Most folks, in this forum and on various web sites, warn against short straddles/strangles. It's obvious why their advise is "Don't Do It". Many would recommend long wings to protect against UNLIMITED losses. In effect, this is the iron condor. They would also typically suggest that the short positions of an IC to be a strangle several strikes away from the market. Although this increases the probability of a win, the "fat tail" effect from having far otm ICs is a disaster waiting to happen. Why risk losing $9 for the chance to win $1, per leg? At least individuals such as Dagnyt (Mark) suggest that for each side you should collect at least $3 for each $10 strike differential (i.e. risk losing $7 for the chance to win $3 per leg). Although this is a negative risk:reward structure, it much better that the r:r structures most people advocate for the IC (iron condor) or IB (iron butterfly).
Here's another problem:
With an IC or IB, although you've insured yourself against a "Black Swan" event, and you've reduced your margin requirement for the trade in comparison to a short straddle/strangle, both the profit potential and the hi/low of the stock's price range for being profitable are 60+% less with a IB as opposed to a short straddle.
Many would subscribe to the notion of having the "safety" of the insurance that the long wings of an IC/IB gives. They consider this a worthwhile tradeoff for having smaller returns. Furthermore, they'll contend that the return on margin is much better with an IC/IC - and they are right. However, when considering returns, it's more appropriate to factor the return on investment or equity (i.e. account size). This may still be higher with an IC/IB, as you can enter at least 3 times more trades with a IC/IB than you can with a short straddle/strangle for the same level of margin requirement.
The Big Problem is... expectancy or probability of success with a trade. Giving up 60% or more in profit range materially skews the expectancy/profitability rate of trading an IC/IB instead of a short straddle/strangle. I don't mind paying the insurance of the long wings, which also gives me a lower margin requirement; however, I'm not convinced that it's worth the shortened profit range. Having a profitable price range that 60+% less is very disconcerting.
Furthermore, with an IC/IB, you're required to remain in the trade longer to realize the profit potential. Whereas with a short straddle/strangle, you typically are able to exist much sooner with a profit.
A MAJOR POINT TO CONSIDER IS THIS... So many professionals were able to generate fortunes with short straddles/strangles. As a caveat, I understand that many also lost fortunes with short straddles/stranges (i.e. Victor Niederhoffer). Nonetheless, if you're able to avoid or minimize the impact of the "black swan" events, I don't know if there's a better way to amass riches through trading, especially options trading.
I think there may be a way to minimize the risk of a "black swan" event while taking advantage of the potential that a short straddle/strangle strategy offers.
SUGGESTED ALTERNATIVE:
Set the stop orders for each leg of the short strangle/straddle at the time the order is placed. The stop order could be the sum total of the premiums collected, plus an "acceptable loss percent or amount". Only trade european style index options. Trade in accordance with fundamentals.
And finally, the BIG Suggestion... have a dedicated account to a short straddle/strangle. Periodically transfer winnings from that account (i.e. 50% - 75% of winnings). Use this account as the "black swan event" account. Never leave more than the amount of margin required if the short straddle/strangle were to loose more than the stop loss threshold. If the market gaps past the stop orders due to a major world event (i.e. WWIII or some global financial catastrophe), then at worst it'll wipe out the account, which should equate to a loss that's no more than 3 or 4 winnings. Again, such a loss assumes that the stop loss orders fail because of a Major Gap. More often than not, the stop loss orders would get filled; therefore, keeping your losses at a managable amount.
With such a risk management strategy in effect, then it may be feasible to use this strategy as a very effective part of your trading arsenal.
If there are ways that can improve the risk mgmt and trade mgmt for this strategy, please suggest it. Or if I'm missing a major "weak link" in this strategy, please let me know. Utimately, a primary purpose of forums such as this is to help each other to become better and more successful traders, although some use it as a stage to promote negativity or to deceive others or to boost their ego. Hopefully, we can be altruistic with this thread by "building a better mouse trap".
All comments and recommendations are welcome.
thanks,
Walt
Here's another problem:
With an IC or IB, although you've insured yourself against a "Black Swan" event, and you've reduced your margin requirement for the trade in comparison to a short straddle/strangle, both the profit potential and the hi/low of the stock's price range for being profitable are 60+% less with a IB as opposed to a short straddle.
Many would subscribe to the notion of having the "safety" of the insurance that the long wings of an IC/IB gives. They consider this a worthwhile tradeoff for having smaller returns. Furthermore, they'll contend that the return on margin is much better with an IC/IC - and they are right. However, when considering returns, it's more appropriate to factor the return on investment or equity (i.e. account size). This may still be higher with an IC/IB, as you can enter at least 3 times more trades with a IC/IB than you can with a short straddle/strangle for the same level of margin requirement.
The Big Problem is... expectancy or probability of success with a trade. Giving up 60% or more in profit range materially skews the expectancy/profitability rate of trading an IC/IB instead of a short straddle/strangle. I don't mind paying the insurance of the long wings, which also gives me a lower margin requirement; however, I'm not convinced that it's worth the shortened profit range. Having a profitable price range that 60+% less is very disconcerting.
Furthermore, with an IC/IB, you're required to remain in the trade longer to realize the profit potential. Whereas with a short straddle/strangle, you typically are able to exist much sooner with a profit.
A MAJOR POINT TO CONSIDER IS THIS... So many professionals were able to generate fortunes with short straddles/strangles. As a caveat, I understand that many also lost fortunes with short straddles/stranges (i.e. Victor Niederhoffer). Nonetheless, if you're able to avoid or minimize the impact of the "black swan" events, I don't know if there's a better way to amass riches through trading, especially options trading.
I think there may be a way to minimize the risk of a "black swan" event while taking advantage of the potential that a short straddle/strangle strategy offers.
SUGGESTED ALTERNATIVE:
Set the stop orders for each leg of the short strangle/straddle at the time the order is placed. The stop order could be the sum total of the premiums collected, plus an "acceptable loss percent or amount". Only trade european style index options. Trade in accordance with fundamentals.
And finally, the BIG Suggestion... have a dedicated account to a short straddle/strangle. Periodically transfer winnings from that account (i.e. 50% - 75% of winnings). Use this account as the "black swan event" account. Never leave more than the amount of margin required if the short straddle/strangle were to loose more than the stop loss threshold. If the market gaps past the stop orders due to a major world event (i.e. WWIII or some global financial catastrophe), then at worst it'll wipe out the account, which should equate to a loss that's no more than 3 or 4 winnings. Again, such a loss assumes that the stop loss orders fail because of a Major Gap. More often than not, the stop loss orders would get filled; therefore, keeping your losses at a managable amount.
With such a risk management strategy in effect, then it may be feasible to use this strategy as a very effective part of your trading arsenal.
If there are ways that can improve the risk mgmt and trade mgmt for this strategy, please suggest it. Or if I'm missing a major "weak link" in this strategy, please let me know. Utimately, a primary purpose of forums such as this is to help each other to become better and more successful traders, although some use it as a stage to promote negativity or to deceive others or to boost their ego. Hopefully, we can be altruistic with this thread by "building a better mouse trap".
All comments and recommendations are welcome.
thanks,
Walt
