Try to answer all these questions to understand your strategy better
Thanks again for the challenges. Before I respond to your individual points I'd like to make a statement to all that might help clarify where I'm coming from in general:
Part of my psyche is that I find it difficult to just blindly accept "conventional wisdom." For good or bad, I sometimes have to prove things to myself. (Having said that though, I'm a firm believer in the maxim, "Learn from the mistakes of others so you don't have to repeat them yourself." But so far no one's told me they've tried 10-delta, or any-delta, short strangles to this extent.) And I think especially in the financial arena we're often told as gospel that certain things won't work for certain reasons, and I'm just not convinced that those things are in fact holy scriptures. The most common one is that you can't beat simply buying and holding the S&P index. But you can, and lots of people are; you just have to be willing to put in the work to do it. I'm not one to shy away from work if there's a tangible benefit, and I've been putting a TON of effort into this. I'll do the same when it's with real money and either prove (at least to myself) that it works, or I'll stop because I've seen that it doesn't work. I'm in no way saying or implying that I'm smarter than any other traders, but I've observed something that seems to work and I'll keep at it until I'm convinced or not.
"Break down this trade into short a call or short the put. Are you expected to make money over long term shorting either? If so why?"
I'm guessing "the answer" is short puts because stocks tend to always rise?
But if short calls couldn't make money
over the long term, would the Call Credit Spread (Bear Call Spread) be a strategy that anyone would ever do?
And just so I'm clear on this:
I've just about given up on my ability to predict a stock's direction. I've seen it over and over where I do a bunch of research and analysis, pick a direction, place a trade,
and the stock immediately goes the other way. So I LOVE the non-directionality of short strangles. And the fact that the BP for one side of the trade pretty much covers the other side just means you get to collect twice the premium on the same margin/collateral.
"Why 10Delta? Can you do better with other strikes? Are 10 delta strikes really overpriced? If so why aren't there more sellers in the market driving the prices of these down till the expected returns is 0."
That's part of what I'm still trying to figure out by using 20∆ for this challenge on ET. 10∆ just "felt right" to me when I sort of discovered it, that 9:1 odds felt
to me like a good place to be given the returns offered. But after trading it to a doubling and then doing the same at 20∆, I'm starting to think that 20∆ might be "better." (Granted, both were done in a TDA PM account that may have issues around fills and collateral, but at least it was an apples-to-apples comparison.) And I can't prove it, but I don't think there's much chance of "the edge being traded away" because 10∆ is just a snapshot in time. A day later those strikes are at 5 or 15∆ or whatever. And option premiums need to sort of maintain their Black-Scholes implied values, so it would be hard for one strike to get crazy out of whack with its neighbors. If it did you'd see that in the option chain and go either up or down.
I suppose that if everybody on WSB decided to sell 10∆ strangles on GME at 3PM on Fridays you might see some price depression at those strikes, but they couldn't go below their further-OTM neighbors because of the arbitrage opportunities that would create.
In short, I don't think 10∆ or 20∆ or 33.33∆ gives me an edge, it's just a comfortable place (for me) to trade from. And if it offers even a third of the returns I've been seeing, then it's a lucrative strategy also.
"Why is the margin requirements so high? Or is it to be expected because black swans occur more frequently?"
Sorry, not following you here. According to feedback, the margin requirements I've been seeing in TDA PM are much LOWER than they should be, maybe on the order of 3x. Are you saying that they're higher at 10∆ than, say, ATM or somewhere else? I've read through how TDA calculates margin requirements for a given trade, and while I don't remember a lot of it, isn't it very formulaic? Based on stock price, IV, strike price, and premium collected? If you did a Put Credit Spread with the short put at 10∆ and the long/protective put a strike below it, does the
long put somehow affect the margin requirement for the
short put? I don't think it does, except of course that the overall trade has a much lower Max Loss.
"Try to answer all these questions to understand your strategy better."
I think I've been doing this, and will continue to, but let me bounce a silly analogy off you that just popped into my head: Say I have a favorite fishing hole, and I start to notice that I tend to catch more fish there the day after a rain, but less if it didn't rain the day before. Do I need to understand
WHY the fish bite at my hook more one day over the other, or can I simply
apply that observation by only fishing the day after a rain, and therefore make my probability of catching fish on each outing higher?
That's where I'm at with fixed-delta short strangles. I'm not trying to understand WHY they work (or worse, why they SHOULDN'T or CAN'T work), I'm simply taking advantage of my
observations that they DO work. If I were the fisherman, maybe next I'd try fishing only before noon on the day after a rain, or only after 4PM, and see if one or the other led to higher probabilities. That's where I am with 10∆ and 20∆, and so far 20∆ is winning.
To close this reply, let me state for the record:
I'm less interested in the theory/gospel/conventional wisdom of WHY 'x'-delta short strangles can or can't work, and more interested in testing my OBSERVATIONS that they do work, and then eventually tweaking the strategy to maybe work even better.
