How good your market neutral credit spread strategy ?

Quote from Prevail:

Did you mean selling ic's?
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When you BUY an iron condor, you sell the call spread and sell the put spread.

That's where the terminology 'iron' comes into play. The equivalent positions are selling the condor or buying the iron condor.

Confession: I always thought it was 'sell' also and got it wrong in my book. Something to be corrected in the future!

Mark
 
mark,

i am not understanding some of the point you made about iron condor. If i understand correctly your basic idea is to have a risk:reward ratio close to 2:1 on the IC and load up the wings with a higher ratio than the gut so in case the price gaps in either direction your loss will not be as large (also limits your profit if the price do stay in the gut range).

The part i dont understand is you are saying to close out the IC 2 weeks or even earlier before expiration, i thought the whole point of IC (by itself) is to collect the theta while price stays within range.

If you are closing out your IC 2-3 weeks before expiration where theta decay is the heaviest, are you just collecting a small amount of premium for the earlier theta? I dont see how a 2:1 risk/reward can be achieved.

thanks
 
Quote from newguy05:

mark,
Hi newguy

i am not understanding some of the point you made about iron condor. If i understand correctly your basic idea is to have a risk:reward ratio close to 2:1 on the IC and load up the wings with a higher ratio than the gut so in case the price gaps in either direction your loss will not be as large (also limits your profit if the price do stay in the gut range).

Not exactly. When I buy a few extra options, they are not necessarily the same as the options I already own. And I buy them as time passes. In other words, I already have all the Octobers I need and will gradually add some November longs to my portfolio.

Yes, it limits profits, but insurance is never cheap. And there's this: sometimes the move is large enough than the losses turn to profits due to owning those extras. This does not occur often (obviously).

The part i dont understand is you are saying to close out the IC 2 weeks or even earlier before expiration, i thought the whole point of IC (by itself) is to collect the theta while price stays within range.

If you are closing out your IC 2-3 weeks before expiration where theta decay is the heaviest, are you just collecting a small amount of premium for the earlier theta? I dont see how a 2:1 risk/reward can be achieved.

thanks


1) Yes, theta is highest as expiration nears.

2) Gamma changes at the fastest rate as expiration nears.

3) Thus, to collect that extra theta, you must take additional risk. that's not for me - when it can be avoided. I am willing to take less risk to earn less. I find this method allows me to earn enough, so I try to take as little risk as is reasonable for a premium seller.

My philosophy and comfort zone do not have to match yours. I don't tell people to follow my methods. I mention what they are and explain why I use them. Then I expect others to adopt methods suitable to their individual needs.

If making the maximum were my target, i would not close early because, as you said, the final days is where the maximum reward can be had. But, too much risk for me.

4) As far as 2:1 is concerned, that's not my specific target. If I buy an IC for $3.00 with three months to go, the margin requirement is $700. If I close the position for $1, I earn $200 on a $700 margin. That's a return of almost 30%. If I can make that much in 8-10 weeks, how much better do I have to do?

Of course, I don't make that much all the time. Sometimes I take losses. Sometimes I earn more. It's not consistent.

But, I'm out to make a living, not to make a fortune every month.

Your investment goals are for you to determine.

Does that makes sense?

A bit of information: All else being equal, you earn one half the time premium after 3/4 of the time passes. In other words, if you open a position with 4 weeks (months) to go, when thee is one week (month) remaining, the IC should be trading at approximately half of your original price - if all else is unchanged.

Mark
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Hi Mark,

Thx for your sharing here, it's very helpful to me.

BTW, i have read some of your word :

"I've been a professional options trader since 1977, with more than 20 years as a CBOE market maker."

I just curious, what market maker do then ? and what is really definition of market maker ? what makes person to be a market maker ?

I appreciate your sharing of this, as it's important for me to build my trading journey to make money from here.

Also, regarding IC. I just want to summarize, your opinion it's better to have IC with
1. around 30%-40% credit premium,
2. open it 3 months, close it 2 weeks before expiration
3. targeting around half of the credit premium we receive,
4. risk around 2 times of our reward (2:1) to make IC still alive while market is rebounding
5. Buy some straddle OTM (but i still confuse, do you mean strangle ? because straddle cannot OTM, all straddle ITM)

is it correct ?

if so, how is your probability ratio then, out of 10 trades how many you loss based on your experience ?

And, based on your opinion are IC is the best consistent and market neutral strategy ? or is there any other strategy that you reccomend for market neutral, especially time like this ?

Also, actually I have a concept (about to try it in paper money) to unite directional and market neutral strategy in one portfolio. Because i consider this :
1. Market neutral have small R3 and big probability (more consistent with little money, Directional have big R3 (Risk reward ratio) but not consistent
2. The nice things is, they are always contrary, based on my experience - if there's volatility - that means there's strong trending no matter north or south. and it's make directional most of the time win big, and market neutral loss, this way we can balance our portfolio
3. If the market is ranging, the market neutral strategy win, but we can keep directional on long term or at least take little profit or small loss

I want to try this combining options and future

let's say we have IC RUT (you already know mostly how's stop loss, risk reward, right ? so i don't need to explain), and we can combine buy directional future (long/short), risk no more than 2% our capital, targeting minimum 5x times our risk (if we risk $1, we target $5), from what i learn from the book that teach more of technical analysis and how to being directional, we still always make money eventhough we loss 7 times and win 3 times, and targeting 5x times reward is not hard job even in ranging market.

So the goal of this combination is to still make money at market neutral and directional - and to still make money when the market is not good

how is it guys ? or is there anybody have ever practice that ? pls share it too.

I plan to start again with this combination though
 
Quote from BeatingtheSP500:


Your edge can be anything. Better analysis of common macro economics, quicker access to information, mean-reversion vs. trend-following, etc. A 90% win rate with 7 or 8% average win is a losing proposition. You don't need a 90% win rate. An iron condor month after month will eventually lose money. However, if you are a little better than average in deciding when to put on the IC, or even each leg, or when to exit, etc, then your 'above-averageness' will create a positive expectation. But it would be your timing acumen creating alpha not the textbook strategy.
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This sentence:

Quote from BeatingtheSP500:


However, if you are a little better than average in deciding when to put on the IC, or even each leg, or when to exit, etc, then your 'above-averageness' will create a positive expectation.
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That's the whole key to being successful with IC's. I've learned some of this the hard way. And that "little better than average" means you have a plan for how you are going to trade your IC, and when you're going to get out. And you have to stick to those rules. It's painful watching your money disappear, but you cannot be right all the time. If you have a plan for how you are going to trade, and you know it's successful, and you're not going to deviate -- you will come out ahead in the long run.

This month was very, very hard. I took a -13% loss and decided I am happy it did not get further out of hand. I was 100% in cash by the end of the trading day last Monday and a week later I don't have a nickel invested for October. I'm a relatively new trader, and I got spooked hard by the market volatility this month. You can also "win" sometimes by stepping back from the market and not feeling like your money HAS to be in there.

My "win" for OCT options is watching my TOS screen go wild red, red, green, green, red and my blood pressure down 50 points as I wait until the market shows me a sign of stabilizing before I get back in there. It costs me nothing to read the news, follow the market and wait.
 
Quote from Allspread:

I don't have a nickel invested for October. I'm a relatively new trader...
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That you have the discipline to sit it out - especially after taking a loss - bodes well for your future.

Discipline, risk management, willingness to accept losses. All are requirements for success.

Best of luck with your option trading career.

Mark
 
Quote from BeatingtheSP500:

However, if you are a little better than average in deciding when to put on the IC, or even each leg, or when to exit, etc, then your 'above-averageness' will create a positive expectation. But it would be your timing acumen creating alpha not the textbook strategy.
More...
How is average defined? I assume that the majority of option contracts are put on by professional traders who are very good at what they do.
 
Quote from nell:

Hi Mark,
Hi Nell

I just curious, what market maker do then ? and what is really definition of market maker ? what makes person to be a market maker ?

A market maker is someone who stands in a trading pit and stands ready to bid for any option that anyone wants to sell or offer to sell any option that anyone wants to buy. Today, it's a different world and market makers all post bid and ask prices for all the options that trade in the specific trading pit - by using computers. Those computers are programmed to change the option bid/ask prices depending on many outside factors.

I appreciate your sharing of this, as it's important for me to build my trading journey to make money from here.

Also, regarding IC. I just want to summarize, your opinion it's better to have IC with
1. around 30%-40% credit premium,
2. open it 3 months, close it 2 weeks before expiration
3. targeting around half of the credit premium we receive,
4. risk around 2 times of our reward (2:1) to make IC still alive while market is rebounding
5. Buy some straddle OTM (but i still confuse, do you mean strangle ? because straddle cannot OTM, all straddle ITM)

is it correct ?

1) No. It is NOT BETTER. Nor did I ever say it was better. Collecting a $3 to $4 credit for a 10-point, three month iron condor in RUT is what I prefer. It suits MY comfort zone.

If you blindly copy my comfort zone and trading style you will live to regret it. Experiment. Find positions that are comfortable for you to own. This is VERY important.

A position is comfortable when you can sleep easily at night; when the risk is not too large to make you uneasy; when there is sufficient profit potential to make the trade worthwhile etc.

2) Most prefer to open iron condors with 4-5 weeks to go. I prefer 3 or 4 months. I do not know what you prefer.
I don't like the extra risk (and extra reward) that comes from holding iron condors into expiration. Most traders don't feel that way. All I am suggesting is that you pay careful attention to the risk of such positions and DECIDE FOR YOURSELF when it is comfortable to exit the trade.

3) I have so specific profit target. The sooner I exit, the less I expect to earn. I base my exit decision on risk vs. reward. If I have enough profit potential remaining AND if I am comfortable with the risk AND if the markets are not wildly volatile at the time, I will probably hold a bit longer. I have no iron clad rules. Some traders love such rules. If you are one of those, then it will take some practice and some time for you to discover what those rules are. I prefer to be flexible. But that's because I have good risk management skills. If you don't yet have them, then I suggest being more cautious.

4) I have NO risk/rewrd preference. When I do buy one-month iron condors, 2:1 is not within my comfort zone. I must accept a worse ratio.

5) Yes, I mean strangles. I always own some extra options. Most of the time it is a waste of money. But, I don't care. I add to my strangle collection as time passes or as IV (and the price of options) declines.

It may be difficult to understand, but I am flexible. I have guidelines that I like. You can try those guidelines for yourself, but please don't feel they are cast in stone. This comfort zone idea is very personal.

if so, how is your probability ratio then, out of 10 trades how many you loss based on your experience ?

I have no idea. That's because I do something you must NOT copy. I carry at least 20 different iron condor positions at the same time. Right now, I have Oct, Nov, and Dec positions. If Jan options were trading, I'd have some of those also.

Thus, I do not manage my individual iron condors. I manage my entire portfolio and make adjustment when necessary. I also close any call spread or put spead that becomes 'cheap.' Cheap is a relative term and you must find your own definition. But, I'll tell you this: <b> I never, never carry a position into expiration. If I have not covered previously, I'll always pay whatever it costs to close on Thursday, before Friday morning settlement is determined.</b> Too risky otherwise.

And, based on your opinion are IC is the best consistent and market neutral strategy ? or is there any other strategy that you reccomend for market neutral, especially time like this ?

I strongly believe that there is NO BEST STRATEGY. Period. Iron condors suit me NOW. I use other methods under different market conditions. I like double diagonal spreads when IV is low. That means NOT NOW.

Also, actually I have a concept (about to try it in paper money) to unite directional and market neutral strategy in one portfolio. Because i consider this :
1. Market neutral have small R3 and big probability (more consistent with little money, Directional have big R3 (Risk reward ratio) but not consistent
2. The nice things is, they are always contrary, based on my experience - if there's volatility - that means there's strong trending no matter north or south. and it's make directional most of the time win big, and market neutral loss, this way we can balance our portfolio
3. If the market is ranging, the market neutral strategy win, but we can keep directional on long term or at least take little profit or small loss

I want to try this combining options and future

let's say we have IC RUT (you already know mostly how's stop loss, risk reward, right ? so i don't need to explain), and we can combine buy directional future (long/short), risk no more than 2% our capital, targeting minimum 5x times our risk (if we risk $1, we target $5), from what i learn from the book that teach more of technical analysis and how to being directional, we still always make money eventhough we loss 7 times and win 3 times, and targeting 5x times reward is not hard job even in ranging market.

So the goal of this combination is to still make money at market neutral and directional - and to still make money when the market is not good

how is it guys ? or is there anybody have ever practice that ? pls share it too.

I plan to start again with this combination though


Your plan is okay.

But, it is very difficult to predict market direction. I don't care what those books on technical analysis tell you. Unless YOU (not the book's author, but you) have a PROVEN TRACK RECORD of successfully being able to predict market direction, you are unlikely to succeed.

Why do I say this? Take a look at professional money managers - those who run mutual funds. Most of them cannot beat the returns of the overall market (whatever benchmark is appropriate to this type of investing). If the pros cannot do it, why do you think you can?

But if you want to try, then try. When you give up, you can return to market neutral spreading. I understand the advantages of directional investing. But, if you are not right often enough, it's money down the drain. I wish you good luck in your attempt.

Consider this: If you become a good diectional trader, why bother with iron condors. just make your money trading.

Mark
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Quote from sync:

How is average defined? I assume that the majority of option contracts are put on by professional traders who are very good at what they do.
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Good question. An average option trader will have a long-term return equivalent to broad index he/she is trading against LESS spread and commissions (hence negative expectation). It's the closest I can come to define average.

This statement is also slightly illogical:
"The majority of option contracts are put on by professional traders who are very good at what they do" is equivalent to saying "most of the students in the class have an IQ higher than the class avg"

Anecdotally, most "professionally" managed equity mutual funds (~80%) do not reach the performance of the index they are measured against (seemingly the financial planner industry's dirty little secret). With the tremendous access to information, I don't think a professional has an inherent large advantage. And if all option traders are doing it long-term for the money, then by definition we are all professionals.

(Many contracts are also put on by computers judging whether an option is cheap or expensive in relation to option pricing models).

On the other hand, an above-average options trader will only be deemed as such based on a long-term positive track record in comparison to a broad equity index.
 
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