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Gitanshu,
I was interested in your analysis below, and have a couple questions
interleaved.
-----Original Message-----
From: owner-metastock@xxxxxxxxxxxxx [mailto:owner-metastock@xxxxxxxxxxxxx]On
Behalf Of Gitanshu Buch
Sent: Friday, August 11, 2000 3:45 PM
To: metastock@xxxxxxxxxxxxx
Subject: RE: What options to sell?
True. but look at any spread as risk/reward so even if the reward is
limited, it is often the only desirable way to take a position.
For e.g.: One wants to short the market, lets use OEX as the poor target.
Lets say the OEX went out at 805.
One could buy puts - and stand to risk 100% of the premium even though OEX
went down. Lets say we bought a 2 strike out put (the 795) since ATR = 12,
so one can reasonably expect our strike zone to be penetrated if our
direction call is correct.
So you start with an ATR to estimate breakout or containment; what period of
time would you be considering?
We pay - lets say - $400 for the put, with a week to go.
If OEX gets to 791, we break even. Below that, its profit.
For e.g.:
If I could sell a credit spread where my max risk is 1 point and max profit
is 9 points, AND I have made a directional bet - lets say I sell the 790-800
call spread for a credit of $900. Sell the 790, buy the 800; is the risk
figured just on point spread at initiation? And your saying that the
maximum risk is if at expiration you have only losses from the short & it
ends just below where the benefit of the long would begin, right?
Worst that can happen? OEX goes out at 799 or higher, I lose $100. But if
OEX does get to the initial breakeven point of 791 for the long puts, I
still make $800. That is an 8:1 trade. You're talking now about puts,
rather than calls? Did you mean to switch here in the example or did you
mean to talk about a credit put spread above?
Question then becomes, how many multiples of $100 can I bet without wiping
me out?
Why won't I take the 8:1 shot if I'm really good at direction?
The $100 risk here is definitely better than the $400 risk in the long put,
with price going out at the same 791 level, the former breaks even and the
latter returns 8 times my risk.
Now: I could also buy the 790-800 put spread - probably pay $300 for the
privilege. Nets $600 at 791. Better than long puts, but still inferior to
the credit spread.
For e.g. - lets look at other debit spreads - say a butterfly:
Each butterfly starts out as 2 spreads:
A credit and a debit. Would this be: long 780 put, short 790 put + short
790 call, long 800 call?
The net cost of the butterfly is always less than the cost of the single
debit component. The beauty of b'flies is that they retain value almost all
the way into expiration day, giving me plenty of time to adjust, and the
friction is typically minimal.
Now I may really want to be bearish - say the OEX. But the put spread for 10
underlying handles from - say - 800 to 790 - may be $300, giving me a max
profit of 7 for a risk of 3 or a r/r of 2.3:1.
Same objective is achieved if I'm long the 780-790-800 put fly for less than
half the cost - typically for 1.875. This dramatically increases my r/r from
2.3:1 to over 5:1 within the same price zone - a 2-fold+ increase.
The assumption is that the underlying will go out where the fly is the
richest - at the central strike. How long out in time do you like to do
butterflies? Better short term, couple weeks, or better long term holds,
couple months?
This is exactly the same strike where the long put spread would be
max-profitable. So any trading adjustments one would make to keep the point
of max profitability in the crosshairs -- one would still make.
Why won't I take the shot? Do you use OptionVue to model these
relationships? I have it but I have let the EOD feed expire so I'm not
using it right now. Would you use butterflies on QQQ options? I guess they
would need to be done in considerable multiples, which may make them too
much in commissions.
Thanks, for your thoughts.
Daryl Roberts
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