You are using an out of date browser. It may not display this or other websites correctly.
You should upgrade or use an alternative browser.
You should upgrade or use an alternative browser.
Credit Spreads
- Thread starter honus
- Start date
I've used them for years. It can be a great strategy with a high probability of profit. Just be careful and make sure you're highly disciplined in your risk management. Otherwise, gamma will kill you and one loser will wipe out any number of gains. Like many, I learned that the hard way. Good luck.
Yeah, credit spreads work well (as long as you pick your strikes appropriately of course) - just don't waste your money following Bernie's picks
The credit spread is effectively the same as the comparably debit spread (there's no jackpot involved with spreads (debit or credit) - they're self-limiting), but found they turned out more profitably usually than straight calls/puts. Credit spreads have the advantage that time decay can work for you and if you keep them to expiration, you'll usually net out better than the comparable debit spread because a credit spread can expire worthless but an in the money debit spread will cost you some execution fees. They can also be cheaper to close out early than a similarly profitable debit spread.
The credit spread is effectively the same as the comparably debit spread (there's no jackpot involved with spreads (debit or credit) - they're self-limiting), but found they turned out more profitably usually than straight calls/puts. Credit spreads have the advantage that time decay can work for you and if you keep them to expiration, you'll usually net out better than the comparable debit spread because a credit spread can expire worthless but an in the money debit spread will cost you some execution fees. They can also be cheaper to close out early than a similarly profitable debit spread.
If you have the ability to monitor the market, one of the most profitable ways to use credit spreads is to bracket the market, and to use indexes rather than single issues. Works well with S&P and OEX. When IV is low as it is today, this is a difficult strategy to implement without taking on excessive risk, however. As an alternative, I have had success selling puts on single issues where the company is one of the bellweathers, and is likely to trend up. Once again you have to choose carefully and it is a good idea to buy "insurance" puts (deep OTM) in a related index. Reduces you profits, but preserves principal. Just make sure you understand the risks before you put on the positions. Good luck. Steve46
Quote from honus:
Anyone use the credit spread advocated by Bernie Schaeffer, where you give up the chance to win the jackpot, but have a high probability of taking consistent profits?
One of very few simple techniques which still works. However reward/risk calculation is crucial and diversification is a key. Sometimes this strategy can go through flat or losing periods so you must know how to manage this, not just to follow it mechanically.
Quote from honus:
Anyone use the credit spread advocated by Bernie Schaeffer, where you give up the chance to win the jackpot, but have a high probability of taking consistent profits?
Still a pretty simplistic strategy. Remember, when trading options, always check the conversion prices. Sell call, buy put, buy stock.. and then take the net, add to strike price, and you'll see that 99% of them are within 1% of fair value (based on either long or short interest rates, and time/dividends).
Credit spreads "blow up" about 5 in twenty times (just an estimate), and when they do, you're going to take a long time getting back anywhere near even...and the commish adds up.
Much akin to betting red or black....waiting for the zero or double zero to pop up to wipe you out.
And then, there is the slippage of not being able to get in and out like the floor traders can.
Good Luck!!
Don
Sorry, but if anything's "simplistic", it's Mr. Bright's last post. No discussion of the Greeks or volatility make me question his understanding of options, particularly from a retail trader's perspective.
Credit spreads, if properly traded, are nothing like "waiting for red or black" to come up. Rather, if OTM options are sold (particularly if they are at least one standard deviation away) and vol is stagnant or declining, the strategy has a positive expectancy. Also, as has been pointed out, if one uses index options suchas the OEX/XEO and sells spreads on both sides of the market to create an iron condor, the strategy can be extremely viable. But, as I stated in my earlier post on this thread, proper risk management is critical so as not to negate the high probability of profit of the strategy.
To say one should just trade conversions as an off-floor retail trader is just plain silly. However, I appreciate the motivation of the poster. It's about the commissions, baby!
Credit spreads, if properly traded, are nothing like "waiting for red or black" to come up. Rather, if OTM options are sold (particularly if they are at least one standard deviation away) and vol is stagnant or declining, the strategy has a positive expectancy. Also, as has been pointed out, if one uses index options suchas the OEX/XEO and sells spreads on both sides of the market to create an iron condor, the strategy can be extremely viable. But, as I stated in my earlier post on this thread, proper risk management is critical so as not to negate the high probability of profit of the strategy.
To say one should just trade conversions as an off-floor retail trader is just plain silly. However, I appreciate the motivation of the poster. It's about the commissions, baby!
Don should stick to talking about stocks - options are clearly not his forte.
When you pull that "estimate" out of thin air (or a body part as the case may be) of 5 in 20 (that's 1 in 4 to the rest of us) blowing up - what's that mean? A spread can't "blow up" because it has a fixed risk going into it. You could get a move that leaves the spread fully in the money costing you your already known fixed risk - but that's hardly a "blow up". Selling a naked put might "blow up", but not a spread.
As far as pricing on conversions usually netting to within a small variance of what he's calling "fair value" - duh. If option prices skewed too far out of whack with respect to comparable calls/puts pricing, they're immediately arbed back into consistency (i.e., if prices allowed for a large enough positive net on long/short conversion, a thousand automated systems would hammer it immediately to take the easy profit and force the prices to close the gap).
But internal pricing consistency has nothing to do with "fair value" - the calls and puts can still be over/under priced relative to the underlying depending on the expectation for volatility. And the probability of success on any given credit spread involves where, when, and how you put it on and also whether you leave them on until expiration.
When you pull that "estimate" out of thin air (or a body part as the case may be) of 5 in 20 (that's 1 in 4 to the rest of us) blowing up - what's that mean? A spread can't "blow up" because it has a fixed risk going into it. You could get a move that leaves the spread fully in the money costing you your already known fixed risk - but that's hardly a "blow up". Selling a naked put might "blow up", but not a spread.
As far as pricing on conversions usually netting to within a small variance of what he's calling "fair value" - duh. If option prices skewed too far out of whack with respect to comparable calls/puts pricing, they're immediately arbed back into consistency (i.e., if prices allowed for a large enough positive net on long/short conversion, a thousand automated systems would hammer it immediately to take the easy profit and force the prices to close the gap).
But internal pricing consistency has nothing to do with "fair value" - the calls and puts can still be over/under priced relative to the underlying depending on the expectation for volatility. And the probability of success on any given credit spread involves where, when, and how you put it on and also whether you leave them on until expiration.
Quote from Don Bright:
Still a pretty simplistic strategy. Remember, when trading options, always check the conversion prices. Sell call, buy put, buy stock.. and then take the net, add to strike price, and you'll see that 99% of them are within 1% of fair value (based on either long or short interest rates, and time/dividends).
Credit spreads "blow up" about 5 in twenty times (just an estimate), and when they do, you're going to take a long time getting back anywhere near even...and the commish adds up.
Much akin to betting red or black....waiting for the zero or double zero to pop up to wipe you out.
And then, there is the slippage of not being able to get in and out like the floor traders can.
Good Luck!!
Don
Huh ...
One thing that has been overlooked, or at least not emphasized enough, is the simple fact that over the past 2-3 years the OEX contract, in particular, has become less and less liquid. This strategy now has a much higher cost of entry/exit than it did in years past. Also, there is no guarantee that you will fill in between the bid/ask, which was a commonplace occurrence back in the late 90's into 2000-01...Furthermore, since it is highly probable that the trader will be positioning in further OTM strikes to try and "game" the distribution over any given expiration cycle, those options tend to have the least return, but meanwhile also maintain a very wide bid/offer, hence a much greater percentage of the actual potential return is given up on just the transaction costs or "slippage"...
The probable outcome of this strategy is that you will have to "leg" the spreads to even get a decent credit on the spread...Secondly, the spread value will hold until the final week going into expiration, at which point you will either cover the spread back at a profit, but not a significant profit OR you will sit on the spread hoping that there isnt a large adverse excursion in the final days which will put your spread at risk...
Let's face reality here...Implied vols are very low in a very quiet market going into an event driven and seasonally volatile time of year with a great deal of "jump risk" or event risk, etc, etc...The strategy itself has alot of merit, but like everything else you need to be an experienced trader to understand when, if, where this strategy will break down, and at which times of year you have the most risk....
The probable outcome of this strategy is that you will have to "leg" the spreads to even get a decent credit on the spread...Secondly, the spread value will hold until the final week going into expiration, at which point you will either cover the spread back at a profit, but not a significant profit OR you will sit on the spread hoping that there isnt a large adverse excursion in the final days which will put your spread at risk...
Let's face reality here...Implied vols are very low in a very quiet market going into an event driven and seasonally volatile time of year with a great deal of "jump risk" or event risk, etc, etc...The strategy itself has alot of merit, but like everything else you need to be an experienced trader to understand when, if, where this strategy will break down, and at which times of year you have the most risk....