[TinGull]

Hi all,

I'm going to start trading credit spreads and wanted to keep a thread about it. I'll update with pictures of charts when I enter into a position and the reasoning for the position.

What will I be doing? Mainly selling credit spreads on ETF's. How will I be basing my decisions? Mostly volatility based probabilities. By watching different statistics I can discern which OTM spreads will offer real nice returns for the money invested. How much return on investment will I be looking for each month? I'd say anywhere from 10-15% is ideal for me. I'm going to selling some stuff so far OTM that the probabilities really will be on my side but the premium collected isn't "huge" by daytrading means. But, it's going to be about consistent monthly income, not about making millions before lunch. I'm tired of trying that game. What I'll be doing here is what I did before I started to day trade. Will I include some day trades? Absolutely. I'll mostly day trade the QQQQ as thats where the liquidity is and it's pretty cheap monetarily.

So, my first order to tackle:



Currently working at a 0.19 credit

[brownsfan019]

Tin,
Can you explain the theory behind the credit spread itself? I faintly recall this strategy but could use a refresher for sure!

[TinGull]

Sure,

With an option, you're holding a decaying or wasting asset...that is, when you BUY an option. So, when you sell it to someone else, they are the ones holding the bag of time decay while you reap the rewards of it. By selling them you've got a positive income so long as the market stays above the short strike of your vertical (if selling a put spread) or below the short strike (if selling a call spread) or in between them (as in an iron condor).

Each day will bring you more coin as long as it doesn't hit those strikes. It could be 1 penny inside and you'd still collect all your premium. My plan, though, is to be out of these trades within 4-10 days of expiration to mitigate any gamma ill effects on the trade coming in to expiration. Basically meaning as the time decay grows faster as expiration approaches, the gamma will move the delta (price the option moves per penny of underlying) faster. If I'm at expiration and price is close to a strike I dont want it to be so close to (which wouldn't happen as I've got risk measures in place to prevent that) then the position can move against me real fast. So, I'll be out of these positions before any of that can happen.

[brownsfan019]

Ok, so in an iron condor what are the potential risks and rewards?

Reward is what you collect NOW? Correct?

Is the risk in theory unlimited?

[TinGull]

The risk is limited, so is the reward. Basically, you risk the difference between strikes minus the premium you collect.

Now, to update...I've gone and placed a modified order of the one above. I'm currently working :

NOV 161/160/143/142 Iron Condor for credit of .21 this equates to a 22% ROI after commissions.

In this case there is 1 dollar between the strikes and I'm looking to collect 21 cents, so risking 79 cents. After commissions get factored in, that gives me 22% ROI. What are the risks of this actually giving me my full loss? Not much.

What will happen if we get a swoon next week? Well, I've got the 161/160 call spread to give me credit there, and then I'll have to adjust the put spread by rolling it out to another month/strike and get defensive on it. What are the chances of that happening based on volatility right now? About a 13% chance that this will not work out. That reads : 87% chance of success on this trade.

For 22% in a month with 87% chance of success, I'll take it.

[TinGull]

And...yea, the reward is the credit collected. It actually doesn't go into your account until the options start to lose premium.

[brownsfan019]

Originally Posted by TinGull »

About a 13% chance that this will not work out. That reads : 87% chance of success on this trade.

For 22% in a month with 87% chance of success, I'll take it.

If you can share how you arrived at these numbers, I would love to see them. As soon as you translate it into math, I am onboard!

[TinGull]

Well, the probabilities of expiring are loosely based on the delta of the position. There are some other measures that go into it based on volatility and such, but if you have the delta readings you're pretty much set to gauge those probabilities.

Say, for instance, you're selling a spread on SPY. The current delta of the 142/143 vertical is average of .15 (.14 and .16 respectively). So, making that into % terms it'd be 15%. That 15% is basically the % chance of that option expiring in the money. Since we don't want credit spreads to expire ITM and we want them worthless, this gives you an 85% chance of expiring worthless.

The 22% I explained earlier, and is easy to figure out. Credit/risk.