- I'd like any options traders out there to view this and assist me in poking holes in it. I'm certain it isn't perfect, but its close. I could use your help.
- I'd like to find a financial backer for this Plan. What better way to attract potential backers than to broadcast to the world?
Options Trading Plan - August 10, 2009
Objective
The goal of this trading plan is to generate consistent monthly income utilizing risk-defined options trading strategies with high estimated probabilities of success that profit with the passage of time.
Portfolio Construction by Strategy
| Double Diagonal SPY | Butterfly DIA |
| Iron Condor SPY | Calendar Spreads QQQQ |
Asset Allocation
Approximately 10% of Portfolio Value shall be risked and allocated to each of the 4 trading strategies for each expiration month. Each trade is independent from each other - with its own plan for implementation and maintenance to be described below. Three products tied directly to the U.S. Stock Market have been chosen so as to adequately diversify risks across strategies to the same or similar market (SPY - S&P 500 ETF, DIA - Dow Jones ETF, and QQQQ - Nasdaq ETF).
Strategy Diversification
These four strategies have been chosen for their ability - when combined - to limit the damaging effects of swings in volatility. Each benefits from time decay and favorable probabilities. While Iron Condor and Butterfly spreads are negatively affected by increases in volatility, they are balanced by Double Diagonal and Calendar spreads which both benefit from increases in volatility (and vice versa).
Implementation
Care shall be taken to maintain an open position in each Strategy Category at all times. Whenever a particular trade has been closed at a profit or a loss (or after expiring) - a new position will be implemented to maintain strategy diversification and protection from changes in volatility.
Strategy 1: Double Diagonal
A Double Diagonal is typically a debit spread. Short options will be entered a distance away from current market prices, and will be hedged with long options that are both one strike further out and one month further out. This construction makes the position favorable to increases in volatility as the long, longer dated options will increase in value faster than the short, near-term options. The goal of this position is to roll into an Iron Condor when the short options are only retaining 15 cents or less of time-premium.
Characteristics:
Double diagonals reach the maximum values at the short strikes at expiration at either end of the profit spectrum. These positions will be constructed in such a way that shall yield a greater than 60% probability of profit if held to expiration of short options. Due to the longer dated long options acting as hedges, this position reacts favorably to increases in volatility and vice versa. This is in direct contrast to Iron Condors, and therefore serves as a nice counterbalance to minimize the effect of changes in volatility.
Implementation:
Short option strike prices shall be determined so as to place the two breakeven points (upside and downside) just beyond one standard deviation from current market prices (as measured to the short strike expiration). This puts the odds of success in our favor. The short strikes will be near-term options, while the long strikes will be one month further out. For example, a double diagonal might be formed by selling an Aug 95 put and an Aug 105 call, and hedged by a long Sept 90 put and a long Sept 110 call.
Double Diagonals will be entered with a minimum of 25 days until expiration of the short options.
Maintenance:
Action shall be taken if the underlying trades to the mid-point between the short strike and the break-even point. Depending on market conditions, this position will either be closed and re-established at new strikes, or only the effected side of the position will be adjusted to new strikes.
Ultimately, the short strikes shall be rolled into the next month to form an Iron Condor when the short options are priced at 15 cents or less (or are maintaining less than 15 cents of time premium). The resulting Iron Condor will be covered for a profit when each short option can be covered for 5 cents each. The remaining long options will be held to expiration as free lottery tickets.
Strategy 2: IRON CONDOR
The Iron Condor is a risk-defined options credit spread consisting of an out-of-the-money (OTM) Call Credit Spread and an OTM Put Credit Spread. This trade is most profitable if the underlying closes between the short call and put strikes, rendering them worthless at expiration. However, if the underlying closes beyond the short strikes, the risk is limited due to the protective long call or put. The goal of this position is to hold near to expiration and cover the short options for around a nickel each.
Characteristics:
The risk-reward for an IC is typically very unfavorable (5:1 or worse). However, since we've started these positions out as DD's first (see above), the resultant risk-reward scenario should in most cases be more favorable. These positions must be monitored carefully and consistently adjusted when necessary. The profitability of ICs is inversely affected by changes in volatility.
Implementation:
Our Iron Condors will initially be constructed as Double Diagonals and then rolled into an IC. If an IC must be created from scratch, it shall be constructed by placing the short strikes just beyond one standard deviation (to expiration) of the current market price. For example, if the underlying is currently trading at 100, the short call might be placed at 109 and the short put might be placed at 92. The appropriate hedges will be determined by how much risk is to be assumed (err on conservative side) - with the goal being to minimize the amount of contracts traded to limit commissions incurred.
Maintenance:
If open profit/loss in an IC position ever becomes negative equal to the amount of the credit received (excluding commissions), the position should be closed and a new position of twice the original size should be entered using the same parameters as described above in Implementation. An exception exists within two weeks to expiration. During this time, if the total position (including adjustments) becomes negative as above, exit the position completely.
Strategy 3: Butterfly
The Butterfly is a debit spread where At-The-Money calls or puts are shorted in an effort to collect time premium and are simultaneously hedged by long options of the same class both above and below the short strikes. The position achieves its maximum value if the underlying closes equal to the short strike's price at expiration. The goal of this position is to sell it when it has achieved a 30% gain (after commissions) over the debit incurred to initiate the position.
Characteristics:
Butterflies are constructed such that the position shall be profitable as long as the underlying stays close to the price at inception - or doesn't move a significant percentage in either direction, thus putting probabilities in our favor. Butterflies benefit from the passage of time due to the decaying short position. Butterflies' profitability is inversely related to changes in volatility.
Implementation:
A butterfly position shall be implemented by shorting two options at the ATM strike, and purchasing long options at an appropriate distance both above and below the current ATM strike in order to achieve the objective risk tolerance while minimizing the amount of contracts traded. This will limit the burden of commissions. Target a probability of profit of 35% - 45%. For example, if the underlying is trading at 100.27, a butterfly trade can be established by selling two 100 Calls and purchasing for protection one 95 call and one 105 call for an overall debit.
Maintenance:
If the underlying should violate its upside or downside breakeven points, purchase an additional butterfly position as above. This should be done a maximum of two times. If the total position should ever be down more than or equal to 25% of the total debit paid to initiate this position, take the loss and close the position. Exit the position with a standing order for a profit equal to a 30% gain from initial debit (after commissions). Also keep standing orders to exit each vertical leg at 20 cents of time premium remaining. In the above example, cover the short 100/105 vertical at .20 and sell the long 95/100 vertical at 4.80. Once one leg is exited, adjust the open order on the remaining leg to achieve the original profit target. This should improve the odds of achieving the target. Once one butterfly position is completely closed, another shall be entered with a minimum of 25 days until expiration.
Strategy 4: Calendar Spreads
A Calendar is a debit spread. It is the simultaneous selling of a near-term option and hedging it with a purchased option with the same strike but a further out expiration month. We will employ two types of calendar spreads: "1-month" and "3-month campaign". The goal of the 1-month trade is to capture a 40% profit over the debit incurred to initiate the trade. The goal of the 3-month campaign is to capture 3 rolling opportunities to smooth out returns. The profit in these calendar spreads is made possible by the faster decaying time premium of the near term option as compared to the longer-dated long option.
Characteristics:
Calendar spreads are similar to butterflies in that they achieve their maximum profitability at the short strike. However, the key difference is that calendar spreads react favorable to increases in volatility, and therefore act as a good counterbalance to butterflies.
Implementation:
The 1-month calendar spread shall be purchased with ATM options. The nearest month (with a minimum of 25 days to expiration) will be shorted and a same strike will be purchased one month beyond the short month expiration (for example: short Sept 50 call/long Oct 50 call). Care will be taken to keep purchases under a .50 debit. Implied volatilities should be between 14-27 and skew should be limited to <2.>
The 3-month campaign calendar spread shall be purchased with ATM options. However, the long option shall be three months beyond the short options (For example: short sept 50 call/long Dec 50 call). Implied volatilities and skew should be observed as above.
Maintenance:
In both positions, if the underlying shall trade to or beyond a breakeven point, establish another position at the current ATM strike. However, only do this twice (for a total of 3 unique spreads). If the total position is ever down more than 25% of the debit incurred to build the position, close it.
For the 1-month spread: Target a 40% net gain (after commissions) of the original debit incurred.
For the 3-month spread: When the short options are only retaining 15-20 cents of time premium (or less), then roll out to the next month. If it the last month of the campaign, exit when there is less than 20 cents time premium in the short option.
Other notes:
· All positions will originally be initiated with at least 25 days until expiration so as to capture the maximum amount of time decay.
· No adjustments shall be made in the final two weeks to expiration. If a position hits an adjustment point, the trade shall be exited and a new trade in the next expiration month will be initiated.
· All attempts will be made to maintain representation of all five strategies in the portfolio at all times.
·
Checklist:
| Implementation: Double Diagonal · select short strikes just inside 1 st. dev. Hedge 1 strike out. · move strikes in to minimize "sag" in profit profile, if necessary · long options maximum 1.5 price of shorts Iron Condor · roll DD into IC. · if creating new one, set short strikes beyond 1 st dev. Guerilla Calendar · ATM strike · pay 50 cents or less for the spread · IVs for each option between 14-27 · keep long option <> · short option > 30 cents Campaign Calendar · ATM strike · negative skew <> · confirm probability of success greater than 35% Butterfly · select short strike nearest to market price · select long strikes to achieve minimum contracts and target 10% portfolio risk · confirm probability of success greater than 35% | Maintenance: Double Diagonal · Take action at mid-point between short strike and break-even · If down 25% of maximum loss, bail · Roll short options when trading at 15 cents time premium (into IC) Iron Condor · If position is ever down equal to the credit received to implement the position, close and re-enter new position - twice the size · Cover short options at 5 cents Guerilla Calendar · When trades to Breakeven, add another spread (no more than 2 times) · If down more than 25% of total debit, exit · cover each spread when time premium of short option =<> · Take profit at 40% net gain (after comm) · if in more than one spread, leave resting orders to exit each unique spread at 40% gain. Campaign Calendar · At BE, add another (no more than 2 times) · exit if down > 25% of total debit · roll when premium <> Butterfly: · set standing orders to exit position at net 30% gain, and orders to exit each leg when .20 of time premium remains. · If either breakeven point is violated, add another butterfly position. Only 2 new positions may be added (total of 3) · If the position is showing a loss greater than 25% of the total debit paid to establish this position, close out. |
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