Index Options Newbie questions

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prusakolep

I want to do a simple trade of going long on in the money S&P 500 index calls - as a strategy of being exposed to the market with downside protection. My question is what is the best way to set up this trade. Specifically - whether to use index options or options on an index ETF? And in index options I see that there are choices for AM and PM expirations with some strange inconsistencies in spread vs. open interest.

Here is one specific question I have. For S&P Feb 19 3500 calls, I see that the AM options have a bid/ask spread of $2.50, whereas the PM options have a bid/ask spread $0.80. However, the AM options have a much higher open interest 6992 for AM vs. 356 for PM. I would expect that the higher open interest would be correlated with narrower spread. So clearly I am missing something. It would be great if someone can explain.

Another question I would have if someone can recommend a good tool for examining option chains to optimize the trade. I am using Fidelity, and their option chain tool is terrible... And if there is a programmatic access to option chains, I may want to play with that, so would love to hear suggestions on that, too.

Besides these specific questions - if anyone wants to provide additional advice on this strategy or how to execute it, I will sincerely appreciate that!
 
So you're just going long one or more call options?

Index options and options on an ETF are very, very different things. They are both tied to the S&P 500. If you are making a bet on upward movement, and you are correct as to the time frame and the strike price, then you'll make money with both index options and ETF options. But there are major differences you need to be aware of.

Options on SPY are equity options, and they have American style expiration, which means they can be exercised at any time before expiration. And if you exercise, you get delivery of the underlying security, which is 100 shares SPY. And SPY pays a dividend, so that has an impact on the price of the stock and the options.

SPX options are cash-settled. There is no underlying security, and there are no dividends. And they are European style expiration, which means that they can only be exercised on the day of expiration.

Options on SPY will allow you to play with much smaller amounts of money, because the price of SPY is only one tenth of SPX.

And there are many more strike prices available in SPY options.

And SPY and its options trade until 4:15 PM.

Either one will allow you to bet on the S&P 500 index. But you need to understand the specs of what you are buying.

BMK
 
Thanks for the responses.

To clarify, I am not trying to "beat the market" or make any complex plays. I am simply trying to get market exposure to the S&P 500 index but with downside protection. One way I could do this is to get the SPY ETF and buy a protective put. But instead what I want to do is to set aside about 95% of the total investment and put it in some stable asset like treasuries, and with the 5% buy an in the money call. And when the call reaches maturity, do that again. This way I can achieve the equivalent performance of going long on the underlying asset with a protective put. The downside is that I would incur a series of short term gains instead of accumulating a long term gain (though I can mitigate that by going on longer maturity options). The upside is that I have unlimited liquidity on the portion earmarked to the stable asset, and I can temporarily "borrow" that for other cash needs.

Now, I did not see this "strategy" in any options strategy listings. Did I miss it? Or is it too simple to be listed as a strategy? Or is there a reason why it does not make sense vs. going long with a protective put?

I understand the differences in settlement styles (European vs. American) and the increments on the index options vs. options on SPY or XSP. In my case European settlement on the index options is more attractive, because I don't have to close my position, I can just let it reach maturity and settle in cash. With American settlement I would need to explicitly close before maturity.

One question that nobody answered is on the bid/ask spreads being narrower for the Feb 19 PM calls vs. AM calls, despite the AM calls having higher open interest. Was that just a fluke at the time when I looked it up? Or is there a reason why the bid/ask spreads tend to be narrower for the monthly PM options? When I execute this trade, I would prefer to be in a market that is more competitive and offers tighter spreads.
 
prusakolep said:
Now, I did not see this "strategy" in any options strategy listings. Did I miss it? Or is it too simple to be listed as a strategy?
More...

The idea that long stock + a protective put is equivalent to a long call is a recognized strategy. Long stock and long a put is often referred to as a synthetic call.

BMK
 
Here is one specific question I have. For S&P Feb 19 3500 calls said:
I trade mostly the SPY when it comes to index so I'm gonna make a long stab at the answer to the anomaly. Two thoughts. One just a momentary anomaly. Two maybe because the AM's use the SOP set for the expiration taking into account all the stocks in the index as to rather being strictly tied to the futures price it makes it more volatile and the higher the vol the wider the b/as spread.
More...
 
prusakolep said:
5% buy an in the money call. And when the call reaches maturity, do that again.
More...

Only down side I see is if the SP stays flat you're still bleeding off some theta in the and losing value in the ITM option and not getting the dividend as if you had the true covered call on. Another way to do it would be to set up a poor man's covered call. Buy the ITM LEAPs and then sell OTM calls against it in the front months and keep rolling them. You're somewhat protected to the downside with this or the loss would not be as bad.
 
caroy said:
Only down side I see is if the SP stays flat you're still bleeding off some theta in the and losing value in the ITM option and not getting the dividend as if you had the true covered call on. Another way to do it would be to set up a poor man's covered call. Buy the ITM LEAPs and then sell OTM calls against it in the front months and keep rolling them. You're somewhat protected to the downside with this or the loss would not be as bad.
More...


basically this answer he gave you is truly the best one, thats as much as you can do on the SPY

another way of putting is buy verticals, 20 bucks in the money lets say, sell otm call thats has an extrinsic/total value equivalent to the extrinsic value of the itm call, the one 20 bucks in this way ur not paying any theta, your top side is limited, and ur downside is limited and you roll them. Top side being limited is okay because what we know about SPY??? it goes up slow, comes down fast (leaves you lots of theta) and in the long run it always goes up.

taxes??? lolz, dont worry about that, make money first then worry about gains
 
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