Hedged options selling system sys14 (and the combo-system sys15)
AN OPTIONS SELLING SYSTEM THAT GIVES A GUARANTEED PROFIT OF 201% PER YEAR
Author : botpro at www.elitetrader.com
History:
2016-04-18-Mo v1.4 It works also with American style options
2016-04-17-Su v1.3 Added optional Extension #1 (s. end of the text)
2016-04-17-Su v1.2 Fixed PnL to 201% p.a.
2016-04-17-Su v1.1 Fixed PnL to 218% p.a.
2016-04-17-Su v1.0 Initial version: PnL=187% p.a.
Intro:
This is an options selling system with a special hedging mechanism (called "entry-level hedging").
If applied correctly in the market, then it is a zero-risk system.
It can be used for all options regardless of the option style (American or European).
PnL is dependent on the ATM premium: the higher the premium the higher the PnL.
The basic system uses a short Call (can also be a short Put, but then hedging rules have to be reversed).
The combo-system (sys15) uses a short Call and a short Put together (but uses just one stock position for both!).
The example uses a 40% volatile stock; then the PnL is about 201% p.a. for sys14 and 658% p.a. for sys15.
It is the special hedging mechanism that makes it all possible.
Beware:
- The example below uses for simplicity just the minimum 1 contract,
but in practice one would need a PDT-account with at least $25k.
- When testing this system use a cheap stock commission rate like that of the broker IB ($0.005 per share, minimum $1).
Rules of the options selling system sys14 with "entry-level hedging":
1) The system consist of 2 parts:
1.1) sell a call option, and
1.2) go long the stock
2) The option position is normally kept till expiration (but a possible early assignment is ok with this system)
3) entry-level hedging (not delta-hedging) for sys14:
3.1) if stockprice drops below the initial entry price then close the stock position immediately
3.2) if stockprice crosses over from below the initial entry price then re-open the stock position immediately
In practice one would use two bands (for example +10 cents and -10 cents) around the entry price to avoid too many hedging trades.
(FYI: The hedging mechanism for sys15 is a little bit complicated and tricky; in the next version it will be documented)
Example: assuming InitialStockPrice=100, HistoricalStockVolatility=40%, using monthly options (ie. Expiration=21 business days)
Selling 1 Call:
Spot=100.00 Strike=100.00 ExpDays=21 HoldDays=21 EarningsYield=0.00% DividendYield=0.00% StockVolatility=40.00% --> Call=4.60 Put=4.60
Going long 100 shares of the stock:
Spot=$100.00 --> CapitalNeeded=$10,000
At expiration date:
Regardless what the CurrentStockPrice or the CurrentVolatility is: we will keep the credit fully.
The stock position serves us only to hedge our option position; it is not intended for making additional profits.
Profit:
We use the usual 2:1 overnight margin of the broker. So we have a leverage factor of 2.
Meaning: of the $10,000 only half of it minus credit / 2 is our own investment (this is the basis for the PnL calcs).
CreditReceived = $4.60 * 100 = $460
StockPos = $100.00 * 100 = $10,000
UserPart = $10,000 / 2 - $460 / 2 = $4770 (this is the basis for the PnL calcs)
MonthlyPnL = $460 / $4770 * 100 = 9.64%
AnnualPnL = ((1 + 9.64/100)^12 - 1) * 100 = 201.73%
From these numbers the commissions paid and the interest for the margin has to be subtracted.
Remarks:
- It's up to you to apply this system in the market(s).
- To get the hedging correct, one would need to monitor and if necessary trade the stock nearly 24/7 by
using multiple exchanges around the globe. Ie. by this, one has to eliminate any overnight gaps in the stock price.
- If applied correctly then the given guarantee holds, ie. 201% profit per year.
- Using more volatile stocks and/or a shorter timeframe than the above used 1 month will give even more profit.
- Regarding margin: you have to do the math to get the 2:1 margin. Ie. in this case you would initially
keep only $5000-$460/2=$4770 plus commission in your account. The broker grants you 2:1 overnight margin (or 4:1 intraday margin).
- The system is freely scalable to any investment amount. But the stock position should not be too big
because it must be easily closable and re-openable; I would say the stock position should not be more than $50k.
- For big money one would use multiples of such constructs, but then one should of course use different stocks.
The following extension(s) are optional:
--------------------------------------
Extension #1: Profit booster: How to make more than 8000% per year with this system:
The smaller your own part of the invested total money is, the more the profit% will make up:
Example:
- let's say your own money is $1000
- borrow the rest ($3770) cheaply from friends or take a 1 month loan
- let's assume you have to pay 1% interest for the 1 month loan, ie. $37.70
Now, your basis for the PnL calcs is your own $1000 plus the interest for the loan = $1037.70:
MonthlyPnL = 460 / 1037.70 * 100 = 44.3288%
AnnualPnL = ((1 + 44.3288/100)^12 - 1) * 100 = 8070.26%
Since compounding gets used, each month the above absolute numbers would of course change,
but the relations (ie. the percentages) would stay the same.
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