Minimize cost/Maximize Profit

[Wilt]

I'm watching Options Action on CNBC. I see a call spread on FDX. They're talking about buying an APR 95 call for 5.4 and selling the 105 put @ 1.9. This takes the trade cost to 3.5, thus profitable at 98.5 versus 100.4. He also sells an 85 P for 3.15, taking the cost down to .35. So it seems if it hits 98.5, he's up 10x. It can't be that easy. What do you have to do to "put back" the options you sold?

I trade directionally long naked calls or puts. I don't want to hold until expiration, I only want to be in the stock until my desired percentage gain in my option is achieved. If I could reduce the stock price where I'm profitable as greatly as the above trade does, I would exponentially increase my profits. What am I missing? What responsibilities are there similiar to buying to cover for selling these options that I don't own and exiting all before expiration?

Thanks,

Wilt

 

[spindr0]

Quote from Wilt:

I'm watching Options Action on CNBC. I see a call spread on FDX. They're talking about buying an APR 95 call for 5.4 and selling the 105 put @ 1.9. This takes the trade cost to 3.5, thus profitable at 98.5 versus 100.4.

I think you meant selling the 105 CALL @ 1.9. instead of "selling the 105 put @ 1.9, yes?


He also sells an 85 P for 3.15, taking the cost down to .35. So it seems if it hits 98.5, he's up 10x. It can't be that easy. What do you have to do to "put back" the options you sold?

I trade directionally long naked calls or puts. I don't want to hold until expiration, I only want to be in the stock until my desired percentage gain in my option is achieved. If I could reduce the stock price where I'm profitable as greatly as the above trade does, I would exponentially increase my profits. What am I missing? What responsibilities are there similiar to buying to cover for selling these options that I don't own and exiting all before expiration?

Yep, it's that easy (if FDX rises). You have 2 bullish positions, a vertical call spread and a naked put. If it drops, you lose on both positions, though not as much as if your were long the stock. I'd guess that 10x at 98.50 is a bit optimistic near term - maybe closer to expiration as time decay has worked some of its magic.

 

[JJacksET4]

I saw them do the same thing once with AAPL.

I'm sure it can work, but it is purely a directional bet.

I guess I wonder how smart it is when one really bad play can backfire so bad. For example, if FDX were to get pounded, you don't just lose the 35 cents, but you will now get FDX shares at $85 that may be worth $75, $60, or whatever at the time. Obviously this is the downside here.

I guess I am curious as to why they cap their gains, and keep their full risk. The other way to trade it would be for example to just buy a call (say the $100, which is showing about $275 now), and sell the put spread (say 90/80 which is showing (4.25-1.71)=$254. The cost is minimal again - gains if FDX goes over $100 become much larger, and your loss is capped as far as FDX going down to less then $80 doesn't continue to add to the losses. If FDX were close to 100 before expiration, it would be likely you could close the put spread cheap and sell the calls for some value also. The real advantage here though over the longer term IMO would be the occasional large gains, and never having to risk a huge plunge. It may seem like a longshot, but what if FDX were $130 or $60 by Apr expiration? Which one looks better then.

One more thing - it might be they would get a 10 folder in their example if FDX goes up enough, but it would not be a 10 fold on the risk, or the margin required with the naked put.

I guess to see for yourself how their idea would look and then compare to mine or any other ideas, you should chart it on a P/L chart and check different times such as short term, middle (maybe early Mar) and 2 weeks til expiration for example.

JJacksET4

 

[donnap]

Quote from Wilt:

I'm watching Options Action on CNBC. I see a call spread on FDX. They're talking about buying an APR 95 call for 5.4 and selling the 105 put @ 1.9. This takes the trade cost to 3.5, thus profitable at 98.5 versus 100.4. He also sells an 85 P for 3.15, taking the cost down to .35. So it seems if it hits 98.5, he's up 10x. It can't be that easy. What do you have to do to "put back" the options you sold?

I What am I missing? What responsibilities are there similiar to buying to cover for selling these options that I don't own and exiting all before expiration?

That's 98.5 at April expiry.

Before expiry the breakeven and profit levels may be sustantially higher because the short options may hold considerable value at those higher UL prices - depending mainly on time remaining and IV levels.

Yes, you have to buy back those shorts to close before expiry.

 

[Wilt]

Thanks for the replies. I'm trying to marinate on these moving relationships based on what you guys told me. I think a graph of how the position as whole moves incorporating the 3 options would be great, any software you know that will do that?

For me, let's assume that I have no fear of the stock going against me and there is no known event risk on the horizon. I don't want to have to have the stock at a profitable price by expiration, I just expect it to move within my holding period. I already trade long calls and puts based solely on where I think the stock will go. I accept the risk of 100% loss in these positions if I'm wrong, (although at 50%, I'd cut and move on, history has shown me that if it retraces that far, you're wishing upon a star.)

So, that being the case, seems like selling a higher call (maybe 10% above the current price) and buying the closest call to the stock price will be the best way to proceed. Say I expect a 110 price within my holding period. Let's say FDX is at 100, the 100 call is $5, the 110 is $2.5. If FDX is $110 per share, my 100 call is say, $11, the 110 is $5, if I sell the 100 call I profit $6, I buy back the 110 for 5$, I received $2.5 for selling it, so does that mean my profit is $2.5 plus $6, $8.5 dollars on my $5 basis for the 100 call, thus 170% net?

If so, can you reduce your total cost with a far out of the money put that you have no expectation will ever come into play, at $85. If you sell that, and buy it back when the stock is 10% higher it's value would have declined preciptously, thus I'm happy to buy it back to increase my profitability?

Thanks,

Wilt

 

[JJacksET4]

Quote from Wilt:

Thanks for the replies. I'm trying to marinate on these moving relationships based on what you guys told me. I think a graph of how the position as whole moves incorporating the 3 options would be great, any software you know that will do that?

Thanks,

Wilt

Wilt,

Go to www.888options.com
Go to the menu on top -> Advanced and Position Simulator.

There you can view positions with up to 4 legs + stock if needed. You will have to enter basic info like the current stock price, IV, what months are available, etc. It's not too hard to use. It can show you the whole position P/L and also each leg. You can view the position at any date up til expiration and change the IV assumption.

Also, OptionsXPress has a Trade Calculator tool that is basically the same thing, the biggest difference there being that with that one you can actually select the call, puts, etc. and it will use the prices directly from the market for setting up the trade.

As far as the other stuff goes, sure you can sell the put if you are confident in the underlying staying above that, but remember that that gets alot of people in trouble just before crashes sometimes - thinking stock XYZ will never fall below $X or if it does they are OK taking the stock, but then it falls below $X and actually way below.

I guess someone could also feel maybe if you are bullish, it might be just as well to just buy more calls as opposed to using the margin required selling the puts.

JJacksET4

 

[spindr0]

Quote from Wilt:

So, that being the case, seems like selling a higher call (maybe 10% above the current price) and buying the closest call to the stock price will be the best way to proceed. Say I expect a 110 price within my holding period. Let's say FDX is at 100, the 100 call is $5, the 110 is $2.5. If FDX is $110 per share, my 100 call is say, $11, the 110 is $5, if I sell the 100 call I profit $6, I buy back the 110 for 5$, I received $2.5 for selling it, so does that mean my profit is $2.5 plus $6, $8.5 dollars on my $5 basis for the 100 call, thus 170% net?

No.

Buy 100c @ 5.00 and sell 110c @ 2.50 = -2.50
FDX rises 10.00
Sell 100c @ 11.00 and buy 110c @ 5.00 = +6.00

Net gain is 3.50 not 8.50

For a pre expiry move of that magnitude, selling the OTM call is a drag on the position. In return for reducing your risk, it reduces your profit. Options involve trade offs.

 

[Wilt]

Quote from spindr0:

No.

Buy 100c @ 5.00 and sell 110c @ 2.50 = -2.50
FDX rises 10.00
Sell 100c @ 11.00 and buy 110c @ 5.00 = +6.00

Net gain is 3.50 not 8.50

For a pre expiry move of that magnitude, selling the OTM call is a drag on the position. In return for reducing your risk, it reduces your profit. Options involve trade offs.

Why is it that this leads to a net debit? It seems that I should hold 2.5 worth of FDX long calls. It makes sense to me now that if I sell something (essentially short) when I expect that it will rise in value, that will always be a negative on the position, period. So, if I sell a put, which should go down, do I have a risk free (assuming the position works out) way to reduce the $5 market price for the 100c by the net difference from what I sell the far OTM put and what I buy it back for?

I'll check out the other OPX tools, I use their pricer all the time.

Thanks,

Wilt

 

[spindr0]

Quote from Wilt:

Why is it that this leads to a net debit? It seems that I should hold 2.5 worth of FDX long calls. It makes sense to me now that if I sell something (essentially short) when I expect that it will rise in value, that will always be a negative on the position, period. So, if I sell a put, which should go down, do I have a risk free (assuming the position works out) way to reduce the $5 market price for the 100c by the net difference from what I sell the far OTM put and what I buy it back for?

Now you're talking about selling a naked put. It's two different positions and your P&L on the bullish spread were wrong.

In your 2nd post on page one, you described buying a bullish call spread, eg. --> selling a higher call (maybe 10% above the current price). When you close the spread, you have to buy that call back and it results in a $2.50 debit after a 10 pt rise in FDX. If the long leg makes $6 and the short leg loses $2.50, the net gain is $3.50.

 

[Wilt]

Alright, I understand now, thanks Spindr0.

Wilt