We have other great traders posting daily like Optrader (who specializes in Swing Trading) and the Oxen Group (who trade stocks, NOT options, for day trades). We also have featured members, who moderate our chat room and provide various trading strategies. One of the most popular is Peter D, who specializes in short strangle plays.
Peter's strategy is described in the articles "Profiting from Short Strangles - Part 1, the Basics" and "Profiting from Short Strangles - Part 2, Possible Adjustments."
You can learn all about this as well as our primary strategies by becoming a member HERE and get in on the action in our daily Member Chat. Even a PSW Report Membership is a great place to start as you can read comments in my Chat Room that are 7-30 days old, which will give you a great overview of what the Premium Members can see live every day as well as some very valuable trading lessons like the following:
We had a wild week of trading and, as good traders are wont to do, Peter was up at 11:35 this evening (yes, that's how we roll - we're obsessed so you don't have to be!) going over the trades we were making so that we could analyze what went right and what went wrong in a unique market situation (kind of a "grey swan" as it does happen once in a while).
Strategies are all well and good when things go your way - it's how they perform under pressure that separates the wheat from the chaff:
Hey guys, I’m compiling the activities in the past few days for our reference (WARNING - LONG POSTS) …
The play: Short strangles - Selling into volatility, play-by-play, 1/19/2010 to 1/27.
The Setup: VIX surged from 17.5 to 28 in 2 days, a feast last occurred 3 months ago, when Galleon hedge fund blew up in late October 2009, and drove the Russell 2000 below support.
1- Tuesday, 1/19, closing with SPX 1150 (near 12 month high), VIX 17.5 (near 12 month low)
No activities on Short Strangles
2- Wednesday, 1/20, closing with SPX 1138, VIX 18.6
Market down 1%, no problem with Short Strangles, using up some of the Negative Delta bias, VIX is still complacent
3- Thursday, 1/21, SPX 1116, VIX 22.23
SPX broke 1130 line, and ssdirk was paying attention: 10:29AM "alright, I am getting close to a delta of 0 on my SPX strangles. You talked about DD or taking other measures when we get a big move down and delta goes to positive. Can you elaborate on ways to take some profit and adjusting to keep you in a better position"
Peter D response: 10:47AM "Now that we have survived a couple of drops and used up the negative delta hedging, we can consider rolling the short calls down. The RUT Feb 700 is now $0.4, meaning we’d have to wait a few weeks to get the $0.4 while the short PUT keeps gaining on us if the market continue to drop. It can be rolled to 680 or even 670 for $0.8 to $1.9 credit. Since we are taking on more risk of getting blown out to the upside, let’s roll half and see how we are doing. Similarly, the RUT Mar 720 is $0.8, so we should consider rolling it to Mar 700 for $1.4 credit (or Mar 710 if you are more comfortable). The premise of these rolls is that earnings are not a blow out, not supporting a big market surge. We still have huge cushion on the short PUT side, 12.5% or more, so no worry there"
Peter D note that the OTM calls are loosing value quickly: 11:28AM "short stranglers, you can all see that we are breaking the short term support of SPX 1130 and RUT 638, so the short calls that are 7-10% OTM (especially the Feb’s) are getting to zero as the market makers have given up on them, statistically speaking that the market would unlikely to make those 7-10% upper levels in 4 weeks. In the rare cases where the market can make it to the upper resistance, then those OTM callers can gain value, but very slowly at first, giving us plenty of time to react. In those cases where the market rallies, the callers not only battle time decay, but also decreasing VIX."
judah, are we tighten the strangle or not? 11:36AM
Peter, yes we are since it was a first chance in a while, 11:48AM
ssdirk, 2:42PM, are the spreads on SPX options usually this wide. Seems no one is trading them?
Peter, 4:09PM, the spreads are very wide, maybe skewed by the sudden jump in VIX.
ssdirk, 4:17PM, Could you help me to understand what happened today on my SPX and RUT strangles. I have both Feb and Mar strangles with wild plays. Margin Req are pretty equal between SPX and RUT, and they are about the same between my 10%/-15% strikes on the curve. They are both pretty close to being 0 delta. However, the SPX strangles lost money today while the RUT strangles held ground. I know vix spiked in the last 2 days. Is it because the spread is bigger on the SPX than the RUT.
Peter, 4:51PM, the only explanation is that RUT putters didn’t gain as much as SPX putters and that the paper loss on RUT putters should be as much as SPX’s. The SPX Feb 980 PUT jumped $1.95 (125%) to $3.45, while the RUT Feb 560 PUT only gain $1.05 (70%) to $2.65. They are about the same distance OTM. This may be caused by the discrepancies in the exchange’s algorithms to calculate options value, or caused by the fact that RUT did rally more in percentage terms during the day, limiting the gain in the putters.
The discrepancies between RUT and SPX could all be reversed tomorrow where RUT strangles would lose more than SPX. The way to take advantage is to sell more of putters into whichever that gain the most for the day. Another 2% down and we are ready to deploy the additional cash as VIX could reach 24.
This is an excellent example for doubling down that is slowly unfolding where we see paper loss, even while having negative Delta. It’s the work of a higher VIX that counters the effects of negative Delta and positive Theta. Having lots of margin would also help. I’m seeing that my available margin is getting down to the 75% -80% level, which is excellent as I can even triple down. Keep an eye on the SPX Feb 950 and 980 putters. When they get to $5 or more, they are a very attractive sell with 4 weeks to expiration, along with whatever the short CALL that makes sense.
judah, 5:06PM, I had been wondering when you decide to DD. It has been such a relentlessly up market with a low VIX that the there didn’t seem to be much more to wring out of the Feb strangles. I think I’ll take advantage of the current downturn and sell some more Feb strangles tomorrow.
The short term peak - The doubling down opportunity came true:
4- Friday, 1/22, SPX closed 1092, VIX 27.6
Phil’s title: "Fall Down Friday - Stop the Week, We Want To Get Off!". However, we added short strangles instead as we had plenty of fire power.
Peter, 10:48AM, I’m having a blast selling additional strangles on that dip.
ssdirk, 1:46PM, What do you think of rolling my SPX Feb 1210 call to 1180 for 1.20 credit? (note that FEb 1180 call was down to $0.73 2 days later, so it was a good roll).
Peter, 2:09PM, SPX looks iffy with the bankers going down, so rolling to Feb 1180 is relatively safe. The last high was around 1150, so there is still a 2.8% or so cushion if we get back there.
gel1, 2:25PM, Now 90% out of the market. When the President of the US declares a war on the banking system and the financial markets, then what more could bring on a severe correction. That is the way I am playing it.
Phil, 3:48PM, Wow, 500 points in 3 days! Dow volume now 241M at 3:45 and it’s a fact - we only go down on volume.
cwan, 4:21PM, I’ve been quiet because I’ve been busy on other things. But I managed to add some March strangles using strikes suggested by you folks. Thank you all! I also rolled down some of the calls, which don’t increase my reserve requirements.
Peter, 4:21PM, Whew, it was exhausting to add new strangles. What a great day to add them. VIX jumped to 27.31. Look at the SPX puts, Mar 875 is $5.25, Feb 950 is $4.55! We may go down further, but it’s a great opportunity to scale in more. If we stabilized next week, VIX would come down fast and the newly added strangles can be got rid off, and we are ready for another drop.
WEEKEND for reflection and time for Divisional Football
5- Monday 1/25, SPX 1097 closing price, VIX 25.34
tchayipov, 9:35AM, I’m finally approved for PM, and ready to try your crazy strangles, any advice to open it now.
ssdirk, 9:59AM, As a side note, I learned a very valuable lesson on portfolio margin and being overextended. This weekend I had visions of a Black Monday happening. When I looked at TOS Analyze tab at the -10% and -15% price slices for my SPX and RUT strangles I realized a margin call was coming. I wore myself out this weekend thinking about this. I thankfully received a gift this morning with this bounce and took advantage to scale back to where I can withstand the Black Monday event and be able to roll if necessary without having to sell out. I feel lucky and hope others are not as foolish as I was. If you have portfolio margin follow Peter’s rules about the # of contracts you can handle.
Peter, 10:42AM, I’ve been busy adding short strangle this morning, so tcha, it’s a good time to add them. March 900/1200 looks good. Actually, when you can sell a PUT that is close to 20% OTM, with 8 weeks to go for $4.65, then it’s a good time to sell. Feb 950/1170 (yeah 1170 seems low and is a gamble, but the market does look weak). Same observation on the Feb 950 at $3.2, which is an excellent sell.
Peter, 10:59AM, big explanation and escape route planning:
You are correct on seeing the margin going through the roof. I did some investigation in the weekend to see what’s going on, and found that the Rate of Increase in VIX was causing all kinds of problems. It made the exchange algorithm that calculates the options value went crazy. How do I know? I looked at the SPX Mar 875 and saw that its value jumped to $5.25 at Friday’s close, and that’s not normal. How often can a 20% OTM PUT would worth $5.25 with 8 weeks to expiration? It’s a good chance in many months to sell additional short PUTs.
Then I looked at the escape routes and found many of them. At Friday’s close, you can roll 2X and 5% down for a credit, which is unusual also. SPX Feb 1000 PUT is $7.9 and 950 put is 4.55 (2X of the 950 is $9.1). So we know that we can roll 5% down (roughly the entire move down from the peak of SPX 1150), and double the contracts and still be okay. So instead of rolling, I added the SPX Feb 950 short PUT and 1170 short CALL first, then roll the Feb 1000 short PUT later. This morning, CBOE must have recognized their errors in calculation the options value as the 950 putters lost $1.35 and 1000 putters loss $1.75. Some of that is due to the lower VIX, but I’m sure some are due to the errors in the calculating rate of change of VIX. Anyhow, it’s good to take advantage of it.
Now, for others who sold PUTs in the past couple of days, you are much better off this morning. If you buy CALLs, you’d need to take corrective actions because, a) it’s very hard for the market to come back to the high, as there are too many sellers just waiting to sell their longs or starting the shorts, b) VIX works against you on the way up, and c) time is not on your side.
judah, 12:45PM, I guess the real question behind my question is, assume you protect yourself with crazy plays (or the crazy ultra plays I wrote about earlier), what does Peter D worry about?
Peter, 1:10PM, What I’m worry about is to have a large Positive Delta and seeing a -5% in the futures! Other than that I think I’ve done my homework on the maximum drops in any period of time, and have the crazy plays and position sizing to counter those. As you have seen in the past few months, having reserved cash means we can roll out of most if not all of the situations.
Peter, 3:44PM, Seeing no meaningful bounce, looking to hedge further on the downside:
The imbalance in the options value calculation was all corrected now as my account balance is back to normal. The balance is in fact higher than before the 5% descend in SPX, so it’s time for me to take off the added spreads as they had done a fabulous job of taking advantages of the imbalance. Whee. Now I need to get my Delta to a slightly negative number, given an un-impressive bounce today.
The exit continues:
6- Tuesday, 1/26, SPX closed at 1092, VIX 24.4
Peter, 10:28AM, looking to exit the spreads sold into the VIX surge:
Thanks goodness for this bounce, it was looking grim that VIX would continue to go up, endangering our short strangles. I took this opportunity [market bounce on consumer number, lower VIX] to get rid of the additional spreads that were added in the past few days. Like I mentioned yesterday, once your account balance has recovered to the previous level before the 5% S&P500 drop, it’s good to lighten up, just in case.
Peter, 5:20PM, got rid of a few short strangles to lock in profit
whew, that’s 6 hours back to back meetings. I see that my short strangle portfolios are up 2.4% today (good gain without touching them), and 11% for January. Woo hoo! That’s a bit over leveraging for Jan, but hey, got to make the most of the surge in VIX because of Obama’s speech, and the Bernanke confirmation worries. The fast VIX jump was uncalled for. Comparing the VIX level with previous low in SPX and you can see that VIX was higher than it should. So it’s a risk worth taking and now profit are being locked in as the portfolios are being deleveraging fast. The portfolio buying power is still at 60%, and will be back up to 80% in a day or two.
On the flipside, if we were greedy and had too many spreads to start with, we would have had a margin call. Well played to the short stranglers.
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Disclosure: We are market neutral on these trades, selling options to profit from range-bound trading