Strategy
This is a strategy I no longer trade but keep it here for the record.
Three years ago I started trading options. I started with covered calls first, later moved to selling naked puts. Was I successful? Yes and no.
I made money and I lost money. My trading was like a roller coaster.
Euphoria was replaced with deep disappointment and anger when I doubled my account in one season and lost it all in the next one.
I was looking for a strategy which would work and make money consistently. Even naked puts which I thought would be an easy trading couldn’t do it. And I was running out of money to trade naked puts.
So I turned to spreads.
I made money and I lost money. And my strategy still didn’t work. I started trading SPX options. I made a lot of money. And I lost it again. All my trades provided with good excitement but they all were dangerous and risky. Every expiration I felt a stomachache worrying where the market ends.
I knew what I wanted to trade, but still didn’t know how. It seems like this is something every beginning trader is going through.
After desperately searching for the new way of trading I decided to adjust my strategy to make it safer, increase my probability of success and make money consistently without stomachaches.
Here is how I will be trading options.
· I trade options spreads against SPX
I decided to trade options spreads against SPX only. No stocks. I want to focus on the market, be in sync with it and not get distracted by stocks, announcements, earnings, or any other aspects which move the stock price and create distraction.
For that I will only trade bull put spreads, bear call spreads and Iron Condors against SPX. If needed, I may adopt other options structures as a way to save a trade, for example converting a spread into a butterfly, etc.
· I trade SPX options spreads with 45 days to expiration (DTE)
Before I traded 4 days DTE spreads. I opened a trade on Tuesday which was supposed to expire the same week on Friday. With the market volatility as seen throughout 2015 many of my trades got wiped out. The probability of success was very low.
By trading 45 DTE spreads I could widen my strikes and increase my probability of success beyond my imagination.
· I trade 45 DTE SPX options spreads in a ladder to simulate weekly trading
I loved trading weekly options, but they were risky and unpredictable. I was thinking how to trade 45 days options weekly. I decided to create a structure I call a ladder. A period of 45 days represents seven weeks.
To start a ladder I sold one trade per week. After seven weeks I achieved opening a new trade on Tuesday and have expiration that same week on Friday. Exactly the same as when I traded my 4 DTE options. The only difference now is that on the seventh week, I open a seventh trade but my first trade is the one which expires. In eight week I open a trade #8 and my trade #2 expires and so forth.
The first 45 day cycle when I started a ladder I had to wait 6 weeks to achieve weekly expiration.
Same illusion of weekly trading, but a lot higher probability.
· I use standard deviation channel and linear regression channel to set up a trade
In my Think Or Swim (TOS) program I use 9 months SPX chart with two studies – a standard deviation channel and 50 day linear regression channel. They are set up to represent 1st standard deviation and 2nd standard deviation.
When placing my call spreads I want the short strike to be as close to the 2nd standard deviation as possible or above it. But when opening that spread I want to collect min 30 dollars premium.
When opening my put spreads I use delta 8 – 10 for my short strike to open the spreads.
This increased my probability of success to 92%
· I trade SPX options spreads with 40 dollar wide strikes
I started opening new spreads with five dollar wide spreads. But my goal is to reach a 40 dollar wide spread before I start adding more contracts. I believe, wider spread is better than narrower.
Why is wider spread better?
First of all, it is safer and you actually risk less money if the trade goes against you. You receive more credit per contract and commissions are same as if you traded a narrow spread.
For example, if you open a five dollar spread, you receive 30 dollars premium and pay approx. $11 in commissions (depends on which broker you trade with). With a 15 dollar spread you get 80 dollars premium and also pay approx. $11 in commissions.
To get 80 dollars premium, you would have to open at least 3 contracts (assuming each can bring 30 dollars only) and with that, you will pay around 20 dollars in commissions.
The chance that the price of SPX slices thru both strikes is lesser with wider spread, so potential loss is smaller compared to a full loss of more contracts of a narrow spread. And here is the safety of the trade. If for example you trade a 2035/2040 put spread and 2000/2040 put spread, it is very likely for SPX to drop below 2035. And if that happens, this trade is in full loss, while the second trade is still only slightly in relatively good shape as you are losing only a small portion of the entire risk.
For this reason I will be widening my spreads as time goes on.
· I open SPX options spreads on Tuesdays
I do not open trades on Mondays and Fridays. I have seen experienced traders avoiding these days. I do not know the details why, but I adopted that policy. John Carter for example doesn’t open trades on Fridays (maybe because they are expiration days). Other traders and schools do not open trades on Mondays. So do I.
However, as my account grows I plan on opening trades not only on Tuesdays, but Wednesdays and Thursdays too.
· Defending my trades
This is the hard part. I didn’t like defending trades. If I had to defend trades or close them, it was always for a loss and I hate taking a loss. All my search for a strategy was to find one where I do not have to defend a trade.
Although, I believe I have a strategy where I do not have to defend a trade, if it however happens and a trade goes against me I need to have a plan what to do.
I will not roll the trades as I did before. If any of the spread gets touched, I will either open an opposite spread or in case I already have a Condor I will move the untouched spread down and create an Iron Clad trade. Then I let the entire trade expire as is. There will be a loss, but smaller than if I did nothing or rolled trades away in time.
Once I will have more contracts opened I will attempt reducing risk by closing half of the spread when the spread gets touched. But I will only do this 7 days to expiration. If there is more days left, I will do nothing as it is very unlikely for the market to drop so deep (or raise so high) without recovery or correction.
· Follow my trades with my free newsletter
I will be publishing the trades in my free newsletter showing each trade as I will be putting it on in my trading platform. So you can watch, follow, or even trade those trades with me.
You will be able to see the open trades and number of contracts in “My Trades & Income” tab on my blog. I will also post these trades in “Calendar” where you will be able to check expiration of each trade and the entire process of creating and managing the options ladder.
· Trading options vs dividend investing
Dividend investing is a great strategy, but now I look at it slightly differently. I no longer consider the dividend growth strategy my main investing or trading goal. I however look at it as my wealth preservation.
I have seen some traders investing their proceeds to other instruments or investments. Some invest the proceeds to gold or silver, some buy land, others real estate. I want to do the same. Or similar to be exact. I want to be buying dividend stocks.
I understand that at some point in my life I will no longer be able to actively trade options. Dividend stocks will be here to subsidize trading. My options trading is here to create an income now. Not 20 years from now. Now I want to trade, grow my account and enjoy income from trading. Once I will not be able to trade (maybe 20 or 25 years from now), I will have my dividend stocks to take over.
For this purpose I will trade this option strategy in my taxable TD account and in my ROTH IRA account.
Read how you can start trading SPX Iron Condors >>
Grt read
Very clear information thank you
I’ve read through the pages, but what are your typical parameters for your puts (i’ve seen different deltas and closing %) but i’m unsure if that’s part of your current strategy. Since you’re going ahead and using your credit to buy stocks, I assumed you were letting them expire worthless, but I was just looking for some clarification, thanks.
Moreover, when we start trading options in our challenge account, I will be explaining this process more in detail.
Thank you for your input and question. I have tried to write my rules or metrics when selecting strikes for a strangle in my latest report, hope it helps. Trading options is very flexible trading so no rules can be set in stone. But usually, I start with delta 10 to 15 to set my strikes and to collect at least 10% of the stock value (e.g. if the stock trades for $40 then 10% from 100 shares or $400 would be $40 or 0.40 credit I would like to get). The rest is pretty much mechanical. Then I monitor the trade and roll it if I do not want an assignment or need to release buying power.
Thanks. I just read that. I was curious about the closing mechanics (50%, etc) since you’re reinvesting that credit towards stocks, if you only reinvest half of your credit. Yep, i assumed we’d dive deeper as the challenge went on, but having a little extra capital to utilize, i was hoping to do a little more before our challenge got there. Thanks for the post and response!
Yes, I let the trade run to expiration and let it expire. I roll it if I see it may not expire safe OTM, then I roll it, but if it is safe, I let it expire. I reinvest the entire credit I received.
I think it’s smart to step away from 0DTE trades, they work until they don’t…you’re ‘staring down a train to pick up pennies’ as they say.
I agree. The problem is that when they stop working the losses are catastrophic compared to the gains. I tried to push it hard but failed. Time to trade what I know and what works for me.
Thanks for stopping by.
when you said in the monthly spx
1) DTE shall be 50 or more.
2) The IC width shall be 25.
3) The collected premium shall be $3 or more, the more the better
what do you mean by width shall be 25? the difference between the sell strikes (cal and put) to be 25? if you choose one side 10 delta, the other should be 25 strikes away? so if the sell call is 3555 and sell put should be 25 point away (3555-25 = 3530) but this will be ITM put and not OTM… just trying to understand how to construct it at 10 delta and get 3$ premium. any help is appreciated.
25 is the width between short and long leg of the option, that is 25 dollars, or 2500, So, if you sell 3000 put and buy long put, it is 25 below the short one thus 2975. Then the entire spread will be 3000 / 2975. Then you do the same on the call side. Let’s say you want to sell 3400 short call then you open 25 points call above the short one, thus 3425. The entire spread then will be 3400 / 3425 call spread. Both shorts (put and call) shall be at delta 10).
Martin,
I think I understand most of the statement above and makes perfect sense, except this part “Both shorts (put and call) shall be at delta 10).”
So on the example above the IC will look like this:
Buy 3425 Call
Sell 3400 Call
Sell 3000 Put
Buy 2975 Put
#1 Question: How did you derive the 10 delta? (can’t quite wrap my head around that part)
#2 Question: I see the width between selling 3400 Call vs selling 3000 put is $400 dollars…. Did you come up up with this number based on the support/resistance for the 1-2 months ?
Currently using Robinhood for the options at the moment.
Thanks again Martin for this take!
The option chain should show you current deltas. So you just go and find deltas 10 for each short option. See picture below for 57 DTE trade. So, if you find delta 10 you get your short legs, Then buy 25 points wide long legs. In this example, you will get a 750 points wide Iron Condor body with 25 points wide wings and collect 4.40 (or $440) credit.
Amazing! Thank you so much for explaining that Martin. Now it makes sense.
Also how do you usually best define the Short Call & Put Positions….let’s say for Weeklies ending in Friday and for Monthlies?
I was thinking support/resistance based on last 30-40 days.. thoughts?
I do this solely on delta but depending on the market outlook I may skew the trades to the market direction or omit one side completely. For example, in a strong bull market, I may choose higher delta on puts and skew calls higher or omit calls whatsoever.
Hi Martin,
I’ve got some doubts concerning your new strategy. Rolling untested side when the tested side reaches delta 30 is a no-go in practice. The untested side is so deep out-of-the money that you can’t trade it. This is particularly challenging for your 3-day strategy.
Could you please clarify it a bit?
Keep up great work !
Paul
On the contrary. When you roll untested down (calls) or up (puts) you collect more credit and offset the potential loss. At some point you end up having an Iron Fly strategy when your puts and calls (short) are at the same strike. I also use the credit to roll the tested side, these days. Works well. With SPX I do not have any problem rolling untested side closer to the tested one.
Thank you for all the work and guidelines you post here for free.
I had a look at the champions list and found it still needs a lot of screening as many stocks just don’t have enough option activity to be worth considering for put selling.
The champions list is mostly for purchasing the dividend stocks, so yes you need to screen them for being optionable. It is however difficult to find good optionable stocks. Those worth selling options on are in my Watch List.
Really cool website this.. have been reading a lot. I notice in your strategy rules above that there is only one that mentions any technical analysis. You mention looking for getting in around supports etc. What tools would you use for that? Just drawing lines or do you use any indicators at all?
Hi, I use Fibonacci levels and then draw supports and resistances based on the market behavior.
Thanks Martin, keep up the great info!
This is fantastic. Thank you!!
Thank you. Found your blog and it has been immensely informative.
Thank you. Hope it helps others to avoid my mistakes…
What are your thoughts on selling puts on a 3x fund such as TNA?
I guess it would by like trading any index. I would have to watch it for some time to see how its options react to the market moves. The only thing I do not like is that it is not marginable so trading June contract 60 strike you make 53 premiums and you will need 5,346 margin to trade it. Too much money for not much music.
Hello,
I’ve just found your website and read several posts. You’ve done a wonderful job of sharing and imparting your knowledge in a clear and concise read. Kudos for your commitment to assisting others in their efforts to trade options profitably.
One question I had though in your SPX trading strategy relates to the 40 dollar wide strikes you use. Your discussion of the logic in using the wider strikes seems to neglect one important metric in designing trades and that is margin impact.
If I choose to trade a Nov1 15 iron condor in SPX with short strikes of 1700/2200, using your 40 dollar wide strikes I get a trade that looks like this – 1660/1700/2220/2260. Using TOS, I right click on the trade, hit “confirm and send” and a dialogue box pops up which shows me I will get a $202.01 credit after commissions with a resulting buying power effect of ($3,797.99) which equates to a 5.31% return on risk.
If I then use the same short strikes but make the strikes 5 dollars wide, I get a trade that looks like this – 1695/1700/2220/2225. Now I adjust the number of contracts so it comes as close to the buying power effect above of ($3,797.99) and I get 8 contracts. Again, opening the dialogue box which summarizes the trade, it shows a credit of $246.01 after commissions with a resulting buying power effect of ($3,753.99) which equates to a 6.55% return on risk.
Isn’t that getting me more bang for my buck? Please consider the above scenario and see if I’ve missed something.
Keep up the good work.
Steve
Hi Steve, thank you for you kind words.
To you question, it is a matter of priorities. Yes with 8 contracts you get about $44 more or 1% more, but your risk losing entire credit is a lot higher than mine. As I tried to describe in the post, 5 dollar spread has a higher likeliness of the price smashing thru both strikes than 40 dollars spread. It is the same with 50% credit capturing strategy. When I receive $180 credit, why liquidating it at $90 and not keeping the entire credit and letting the trade expire worthless? Well, the numbers are against you and you will be better off with a wider spread and closing it at 50% credit although it looks better otherwise at first look. And actually it is not. Trading 5 dollars spread is OK if you do not have that margin available (I do not have it, so I only trade 10 dollars spread and working towards 40 dollar spread goal). So the entire spread width meaning lays in probability of success and not the immediate gain. I personally would prefer lesser gain but lower risk and higher probability of success than 1% more gain and a chance that if the trade goes against me I have higher chance of losing the entire risked spread.