my previous example, there is a risk that the stock could close on expiration between the two strikes, and that would supposedly trigger automatic exercise of the long leg, requring the purchase of 750,000 shares of SPY, and that is obviously not within the capacity of the account. But that is not a risk of assignment. It is a risk associated with automatic exercise. Exercise and assignment are often used interchangeably, but they are not the same thing. Assignment is something that happens to you. Exercise is something that you do. If you don't have the funds to exercise, then the broker is relieved of their duty to automatically exercise an ITM option. This, I believe, is why Schwab would allow the order in my first example. The broker has no exposure. You have to monitor that kind of position on the day of expiration, because if you don't have the funds to exercise, your ITM option will expire without being exercised. In that situation, you have to close both legs before expiration. Whack jobs on Reddit make these kinds of bets all the time. Remember that guy on Robinhood who killed himself because he thought he lost $700K, because they were only displaying the outcome of one leg of his position overnight? DTE is one of the variables in the brokers' algorithms. If the strikes are far out-of-the money with a lot of time to expiration, the risk tolerance is higher.
I have attached a third example of a credit spread that does involve a risk of assignment--even potentially early assigment, because SPY options are American style. But the strikes are far enough away, and expiration is far enough away, that somehow Schwab will allow the order. There is no error message on this one. It's 50 contracts, so if I get assigned on the short leg, I would have to short $2.5 million of SPY, and I definitely do not have that kind of capital. But somehow Schwab's algorithm will allow this. I think they would force me out of the position if it gets too close to expiration and the stock price is too close to the strike price of the short leg.
a spread is a spread on a screen, in the system it is a two independent trade, perhaps executed with different counterparties to fill the order. One can’t control the timing of assignments/exercises and by whom and what legs, hence you will get a call from the broker to confirm the large order, or the order will sit there never reach the exchange.