Bread & Butter Iron Condors

Quote from oldnemesis:

blueplayer:

Thanks for your efforts to shut up the local looneytuner. Most of us don't have the time or patience.

Rather than argue on and on and on... just put him on your ignore list and you will be surprised how the quality of this board goes way up.

:)
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I really think that Put_Master is genuinely confused on this particular subject. That is why I'm making the effort to explain it in detail for him.
 
Quote from blueplayer:
I really think that Put_Master is genuinely confused on this particular subject. That is why I'm making the effort to explain it in detail for him.
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Thank you.
Please explain how you sold 645 credit spreads of $25/23 with $100,000?
If i told you how many you can actually sell, you would NOT believe me.
So I'll wait for someone else to share that info with you.

And please explain how I can sell 400 naked puts at $25 with only $100,000.... at 40% margin???
 
Quote from Put_Master:

Perhaps oldnemesis will explain for us, how blueplayer sold 645 spread contracts of FB at $25/23,.... with just $100,000???
Can anyone explain it?

I'd also love to know, how he sold 400 naked puts at $25 with that same $100,000, using 40% margin.
Even if you raise the margin to the max, how do you get to use that much leverage?
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Hello Put_Master, the math for the vertical spread is simple arithmetic. The spread needs $2 of margin per contract and you are selling them at $0.45, so from your own money you only need $1.55. Therefore:

100000/(1.55*100)=645.16

I just rounded to 645 :) I hope that that is clear now. You can use the proceeds of the sale to complete the margin req (as opposed to the case when you write naked puts).

For the naked puts in your case I used the margin requirements from Interactive Brokers which for this example was only 10% of strike + premium. Therefore:

100000/(2.5*100) = 400 (you can't use the premium collected to complete the margin).

With regards to the 40% number that you keep mentioning that is the point where you are confused, and in fact I can tell that you have never written a naked put in a Reg T. margin account (which is not really a bad thing at all). The margin requirements for naked puts are very different to the ones for normal equities so you when you talk about that 40% margin you are using the wrong number.

In fact just to bury this subject once and for all, I'm going to use the margin req from the official Margin Handbook from Schwab as of 8/01/12 to compute the numbers again.

On page 14 of the document you can see that the Margin requirement for this naked sell is:

Greater of:
1. 25% underlying value – out of the money amount + premium

2. 10% strike price + premium

3. Lesser of $100 per contract or max loss

The greater value for the Sept 25 Put is number 1 so the margin is:

0.25*29.11 - 4.11 + premium = $3.18 + premium

So in order to use the $100K in your account you will be able to sell:

100000/(3.18*100) = 314.46

Lets round to 314 contracts.

All things equal to the original example, the P/L on July31 for your 314 contracts is now $-95770. You are only left with less than $5K in your account and scrambling to find the money to comply with a margin call of:

(0.25*21.1 - 3.18)*314*100 = $2.10*314*100 = $65783

So now you need more than $65K just to be allowed to keep the contracts but you only have $5K left in your account and now you are panicking. However the worst scenario is if you are assigned as you clearly don't have the money to pay for the shares and your broker might buy and sell them at a substantial loss for you. Not to mention the 90 day freeze in your account.

In the meantime the credit spread owner is taking a good hit but he still has lots of money in his account and will live to see another day.

I hope that this time the situation is clear to you. And again, writing puts on cash secured account is not a big deal, but using margin, well you can see now how bad things can go if you are not prepared even using a Broker like Schwab that has very high margin reqs compared to the rest.
 
Quote from Put_Master:

Catiman,.... You currently have a 12% otm safety cushion on GLD.
That is a lot more reasonable than the 3% otm cushion you started with.
But GLD is not the issue. Nor is this or that stock the issue.
The issue is your strategy of using very small otm safety cushions of 3% in order to earn % returns closer to 80% vs 25%.
I hope it works out for you. My only concern is, if you pick the wrong stock, at the wrong time, for the wrong length of contract,....
it may not end well.
But i really do wish you luck. If you are successful, you will have a lot more money in your account to trade with in the future. And your GLD currently has a nice 12% otm cushion.
Just keep in mind the market can be surprisingly volatile, when we least expect it.
Always better to plan for that, than to be forced to react to it.
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Thanks for your concern. I don't think you're "Looney Tooney" BTW.

Anyway, after all this talk about these January 150/149 GLD Spreads, I went back to the Option Chain to see how much Credit was still left in them.
I found I could Buy to Close all 5 of them for $70, including commissions.

Then I thought, "What position can I Open for around $430 which has a good chance to make me more than $70 in 4 months?

So after Buying to Close the GLD Spreads, for a profit of 46.91% in 3 months (we all need a bit of luck now and then!), I bought a SLV January 30 Call for $456.50 including commissions, with a Delta of .76, while SLV was at 33.52.

Hi Ho Silllllver!!!
:p
 

Attachments

Ok. I did not realize you were using the credit recieved for the spread to sell additional spreads with the $100,000.
So doesn't that mean if the stock drops below your 2 strikes, you are completely wiped out?
 
I called Schwab and gave them the samples, and they said the spread seller would be 100% wiped out, if he used the credit to sell additional contracts, assuming the stock dropped a penny below his strikes.
And using my account, they said I'd probably need to close some contracts if the stock traded down to 21 on 40% margin.
But that would be manageable.
But again, I used an extreme example of being on 40%, which would mean I'm using $250,000 in a $100,000 account.
They said if I used 38% there would be no margin call at 21.

Also, they said an option account is viewed differently than a stock account in terms of using leverage.
They seem to think you are not taking that difference into account, in terms of how you are viewng the margin requirements if the stock drops.

But they were 100% clear that the spread trader would be 100% wiped out under the example you used.
 
Quote from Put_Master:

Ok. I did not realize you were using the credit recieved for the spread to sell additional spreads with the $100,000.
So doesn't that mean if the stock drops below your 2 strikes, you are completely wiped out?
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Hello Put_Master, even when both strikes of a credit spread are ITM the loss is not necessarily total as I just showed you in my example with Facebook.

From basic options 101, the value of an option can be divided in two components:

option value = intrinsic value + extrinsic value

When the options are OTM the intrinsic value is zero, and you are only selling/buying the extrinsic component.

In the case of the Sept 25/23 spread when we sold it, it had zero intrinsic value (it was all OTM), yet we were able to charge $0.45 because that was the difference in the extrinsic values for the 25 and 23 strikes

Now on July 31 both strikes are ITM and now have intrinsic value and in fact the difference between those values is $2, however because we are far from expiration, the extrinsic values still exist and are different. This way on July 31:

Setp 25 Put: Intrinsic of $3.29 + extrinsic of $0.81
Sept 23 Put: Intrinsic of $1.29 + extrinsic of $1.41

So when you subtract them, you can see that the spread is valued at $1.40 on July 31 because the Sept 23 Put has a higher extrinsic value than the Sept 25 Put, while when we sold them on July 18 it was just the opposite. This is a well known effect and there are many technical explanations for it.

The simple rule of thumb is that, in general, the extrinsic value of an option is higher for strikes that are closer to the underlying value. So when we sold them the 25 strike was closer to $29.11 so it had higher extrinsic value, while in July 31 the opposite now is true, the 23 strike is now closer to $21.71.


I hope this is helpful.
 
Quote from Put_Master:

I called Schwab and gave them the samples, and they said the spread seller would be 100% wiped out, if he used the credit to sell additional contracts, assuming the stock dropped a penny below his strikes.
And using my account, they said I'd probably need to close some contracts if the stock traded down to 21 on 40% margin.
But that would be manageable.
But again, I used an extreme example of being on 40%, which would mean I'm using $250,000 in a $100,000 account.
They said if I used 38% there would be no margin call at 21.

Also, they said an option account is viewed differently than a stock account in terms of using leverage.
They seem to think you are not taking that difference into account, in terms of how you are viewng the margin requirements if the stock drops.

But they were 100% clear that the spread trader would be 100% wiped out under the example you used.
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They either didn't understand your question or you were misinformed. Just take a look at:

http://www.schwab.com/public/file/P-4193744/Margin_Handbook_FINAL_080112.pdf

The requirements are right there for you to read and understand. I can't do more for you.

Also as I showed you with a real world example, the credit spread was not wiped out on July 31. It was very clear that the naked seller only has $5K in his account using the margin req from Schwab and subject to dire consequences (marging call, assigment etc), while the spread seller has $38K on his account that day.

Please feel free to show where I'm wrong in that example.
 
I'm beginning to think you are just having fun with readers here, and are not being serious.
Bottom line..... if your credit spread is a penny below your strikes on exp day, and you used your credit to sell even more spreads at the same strikes, you are 100% wiped out.
If you do not understand that, I seriously hope you do not have any current active spreads.

If you do, please close them down, until you have a broker explain the risks of spreads to you.
But I honestly believe you are not being serious. If so, that is a very mean thing to do, as there may be some novice investors reading this, who may believe what you are saying.
Are you joking around?
Going out. Read you later.
 
Quote from Put_Master:

I'm beginning to think you are just having fun with readers here, and are not being serious.
Bottom line..... if your credit spread is a penny below your strikes on exp day, and you used your credit to sell even more spreads at the same strikes, you are 100% wiped out.
If you do not understand that, I seriously hope you do not have any current active spreads.

If you do, please close them down, until you have a broker explain the risks of spreads to you.
But I honestly believe you are not being serious. If so, that is a very mean thing to do, as there may be some novice investors reading this, who may believe what you are saying.
Are you joking around?
Going out. Read you later.
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Hello Put_Master, I'm just trying to solve your confusion with this subject, nothing else.

I think I see where is the difference between your thinking and mine. You seem to be thinking in terms of expiration day while my example was done on July 31, the day that the black swan occurred.

The contracts involved in my real world example were the monthly Sept FB that expire on Sept 21 2012. But the Black Swan event ocurred on July 31. Do you see the difference?

The day that the black swan occurred was July 31 and on that day the balance of the accounts was:

Naked put seller, Schwab margin: $5k
Credit spread seller: $38K

Can we at the very least agree on that?

Of course if we let the contracts run to full expiration then the balances would be different. For instance for today Sept 18 2012 the credit spread seller would only have $6450 in his account (still not zero). But what kind of sane trader would keep an ITM credit spread for such a long time? Besides on July 31 the naked seller would be toasted so this point is irrelevant.

At least please recognize when you are wrong, this is not a contest, is just an effort to explain a subject so everyone learns a bit everyday.
 
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