Strategy: Selling Put Options: The Best Income Method?

[JSOP]

Of course we only looked at how much we can lose when everything goes wrong. Let's look at what happens if everything is going right. The stock actually took off the in the correct direction; it actually went up after you sold the put. Well when that happens, yes you get to keep the premium from selling the put but look at how much more you COULD'VE earned if you had actually bought the stock? If a stock takes off, the premium that you earned from selling the put is only a fraction of the profit that you could've made whereas if you bought the actual stock, you would've be able to earn EVERY SINGLE cent of the profit, cent for cent. But since you only sold the put, and when it's OTM, nobody is going to exercise against you then you end up just watching the fireworks on the sideline. When everybody is popping the champagne celebrating, you are just sitting there watching since you don't own the stock so you don't own a piece of the action.

And I have another perfect example: During the same week last week, there was another stock that was also reporting earnings: MU Micro Tech. But unlike GME GameStop like what I shown in my previous post, MU actually reported very good earnings so no doubt, its stock took off like no tomorrow. Its put was trading about the same as GME at 0.1X before the earnings. So assume if you sold also 23 contracts of the put just like with GME, your premium would've been $2XX as well, same as GME. But look what happened after the earnings??!! Instead of tanking $2 right after earnings, MU took off 10% to $2 higher. Now if you had owned 2300 shares, you would've earned 2 X 2300 = $4600!! 23 TIMES your put-selling premium!! But instead you only got $2XX and are just happy that you won't get assigned and get to keep the $2XX.

So in conclusion, with selling options (puts or calls), you basically get a fraction of a cent of all the profit potential for the instant gratification of premium income when the stock price moves in the right direction but you get ALL the risk cent for cent when the stock moves in the wrong direction. The only way that you are winning is with the flat stock when the stock moves but not too much, so that way you win but with the consolation that you didn't lose too much of the winning that you COULD'VE earned if you owned the physical stock. But then because everybody knows that so they all try to sell the put on flat stocks, and Law of Supply & Demand dictates that when Supply > Demand, price falls so the premium on options of flat-moving stocks is also flat, very flat. Unless you have a six-figure trading capital, you won't make much money selling options. You are much better off just owning or shorting the actual stock if you have large trading capital.

 

[ironchef]

Shhhhhhhh!!! IF it's working so well for you, WHY share it with the public??!!

As typical, the devil is in the details. I do agree with your other posts though.

My view is mechanically selling puts/calls on a regular basis will not net you much excess profits vs buy and hold. But as yobo said, selection, diversity and how to manage risk are probably keys to a profitable puts/calls selling strategy. We cannot argue with yobo's successes.

Personally, I shy away from regularly selling puts/calls for a living but I won't say it is not a good strategy for someone who has a method.

Regards,

 

[ironchef]

Of course we only looked at how much we can lose when everything goes wrong. Let's look at what happens if everything is going right. The stock actually took off the in the correct direction; it actually went up after you sold the put. Well when that happens, yes you get to keep the premium from selling the put but look at how much more you COULD'VE earned if you had actually bought the stock? If a stock takes off, the premium that you earned from selling the put is only a fraction of the profit that you could've made whereas if you bought the actual stock, you would've be able to earn EVERY SINGLE cent of the profit, cent for cent. But since you only sold the put, and when it's OTM, nobody is going to exercise against you then you end up just watching the fireworks on the sideline. When everybody is popping the champagne celebrating, you are just sitting there watching since you don't own the stock so you don't own a piece of the action.

And I have another perfect example: During the same week last week, there was another stock that was also reporting earnings: MU Micro Tech. But unlike GME GameStop like what I shown in my previous post, MU actually reported very good earnings so no doubt, its stock took off like no tomorrow. Its put was trading about the same as GME at 0.1X before the earnings. So assume if you sold also 23 contracts of the put just like with GME, your premium would've been $2XX as well, same as GME. But look what happened after the earnings??!! Instead of tanking $2 right after earnings, MU took off 10% to $2 higher. Now if you had owned 2300 shares, you would've earned 2 X 2300 = $4600!! 23 TIMES your put-selling premium!! But instead you only got $2XX and are just happy that you won't get assigned and get to keep the $2XX.

So in conclusion, with selling options (puts or calls), you basically get a fraction of a cent of all the profit potential for the instant gratification of premium income when the stock price moves in the right direction but you get ALL the risk cent for cent when the stock moves in the wrong direction. The only way that you are winning is with the flat stock when the stock moves but not too much, so that way you win but with the consolation that you didn't lose too much of the winning that you COULD'VE earned if you owned the physical stock. But then because everybody knows that so they all try to sell the put on flat stocks, and Law of Supply & Demand dictates that when Supply > Demand, price falls so the premium on options of flat-moving stocks is also flat, very flat. Unless you have a six-figure trading capital, you won't make much money selling options. You are much better off just owning or shorting the actual stock if you have large trading capital.

Maverick74 used to lecture us that there was really no advantage/edge whether buying or selling options: No one willingly gives us, buyers or sellers of options, free money. We have to earn it.

 

[jimmyjazz]

Without advocating for the strategy, there are obvious differences between selling puts and just going long on the underlying. I'm not saying the risk:reward math works out a lot different, but on a per-trade basis the idea of selling OTM puts will (by definition) lead to more winners than just going long stock. Whether or not a higher winning percentage translates to a higher return is of course a different matter, but let's be careful how we say things. A lot of small gains with a few bigger losses just isn't the same thing as some gains, some flat, and some losses. We can't just isolate on one situation and say "see, you could have had 10% gain but you capped it at 2%". The counter argument might be "see, you could have had 2% gain but you finished flat."

 

[JSOP]

Maverick74 used to lecture us that there was really no advantage/edge whether buying or selling options: No one willingly gives us, buyers or sellers of options, free money. We have to earn it.

Yes I agree. Everything is priced in. Nothing is for free even though on the surface it's deceiving because it looks like you are getting money upfront for doing nothing but once you work out the calculation, you realize what you give up is potential windfall of profit and it could be HUGE like in MU's and GME's case last week.

 

[i960]

If you're going to get involved in these strategies you need to not be selling far OTM puts due to the inherent convexity of their valuation as they go from being OTM->ATM. People keep thinking that if an option goes in the money somehow the trade has gone wrong and this is false - all that matters is the price of the option when sold vs when bought back. This "never lose" mentality keeps people pursuing "no heat" type trades that become a fucking disaster when vol explodes and the market takes a big dump. You can delude yourself that this doesn't happen often enough to matter but it does and when it does it does badly. Relying on it not to happen at rock bottom VIX is just asking to be taught a lesson.

If you sell far OTM options you need to sell *more* in order to collect the same potential premium you'd make from selling a lower amount of ATM options. ATM options are at peak gamma, the rate of damage to your account is not going to be accelerating when the market goes against you whereas with OTM options it *is* going to be accelerating until they eventually become ATM (and beyond) until you either get liquidated, shit your pants, or both. You can easily destroy your entire account trying to juice up these short-dated options to make a "sure thing" return. If there's anything in trading that's to be avoided: it's a sure thing. Nine times out of ten, "sure thing" is a synonym for massive hidden risk.

Now yes, of course you're much more likely to have an ATM option end up ITM but as I said before, all that matters is what you sold it at and what you bought it back at. With an ATM option there's a decent amount of premium there but with these short dated fat out OTM options there's almost no premium at all, but a ton of embedded risk. Nobody who has the ability to survive this long term is selling these things naked, they're delta hedged either with the underlying or indirectly with VIX options or VX futures, spread against unit puts, etc. All they're looking to do is collect the difference between implied vol and realized vol and/or the bid/ask spread of the options themselves. They're not just shorting shit naked and hoping the market doesn't crash next week.

I'm once again going to post charts from the latter half of August, 2015 because some folks still aren't getting it.

On 8/18/2015:

• EW U2015 2100 (ATM) put was 14-19.75 in price.
• EW U2015 2000 (OTM) put was 1.25-1.85 in price.

If you sold 10 OTM puts at 1.5 a piece you'd be on track to collect 750$ in premium (1.5 * 50 * 10) by expiration. If you sold 1 ATM put at 16, you'd be on track to collect 800$ in premium (16 * 50 * 1) by expiration. Both around 0.75% return on a 100k account.

On 8/24/2015:

• EW U2015 2100 (ATM) put was 230 in price (14x loss).
• EW U2015 2000 (OTM) put was 130 in price (87x loss).

The guy who sold 1 ATM put is now 11,500$ (230 * 50 * 1) in the hole worst case.
The guy who sold 10 OTM puts is now 65,000$ (130 * 50 * 10) in the hole worst case.

Do you want to be the guy selling ATM or OTM here? Stop thinking that options expiring OTM and "high probability premium collecting" or worse "income collecting" is the end goal, you'll eventually get smoked. Also, selling a smaller amount of these things across a whole bunch of different stocks is not diversification one bit. When shit hits the fan they're all getting killed.

If you want a decent overview of things, I'd recommend these from Surlytrader for starters:

http://www.surlytrader.com/volatility-selling-strategies/
http://www.surlytrader.com/picking-up-nickels-in-front-of-a-steamroller/
http://www.surlytrader.com/mitigating-gamma-losses/
http://www.surlytrader.com/gamma-hemorrhage/

Plus search ET for the multitudes of threads out there that have already covered this topic over and over.

And for god sakes stop selling this crap with VIX at 11.

 

[prc117f]

Blanket statements are useless when it comes to describing option strategies.

When it comes to option trades timing has a big influence on the outcome. The holding period of option trades is usually much shorter than a "bull market" or "bear market". You could easily lose money Selling Puts in a "Bull Market" or make money Selling Puts in a "Bear Market".

Correct. My biggest profits have been selling puts during massive selloffs. Everyone wants an out, and people need to hedge and are willing to pay. ITM or slightly OTM.

 

[newwurldmn]

Correct. My biggest profits have been selling puts during massive selloffs. Everyone wants an out, and people need to hedge and are willing to pay. ITM or slightly OTM.

Would you have made more money just buying the underlying in those times?

 

[R1234]

I have been selling puts for a long time and make great money at it. 1% per week selling weekly options is not unreasonable assuming you are using close to 100% of your margin. Risk management is key as you don't want to get caught holding a dog for a long time if you take the stock. However with every strategy there are adjustments to the trade one can make or do what I do and simply spread out your risk amongst 10-15 positions. Always avoid large concentrated positions.

One can also apply stop losses as well but base those stop losses on the underlying stock, not the option. If I get put the stock, I want the stock to be near the strike price I sold. Otherwise, I would not take the stock. But if you assume the stock and it is trading near the strike you sold, simply sell an atm covered call against it.

Another risk management technique I use when selling weeklies, is to start by selling puts that are 2 standard deviations otm.

In addition, I like to use the 52 week moving average as my support line. In other words, sell puts against stocks that are trading above it. The rational being that investors are less likely to dump a stock that has long term capital gains that are beginning to be realized. Therefore, i look for stocks that are just breaking above the 52 sma and beginning a bullish trend or simply trading in a neutral fashion around the sma.

YTD, I'm up 20%, but again I use leverage to juice my naked yields (premium collected / cash outlay if assigned). My average naked yield is around 0.4% per week, but with leverage average 1 to 1.5% per week. Roughly 95% of my trades expire worthless. roughly 2% of the trades may result in taking losses and the other 3% result in being assigned. But the beautiful thing about being assigned near the strike I originally sold allows me to turn around and sell an atm call which usually affords me a 2-3% naked yield. Usually those assigned positions return to cash the next week, because I have huge 52 week sma support underneath it.

Keys to successfully trading this strategy are diversify amongst 10+ positions. Sell otm puts that are two standard deviations away, close out positions if stock goes below 52 week sma. And assume positions and sell atm cc if assigned near your original strike sold.

Good to see you back. I think I remember you from a pair trading thread years ago.

I had a question on the mechanics of option selling because I think it might be suited to enhancing one of my stock strategies.

Basically I am buying a portfolio of 5 stocks at the open of Monday morning and close out the entire portfolio Friday at the close. And repeat this every week. The stocks are chosen based on some momentum analysis I do each weekend.

So I am thinking of doing this variation using options: what if I sold a weekly put for each stock with a strike x% below Monday's open price. By doing so I can collect some weekly premium and if the stock drops below my strike, I would end up holding companies I would not mind holding (as per the model) - and I would sell any stock that might be assigned to me on Friday's close.

This sounds like a great plan to me but I could be wrong as I am a total novice at options. Can you see any holes in this plan? What happens when a particular stock drops below the strike of my short put? Do I get assigned that stock immediately? If not, will I get a margin call?

 

[yobo]

If you're going to get involved in these strategies you need to not be selling far OTM puts due to the inherent convexity of their valuation as they go from being OTM->ATM. People keep thinking that if an option goes in the money somehow the trade has gone wrong and this is false - all that matters is the price of the option when sold vs when bought back. This "never lose" mentality keeps people pursuing "no heat" type trades that become a fucking disaster when vol explodes and the market takes a big dump. You can delude yourself that this doesn't happen often enough to matter but it does and when it does it does badly. Relying on it not to happen at rock bottom VIX is just asking to be taught a lesson.

If you sell far OTM options you need to sell *more* in order to collect the same potential premium you'd make from selling a lower amount of ATM options. ATM options are at peak gamma, the rate of damage to your account is not going to be accelerating when the market goes against you whereas with OTM options it *is* going to be accelerating until they eventually become ATM (and beyond) until you either get liquidated, shit your pants, or both. You can easily destroy your entire account trying to juice up these short-dated options to make a "sure thing" return. If there's anything in trading that's to be avoided: it's a sure thing. Nine times out of ten, "sure thing" is a synonym for massive hidden risk.

Now yes, of course you're much more likely to have an ATM option end up ITM but as I said before, all that matters is what you sold it at and what you bought it back at. With an ATM option there's a decent amount of premium there but with these short dated fat out OTM options there's almost no premium at all, but a ton of embedded risk. Nobody who has the ability to survive this long term is selling these things naked, they're delta hedged either with the underlying or indirectly with VIX options or VX futures, spread against unit puts, etc. All they're looking to do is collect the difference between implied vol and realized vol and/or the bid/ask spread of the options themselves. They're not just shorting shit naked and hoping the market doesn't crash next week.

I'm once again going to post charts from the latter half of August, 2015 because some folks still aren't getting it.

View attachment 172194

View attachment 172195

View attachment 172192

On 8/18/2015:

• EW U2015 2100 (ATM) put was 14-19.75 in price.
• EW U2015 2000 (OTM) put was 1.25-1.85 in price.

If you sold 10 OTM puts at 1.5 a piece you'd be on track to collect 750$ in premium (1.5 * 50 * 10) by expiration. If you sold 1 ATM put at 16, you'd be on track to collect 800$ in premium (16 * 50 * 1) by expiration. Both around 0.75% return on a 100k account.

On 8/24/2015:

• EW U2015 2100 (ATM) put was 230 in price (14x loss).
• EW U2015 2000 (OTM) put was 130 in price (87x loss).

The guy who sold 1 ATM put is now 11,500$ (230 * 50 * 1) in the hole worst case.
The guy who sold 10 OTM puts is now 65,000$ (130 * 50 * 10) in the hole worst case.

Do you want to be the guy selling ATM or OTM here? Stop thinking that options expiring OTM and "high probability premium collecting" or worse "income collecting" is the end goal, you'll eventually get smoked. Also, selling a smaller amount of these things across a whole bunch of different stocks is not diversification one bit. When shit hits the fan they're all getting killed.

If you want a decent overview of things, I'd recommend these from Surlytrader for starters:

http://www.surlytrader.com/volatility-selling-strategies/
http://www.surlytrader.com/picking-up-nickels-in-front-of-a-steamroller/
http://www.surlytrader.com/mitigating-gamma-losses/
http://www.surlytrader.com/gamma-hemorrhage/

Plus search ET for the multitudes of threads out there that have already covered this topic over and over.

And for god sakes stop selling this crap with VIX at 11.

If you're going to get involved in these strategies you need to not be selling far OTM puts due to the inherent convexity of their valuation as they go from being OTM->ATM. People keep thinking that if an option goes in the money somehow the trade has gone wrong and this is false - all that matters is the price of the option when sold vs when bought back. This "never lose" mentality keeps people pursuing "no heat" type trades that become a fucking disaster when vol explodes and the market takes a big dump. You can delude yourself that this doesn't happen often enough to matter but it does and when it does it does badly. Relying on it not to happen at rock bottom VIX is just asking to be taught a lesson.

If you sell far OTM options you need to sell *more* in order to collect the same potential premium you'd make from selling a lower amount of ATM options. ATM options are at peak gamma, the rate of damage to your account is not going to be accelerating when the market goes against you whereas with OTM options it *is* going to be accelerating until they eventually become ATM (and beyond) until you either get liquidated, shit your pants, or both. You can easily destroy your entire account trying to juice up these short-dated options to make a "sure thing" return. If there's anything in trading that's to be avoided: it's a sure thing. Nine times out of ten, "sure thing" is a synonym for massive hidden risk.

Now yes, of course you're much more likely to have an ATM option end up ITM but as I said before, all that matters is what you sold it at and what you bought it back at. With an ATM option there's a decent amount of premium there but with these short dated fat out OTM options there's almost no premium at all, but a ton of embedded risk. Nobody who has the ability to survive this long term is selling these things naked, they're delta hedged either with the underlying or indirectly with VIX options or VX futures, spread against unit puts, etc. All they're looking to do is collect the difference between implied vol and realized vol and/or the bid/ask spread of the options themselves. They're not just shorting shit naked and hoping the market doesn't crash next week.

I'm once again going to post charts from the latter half of August, 2015 because some folks still aren't getting it.

View attachment 172194

View attachment 172195

View attachment 172192

On 8/18/2015:

• EW U2015 2100 (ATM) put was 14-19.75 in price.
• EW U2015 2000 (OTM) put was 1.25-1.85 in price.

If you sold 10 OTM puts at 1.5 a piece you'd be on track to collect 750$ in premium (1.5 * 50 * 10) by expiration. If you sold 1 ATM put at 16, you'd be on track to collect 800$ in premium (16 * 50 * 1) by expiration. Both around 0.75% return on a 100k account.

On 8/24/2015:

• EW U2015 2100 (ATM) put was 230 in price (14x loss).
• EW U2015 2000 (OTM) put was 130 in price (87x loss).

The guy who sold 1 ATM put is now 11,500$ (230 * 50 * 1) in the hole worst case.
The guy who sold 10 OTM puts is now 65,000$ (130 * 50 * 10) in the hole worst case.

Do you want to be the guy selling ATM or OTM here? Stop thinking that options expiring OTM and "high probability premium collecting" or worse "income collecting" is the end goal, you'll eventually get smoked. Also, selling a smaller amount of these things across a whole bunch of different stocks is not diversification one bit. When shit hits the fan they're all getting killed.

If you want a decent overview of things, I'd recommend these from Surlytrader for starters:

http://www.surlytrader.com/volatility-selling-strategies/
http://www.surlytrader.com/picking-up-nickels-in-front-of-a-steamroller/
http://www.surlytrader.com/mitigating-gamma-losses/
http://www.surlytrader.com/gamma-hemorrhage/

Plus search ET for the multitudes of threads out there that have already covered this topic over and over.

And for god sakes stop selling this crap with VIX at 11.

I don't think anyone is advocating or mentioned selling puts against emini sp500 futures.

60562"]Good to see you back. I think I remember you from a pair trading thread years ago.

I had a question on the mechanics of option selling because I think it might be suited to enhancing one of my stock strategies.

Basically I am buying a portfolio of 5 stocks at the open of Monday morning and close out the entire portfolio Friday at the close. And repeat this every week. The stocks are chosen based on some momentum analysis I do each weekend.

So I am thinking of doing this variation using options: what if I sold a weekly put for each stock with a strike x% below Monday's open price. By doing so I can collect some weekly premium and if the stock drops below my strike, I would end up holding companies I would not mind holding (as per the model) - and I would sell any stock that might be assigned to me on Friday's close.

This sounds like a great plan to me but I could be wrong as I am a total novice at options. Can you see any holes in this plan? What happens when a particular stock drops below the strike of my short put? Do I get assigned that stock immediately? If not, will I get a margin call?[/QUOTE]

Good to see you back. I think I remember you from a pair trading thread years ago.

I had a question on the mechanics of option selling because I think it might be suited to enhancing one of my stock strategies.

Basically I am buying a portfolio of 5 stocks at the open of Monday morning and close out the entire portfolio Friday at the close. And repeat this every week. The stocks are chosen based on some momentum analysis I do each weekend.

So I am thinking of doing this variation using options: what if I sold a weekly put for each stock with a strike x% below Monday's open price. By doing so I can collect some weekly premium and if the stock drops below my strike, I would end up holding companies I would not mind holding (as per the model) - and I would sell any stock that might be assigned to me on Friday's close.

This sounds like a great plan to me but I could be wrong as I am a total novice at options. Can you see any holes in this plan? What happens when a particular stock drops below the strike of my short put? Do I get assigned that stock immediately? If not, will I get a margin call?

You could possibly be assigned but most likely the shares won't appear in your account till Monday morning. In your scenario that you describe, just remember by selling OTM puts you can still lose, just less than if you were straight long the stock. Also remember your upside is capped to the premium you collect by selling the put. In regards to margin, make sure you understand how it works so you don't generate margin calls and be forced to either sell to cover the margin call or be forced to add more money.