Investing

Option Trading Strategies - Q4 2017 Results

  • Last Updated:
  • Jan 15th, 2018 12:03 pm
Sr. Member
Jul 27, 2017
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jimmyho56 wrote:
Jan 11th, 2018 1:34 pm
The pricing on this based on the March 16 puts appears to be a marginal profit of $0.10. In this case, are you really making your money if the SPX goes down to 2650, but after this point, you have exposure from 2650 to 2550 as you second buy isn't until 2550?
free ratio spread on SPX
buy 1x Mar 2700P, sell 2x Mar 2600P and 1x 2300P - $1 CR

free broken wing butterfly
buy 1x Mar 2700P, sell 2x Mar 2650P, buy 1x Mar 2550P - $0

obviously, they are free, but not risk free. At least, if you're wrong, you don't lose anything. And assumption is that any down move will be measured and not black swan event.
Aren't credit spreads great when it all goes the way it should, just like when folks sell naked puts or short?

when trading [buying/selling] options, especially when its only 'one-contract' (100 shares worth) there are other factors to take into account when doing it all at the same time & timing is critical.

1. the Bid & Ask price

2. the brokerage fees

3. the FX if going back & forth between $Cdn to $US

I'd be interested to see on expiry the net-net profit of this trade?

BTW, don't know where folks are getting their options quotes or seeing what the potential profit/loss could be, if they are getting them on their broker website or using different price points...bid, mid, ask?

For a quick calculator I have been using

http://www.optionsprofitcalculator.com
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Mar 22, 2010
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porticoman wrote:
Jan 11th, 2018 2:58 pm

I'd be interested to see on expiry the net-net profit of this trade?

BTW, don't know where folks are getting their options quotes or seeing what the potential profit/loss could be, if they are getting them on their broker website or using different price points...bid, mid, ask?

For a quick calculator I have been using

http://www.optionsprofitcalculator.com
for IB platform I am using it has the profit-loss graph and also risk simulator. (Not on web based platform but on TWS, more sophisticated one)
[OP]
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Nov 20, 2016
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jimmyho56 wrote:
Jan 11th, 2018 1:34 pm
The pricing on this based on the March 16 puts appears to be a marginal profit of $0.10. In this case, are you really making your money if the SPX goes down to 2650, but after this point, you have exposure from 2650 to 2550 as you second buy isn't until 2550?
Thanks for the calculator. This is what I get when I feed in the puts:
Estimated returns
- SPX at $2761.52 on 11th Jan 2018

Initial outlay: $20 (net debit) see details
Maximum risk: $5020 at a price of $2550 at expiry
Maximum return: $4980 at a price of $2650 at expiry
Breakevens at expiry: $2699.80, $2600.20

If falls to 2550, seems like a large maximum risk of $5,020. Is this correct?
[OP]
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Nov 20, 2016
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If I change the second put purchase to 2600 from 2550, seem to get much better results. Risking maximum loss of $290 but maximum profit is $4,710. Am I reading this correctly?

Estimated returns
- SPX at $2761.52 on 11th Jan 2018
Initial outlay: $290 (net debit) see details

Maximum risk: $291 at a price of $2940 on day 21st Feb 2018
Maximum return: $4710 at a price of $2650 at expiry
Breakevens at expiry: $2697.10, $2602.90
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net debit always results in defined loss (= max loss, what you paid for) with substantially larger max profit. However, you also need to watch out for probability of profit (POP). If it has low probably to hit that price at expiry, you will most likely to lose your net debit.
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My setup is to implement different options strategies, and lately through a mechanical way. The strategy to profit from implied volatility is explained on Jeff Augen's book. I have the following setup:
- Pre-earnings play: Open a stradlle, reverse iron condor (if the stock is too expensive) and / or calendar trades a few days before earnings and close it right before earnings are announced. If earnings are announced after hours, I close on that day, and if earnings are announced before market hours, I close it a day earlier. To lower my risks (and my gains), I typically trade with monthly options. IV (Implied Volatility) usually increases sharply a few days before earnings, and the increase should compensate for the negative theta. I built a list of stocks that typically have the following behavior regarding implied volatility, always rising before earnings and collapsing after:

Image

This allows me to build a non-directional trade. Certain stocks tend to have a defined pattern regarding implied volatility for most of quarters, for many years, hence my mechanical approach for consistency. I typically verify what is the current implied move of the stock (based on the strike price and net debt), what is the current implied volatility and compare it with the previous earnings cycle. If it's not expensive, then I'll put a GTC buy order at the middle of the spread, which sometimes it doesn't execute in the first hour or two, then I move it to the middle between the original middle and the ask, and leave there. For example, AAPL reports on Feb 1st. For AAPL, backtests for the last 20 quarters shows that it's usually profitable to open a straddle (or reverse iron condor) 7 days before earnings and close it 1 day before earnings. So I'll be opening AAPL straddle on January 25 (40% delta) and closing it on January 31st. For this trade, I'll use weekly options to expire in 2 weeks from when I open it. Another example, AMZN. They are estimated to report earnings on Feb 1 (not confirmed). For AMZN, I typically open a calendar trade 5 days before earnings, using monthly options, and will close it and roll over when it hits my break-even point or right before earnings are announced.

-Post-earnings play: Similar strategy, mechanically chooses the period to keep the trade based on known patterns from backtests. For example, GOOGL straddle opening the trade 1 day after earnings and closing it 7 days after earnings, using weekly options that expire in 7 days and 40 delta legs. Another one, FDX, which will report on March 20th, I typically open a reverse iron condor 2 days after earnings, using weekly options to expire in 21 days from the opening, and close it in 21 days, using 35 and 15 delta legs.

- volatility play: I have a mix by doing a bear spread on VXX with 3-month duration (enough time to capture the gains in contango) + directional call options based on my volatility and leveraged ETF model + pure SVXY call based on the negative rolling yield described on this white paper.

The combination of these option strategies, aligned with other strategies for short and long term investing offer a decent comprehensive portfolio.


Rod
Everything about my Investing and automated Trading strategies to boost your income: https://boostyourincome.ca
[OP]
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Nov 20, 2016
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rodbarc wrote:
Jan 11th, 2018 11:37 pm
My setup is to implement different options strategies, and lately through a mechanical way. The strategy to profit from implied volatility is explained on Jeff Augen's book. I have the following setup:
- Pre-earnings play: Open a stradlle, reverse iron condor (if the stock is too expensive) and / or calendar trades a few days before earnings and close it right before earnings are announced.
Thanks Rod for the detailed post. For AAPL, would you be able to provide some actual puts/calls that you might purchase to implement this strategy? So I can better understand the reverse iron condor and calendar trade with a live example.
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jimmyho56 wrote:
Jan 11th, 2018 3:13 pm
- SPX at $2761.52 on 11th Jan 2018

Initial outlay: $20 (net debit) see details
Maximum risk: $5020 at a price of $2550 at expiry
Maximum return: $4980 at a price of $2650 at expiry
Breakevens at expiry: $2699.80, $2600.20

If falls to 2550, seems like a large maximum risk of $5,020. Is this correct?
yes, profit/loss is correct. As with all butterflies, this is low probability trade (at best, 30%). Therefore, you want to do it for free (eg small credit) and nail the guts at expiry (the body of the butterfly). I usually look at potential support levels to determine where it could be, but nothing is guaranteed. As of today, SPX is at the top of the channel (and makes total sense to put this trade on), with middle line at 2650.

if you convert into regular butterfly, your margin would be zero for small debit. Again, probability is low.
After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: it never was my thinking that made the big money for me. It was always my sitting. Got that? My sitting tight!
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Jun 15, 2006
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rodbarc wrote:
Jan 11th, 2018 11:37 pm
My setup is to implement different options strategies, and lately through a mechanical way. The strategy to profit from implied volatility is explained on Jeff Augen's book. I have the following setup:
- Pre-earnings play: Open a stradlle, reverse iron condor (if the stock is too expensive) and / or calendar trades a few days before earnings and close it right before earnings are announced. If earnings are announced after hours, I close on that day, and if earnings are announced before market hours, I close it a day earlier. To lower my risks (and my gains), I typically trade with monthly options. IV (Implied Volatility) usually increases sharply a few days before earnings, and the increase should compensate for the negative theta. I built a list of stocks that typically have the following behavior regarding implied volatility, always rising before earnings and collapsing after:

Image

This allows me to build a non-directional trade. Certain stocks tend to have a defined pattern regarding implied volatility for most of quarters, for many years, hence my mechanical approach for consistency. I typically verify what is the current implied move of the stock (based on the strike price and net debt), what is the current implied volatility and compare it with the previous earnings cycle. If it's not expensive, then I'll put a GTC buy order at the middle of the spread, which sometimes it doesn't execute in the first hour or two, then I move it to the middle between the original middle and the ask, and leave there. For example, AAPL reports on Feb 1st. For AAPL, backtests for the last 20 quarters shows that it's usually profitable to open a straddle (or reverse iron condor) 7 days before earnings and close it 1 day before earnings. So I'll be opening AAPL straddle on January 25 (40% delta) and closing it on January 31st. For this trade, I'll use weekly options to expire in 2 weeks from when I open it. Another example, AMZN. They are estimated to report earnings on Feb 1 (not confirmed). For AMZN, I typically open a calendar trade 5 days before earnings, using monthly options, and will close it and roll over when it hits my break-even point or right before earnings are announced.

-Post-earnings play: Similar strategy, mechanically chooses the period to keep the trade based on known patterns from backtests. For example, GOOGL straddle opening the trade 1 day after earnings and closing it 7 days after earnings, using weekly options that expire in 7 days and 40 delta legs. Another one, FDX, which will report on March 20th, I typically open a reverse iron condor 2 days after earnings, using weekly options to expire in 21 days from the opening, and close it in 21 days, using 35 and 15 delta legs.

- volatility play: I have a mix by doing a bear spread on VXX with 3-month duration (enough time to capture the gains in contango) + directional call options based on my volatility and leveraged ETF model + pure SVXY call based on the negative rolling yield described on this white paper.

The combination of these option strategies, aligned with other strategies for short and long term investing offer a decent comprehensive portfolio.


Rod
Where are you backtesting these options strategies? Historical data isn’t cheap. I think TOS offers backtesting but you’d have to manually input the previous earnings reporting dates?
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enigma54 wrote:
Jan 12th, 2018 9:56 pm
Where are you backtesting these options strategies? Historical data isn’t cheap. I think TOS offers backtesting but you’d have to manually input the previous earnings reporting dates?
Backtests were done with CML Trade tool. You are correct, it's not cheap, but you do that exercise once. I've used them for about 3 months to validate my list, and now I just keep repeating those trades. Some are done monthly, some are done quarterly before earnings.


Rod
Everything about my Investing and automated Trading strategies to boost your income: https://boostyourincome.ca
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jimmyho56 wrote:
Jan 12th, 2018 9:15 am
Thanks Rod for the detailed post. For AAPL, would you be able to provide some actual puts/calls that you might purchase to implement this strategy? So I can better understand the reverse iron condor and calendar trade with a live example.
My AAPL trade before earnings is to open a straddle using delta 40 calls and delta 40 puts 7 calendar days before earnings are announced, using weekly options to expire 14 days from the day that it was opened. Apple reports on Feb 1, so I will open the trade on Jan 25 and close it on Jan 31.

But keep in mind that I'll be evaluating if the options are expensive, by calculating the implied move and compare it to historical moves. If the straddle is expensive, I'll then do a calendar spread, selling the front month (to sell the higher premium) and buying the back month, which is usually cheaper.


Rod
Everything about my Investing and automated Trading strategies to boost your income: https://boostyourincome.ca
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Jul 27, 2017
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rodbarc wrote:
Jan 12th, 2018 10:30 pm
My AAPL trade before earnings is to open a straddle using delta 40 calls and delta 40 puts 7 calendar days before earnings are announced, using weekly options to expire 14 days from the day that it was opened. Apple reports on Feb 1, so I will open the trade on Jan 25 and close it on Jan 31.
Rod appreciate that last post, thanks

Could you please fill in the blanks in what you mean by 'delta 40 on the calls & put' taking the current AAPL stock price is $177?

What strike price have you bought the call & put at & how many contracts of each?

What would the total brokerage fees be to open as well as close the positions on both of the call & put options & if it means exchanging $Cdn to $US to do this (on the basis that you dont have $US in the account) is there a chance of a negative return?

I like to know the net net result, not just the gross profit should the trade work in my favour
[OP]
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Nov 20, 2016
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rodbarc wrote:
Jan 12th, 2018 10:30 pm
My AAPL trade before earnings is to open a straddle using delta 40 calls and delta 40 puts 7 calendar days before earnings are announced, using weekly options to expire 14 days from the day that it was opened. Apple reports on Feb 1, so I will open the trade on Jan 25 and close it on Jan 31.

But keep in mind that I'll be evaluating if the options are expensive, by calculating the implied move and compare it to historical moves. If the straddle is expensive, I'll then do a calendar spread, selling the front month (to sell the higher premium) and buying the back month, which is usually cheaper.


Rod
Thanks Rod for responding. I would also be interested in better understanding these trading strategies you mentioned. Don't need to know how many contracts :)

Can you give an example from a prior quarter as to the calls/puts that were purchased relative to the trading price at the time? Think this would be easier to understand how the gain would be obtained depending on the movement in the stock price. Given you close the contracts before earnings are released, do you use any option strategies over night before results come out or only try to make money based on the variance in the stock price once the results are released?

With the calendar, doesn't the stock have to move significantly (before earnings) to cover the time premium you are paying for both the call and the put? Or is the time premium partially mitigated as you are buying the call/put that don't expire until 7 days after earnings so the time premium still remains to a great extent as you close it before the earnings are released? Thanks again.
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porticoman wrote:
Jan 13th, 2018 9:05 am
Rod appreciate that last post, thanks

Could you please fill in the blanks in what you mean by 'delta 40 on the calls & put' taking the current AAPL stock price is $177?
It means that the chosen strike price has a delta of 40 or close to it. Every strike price has its greek value (delta, theta, vega, gama), and that determines how the chosen option should move. Your brokerage should list these greeks for each strike price and date contract. Delta 40 means that the option will move 40 cents for every dollar that the stock moves, considering that 1 option contract gives you control of 100 shares.
porticoman wrote: What strike price have you bought the call & put at & how many contracts of each?
I have not bought it yet, but when I do it will be at whatever strike price gives me close to delta = 40. As a rule of thumb, delta = 50 is ATM (at the money), which means, around the same price that the stock is trading at. Delta 40 is a bit ITM (in the money).
porticoman wrote: What would the total brokerage fees be to open as well as close the positions on both of the call & put options & if it means exchanging $Cdn to $US to do this (on the basis that you dont have $US in the account) is there a chance of a negative return?

I like to know the net net result, not just the gross profit should the trade work in my favour
It depends on your brokerage. IB charges low commissions for options. I've converted my Cdn$ to US$, so that funds can settle in US$. IB also has one of the best exchange rates. If you don't have US$ in the account, then either your brokerage converts it for you (like CIBC Investors Edge) or you will borrow Cad$ to do the trade in US$ (and will pay interest while the trade is on). I believe the best setup is the one that allows you to trade with the same currency as the underlying, as well as with the most competitive commissions.
Everything about my Investing and automated Trading strategies to boost your income: https://boostyourincome.ca
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jimmyho56 wrote:
Jan 13th, 2018 2:40 pm
Thanks Rod for responding. I would also be interested in better understanding these trading strategies you mentioned. Don't need to know how many contracts :)

Can you give an example from a prior quarter as to the calls/puts that were purchased relative to the trading price at the time? Think this would be easier to understand how the gain would be obtained depending on the movement in the stock price.
The movement of stock price helps, but it's not mandatory. I have examples where the stock barely moved, and the trade closed for 20% profit - because of the implied volatility growth, so you buy when premium is lower and you sell when the premium is at peak. For Apple's last quarter, last earnings were on November 2nd, after close. So a delta 40 straddle was open 7 days before earnings, and closed 1 day before earnings. So a delta 40 call and a delta 40 put was open on October 26th and closed on November 1st. The weekly call expired on November 10th. On October 26th AAPL was trading at $157.4. I opened the $160 strike price call to expire on November 10th for $2.6 and the $160 strike price put to expire on November 10th for $2.9, for a total debt of $550 per contract, and Implied Volatility around 29. Then I closed it on November 1st for $930 (the $160 call was worth $8.5 and the $160 put was worth $ 0.8), so a profit of 69% in a week, with Implied Volatility at 39 and the stock trading at $166. Please note that Apple last quarter was exceptional, and typically the profit in between 10% to 15% in a week. Sometimes you get big profits when the underlying has a nice movement, and sometimes you get a loss when it barely moves and IV doesn't expand.

jimmyho56 wrote: Given you close the contracts before earnings are released, do you use any option strategies over night before results come out or only try to make money based on the variance in the stock price once the results are released?
Sorry, I didn't understand your question. This pre-earnings trade is to profit before earnings are released, you open and close the trade before earnings are announced. Holding through is a lottery ticket, that can either reward you nicely or make you lose it all. When I closed that straddle for $9.3, the stock had an implied movement of 5.8%, so if the stock moves less than that, it would lose significantly. Even if it moves more than 5.8%, the crush on implied volatility could still generate losses. On this case, on November 2nd, the stock opened 3.5% higher and closed 2.5%, so if I held it through earnings, I would have lost a lot. Not worth holding it. Then a separate play is the post-earnings trade, meaning, a day or two AFTER they announced earnings, one can enter on a straddle if the stock is expected to not stay stagnant.
jimmyho56 wrote:
With the calendar, doesn't the stock have to move significantly (before earnings) to cover the time premium you are paying for both the call and the put? Or is the time premium partially mitigated as you are buying the call/put that don't expire until 7 days after earnings so the time premium still remains to a great extent as you close it before the earnings are released? Thanks again.
There are 2 elements that would make the straddle trade profitable: underlying price moving decently or / and rising implied volatility. Usually one of these 2 events help to offset the negative theta (which is responsible to erode returns). It's a higher risk / higher return strategy. Alternatively, a reverse iron condor is a safer strategy (since it has lower negative theta), with obviously lower return potential. If you choose further monthly options instead of closer weeklies, then it's even safer (at the cost of lower returns as well). But if the implied volatility is too high (or too close to historical highs for previous earnings), I'll take the other side of the trade and do a calendar spread - sell the front month (typically more expensive) and buy the back month (which is typically cheaper). Time decay works in your favor, but the risk is a sudden price movement.


Rod
Everything about my Investing and automated Trading strategies to boost your income: https://boostyourincome.ca

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