Selling Premium - Strategy Never Discussed

[maximumpossiblesuffering]

I've been selling premium for about 3 years, and I have a data sample of a couple of thousand trades. My returns so far are between 25% and 35%, but I think I can improve going forward, since I have learned a few lessons and abandoned a few strategies that were not profitable.

The conventional wisdom seems to be that premium sellers are collecting pennies in front of a steamroller, unwittingly setting themselves up for the inevitable catastrophic loss that will wipe them out. Rolling is usually dismissed as loss avoidance, but I have never seen anyone discuss the approach that I use.

First, I sell weekly puts that are cash-covered. I never use leverage. I trade volatile stocks with high IV, so that I can collect between 1% and 3% per week. I typically sell fairly close to the money, often the next lowest strike, so many of my options move into the money. How do I deal with this?

The key is that the options I trade must have enough premium so that I can roll down and out (usually one strike for one extra week) for a credit. If I can collect 10 to 30 cents additional premium, I can still have a substantial return when I'm finally low enough for the option to expire.

If the put moves far enough into the money, I won't be able to roll with a credit. But in most cases, the debit is small enough to preserve most of the original premium collected. If the stock keeps moving down, I can do this for weeks, until I am back underneath it.

Occasionally this strategy can result in being very far in the money. I have carried options that are 10 or 11 points in the money. In situations like that, it may not be possible to close the entire trade with a profit. But we all know that losses are a part of trading, right?

The probabilities of being in a trade that goes against you that much are low. I am also susceptible to a black swan event. But I have much more flexibility with options than I would with a simple stock position, where I am locked into an absolute price point. With options, I can make adjustments, trading time value for intrinsic value all the way down, so that my loss will be half that or less of a simple stock position.

Just interested to see if anyone else trades this way or has any comments.

One of the keys, which you are adhering to is avoiding the use of leverage. It is hard to blow up an cash only account. Other ideas include being more selective when selling puts which based on your performance, sounds like you had been doing. Another idea would be to use a stop at technically significant points on your puts to avoid some of the larger losses. I have seen several situations in the last couple of months where index puts as well as calls have appeciated several thousand percent in a matter of hours.

In my opinion, option trading does not relieve a trader from many of the decisions an outright trader needs to make. There are times to either adopt a different strategy as an adjustment to changing general market conditions or to be more selective in the use of your strategy.

 

[ironchef]

Smallfil, I doff my hat to you if you are able to buy options and make money. I could never do that and it would make me a nervous wreck.

Why should you be a nervous wreck going long? Your losses would be limited. I am just the opposite, when I went short I was usually very nervous, even when they were covered.

 

[REDP1800]

Ha! The famous last words of busted traders now selling life insurance or cemetery plots.

It has been my experience over the years that when authors, lecturers and amateur traders start promoting their put selling strategies, it is a sure sign that the bull market is officially over.

premium selling is great until it isn't. i woudl use it for very shrot term trades like 3 days.. I lost 300K selling options in 3 days!! I had built it up over 3 years. I was 90 % of the open intereest in the us dollar in 1999 sold calls 119-122 in the pit.. guy from teh gold pit had to come over to get me out since no one traded the us dollar options then but me.. he made a killing.. 300K everything i lost .. that week. here were on the phone.. hi.. hey how are you .. im good.. well it looks like you need to get out huh.. I said look.. we know tht so go easy on me and jsut be fair as you can and not a greedy bastard or I will another 100 after you buy them at a much higher price.. he got the picture. still he due to the market rules he had to yell a bid offer.. i said ok.. buy em.. he said.. sorry no takers.. so we went higher still.. 3 rounds of that and I said.. cancel the order.. he said hold.. on.. YOU MY FRIEND ARE FILLED. DO NOT SELL RISK PREMIUM.. buy cheap options like 10 20 or 5 bucks and swing for the fences.. sometime you hit and they go to 400 or 500 each.. look at the svxy options in February . i amde a lot of it back with that trade alone. Good luck. if you do not listen and you sell premium then make sure if you NEVBER wait another day to get out.. just get out if you are losing and you are short options.

 

[REDP1800]

premium selling is great until it isn't. i woudl use it for very shrot term trades like 3 days.. I lost 300K selling options in 3 days!! I had built it up over 3 years. I was 90 % of the open intereest in the us dollar in 1999 sold calls 119-122 in the pit.. guy from teh gold pit had to come over to get me out since no one traded the us dollar options then but me.. he made a killing.. 300K everything i lost .. that week. here were on the phone.. hi.. hey how are you .. im good.. well it looks like you need to get out huh.. I said look.. we know tht so go easy on me and jsut be fair as you can and not a greedy bastard or I will another 100 after you buy them at a much higher price.. he got the picture. still he due to the market rules he had to yell a bid offer.. i said ok.. buy em.. he said.. sorry no takers.. so we went higher still.. 3 rounds of that and I said.. cancel the order.. he said hold.. on.. YOU MY FRIEND ARE FILLED. DO NOT SELL RISK PREMIUM.. buy cheap options like 10 20 or 5 bucks and swing for the fences.. sometime you hit and they go to 400 or 500 each.. look at the svxy options in February . i amde a lot of it back with that trade alone. Good luck. if you do not listen and you sell premium then make sure if you NEVBER wait another day to get out.. just get out if you are losing and you are short options.

To clarify.. i was in the trade for 28 days.. I always sold about a month before expiration and in the last 5 days it started running.

 

[traider]

Smallfil, I doff my hat to you if you are able to buy options and make money. I could never do that and it would make me a nervous wreck.

I sold WLL 31 puts today when the stock was at 32.01 for a premium of 67 cents. The stock is now at 30.82. As things stand now, I could go down to a 30 strike for the following week at even credit.

Most of the stocks are correlated with the general market like SPY. Do you actually find it rewarding to be trading so many different equities vs just selling puts against the index? Sometimes the company volatility can be high but you are exposed to single stock specific risk. I prefer to trade the general index unless there are really good bargains in stocks that I feel are good fundamentally.

 

[robertSt]

maximumpossiblesuffering gets it: "One of the keys, which you are adhering to is avoiding the use of leverage. It is hard to blow up an cash only account." I also agree with your other points.

Those who compare my approach to James Coudrier of OptionSellers.com or Karen the SuperTrader are missing the point entirely. They lost everything when they no longer had the capital to cover their positions and were liquidated for margin requirements. In Karen's case, she tried to conceal the disaster with outright fraud. I will never receive a margin call because I set the cash aside to cover the position when I open it.

Karen was using short strangles with unlimited risk potential. Vomma was exponential whenever her position experienced volatility in either direction. I don't do that stuff.

Neither is my approach a martingale strategy. Martingales are exposed to open-ended risk. I am not. Every time I buy a put back for more than I received and sell a new one, I am actually mitigating my loss compared to an outright stock holder, with the possibility of closing at a small loss or even a profit while the stock owner must wait for full recovery.

But yes, I have losses. If MSFT goes to zero tomorrow, I'll lose a lot. But how many dire warnings do you see for stock investors, "it could go to zero and you will lose everything"? It's just a knee-jerk reaction so many people have when the word "option" is brought up. Options were invented to manage risk, and that's what they do if used properly.

I probably do have an irrational bias about going long. I'm just more comfortable receiving my profit up front and then seeing how much of it I can keep, rather than hoping for a large enough move before expiration to counter the eroding time value before I can make a profit. Going long does have a lot more profit potential. It just suits my temperament to hit singles and doubles. I usually struck out when I swung for the fences.

Selling equity options instead of the index helps me diversify. I do have stock-specific risk, but it's spread out over several different stocks. How would I diversify if I had everything in the index? Then I would have index-specific risk.

 

[viruscore1]

Tried selling premiums with option spreads and still lost thousands doing so. Never understood the logic of trying to grab pennies while, risking dollars in doing so! The absurd claim is option sellers win 80% of the time and most options expire worthless. I think that is a lot of BS spread by option sellers. My win rate is 40% which means I lose 60% of the time. Since, I buy options, my risk is limited to the cost of the premium and my upside is unlimited the case of calls. Limited to zero in the case of puts. Also, most options buyers sell their positions way before it becomes worthless and keep the residual values for the next trade. So, where did the expire worthless BS come from? It is very rare my trades expire totally worthless and the options worth nothing at all. And if you don't hedge your positions and trade naked calls, good luck on that! It takes just one big whack to wipe you out like Optionsellers.com found out! Doesn't matter if you have $100 million in your account, you will lose it all!

You sound like a novice

 

[bh_prop]

That sounds suspicious like a martingale strategy.

Martingale increases position/risk as price moves against. He is rolling a position

 

[Sig]

Martingale increases position/risk as price moves against. He is rolling a position

So called "rolling" a position with options is simply reopening the same position when the option expires and you've lost the premium on the original option, in this case it's done when the price moves against. Calling it "rolling" sounds so much better than "I put $1 down on tails and lost the coin flip so I'm putting another dollar down on tails for another coin flip" which is what is actually happening.

 

[robertSt]

It's not the same position. If I'm at 31 now and roll to 30, that's a different position.