The problem with calendar spreads

[spindr0]

Am i correct in saying, when i put in a long calendar (short front month long back month) I dont want the the index to move away from my strikes? This is because my back month will lose more than my front month, even though decay of the front month is in my favour (im losing more delta than im gaining in theta).

If the underlying moves away from the strike, it drives the options toward parity. Since the far month cost more, it can potentially lose more.

So my question is, would you suggest i do a CALL above and PUT calender below the index. This is so if one calendar is losing delta, the other one is gaining equivalent delta?

In such simple terms, I would say no. As the underlying moves toward either strike, a loss will be incurred unless time has passed and you are near expiration and have benefitted from time decay. An increase in IV will augment this and a decrease in IV will detract further.

 

[spindr0]

Like all strategies' I'll have to get a feel for it with real money. That's how i learned my ratio spreads. Nothing like trading to get a feel for the strategies.

I agree but I think that one should understand the ins and outs of the strategy before paying that tuition.

The classic text book answer to why use a double calendar would be that you expect the underlying to range trade until near term expiration and then upon expiration, you own a next month strangle for a reduced cost.

Sounds good but really, can anyone predict such behavior? And if you could, aren't there better ways to capitalize on that?

I don't know if the terminology is correct but I call double calendars ---> calendar strangles. And if it's at the same strike, a calendar straddle, mainly because it's easier than saying a double calendar at the same strike.

I find these to be useful for earnings announcements. If it's very close to expiration and I'm expecting (hoping?) for a big move and/or a contraction in IV, a double reverse calendar (RC) can be interesting. If it's further from expiration, a standard double can be interesting if there's some good skew b/t the two months. And to make things worse (g), you can play with ratioing the legs. As someone previously suggested, you need to fit the strategy to your outlook/expectation.

I'd suggest that you use an option program to model the possibilities of the above variables to see what the outcomes could be under various circumstances. Then, if the possible outcomes suit your risk/reward tolerance, pay the tuition.

 

[ajna]

Quote from chrismontez:
Ok here is how my pea brain works: S&P had formed a clear head and shoulder pattern so I buy Feb 48 puts on the Q"s because if it tanks as much as I thought it might it will pull down the Naz and the spread is closer than puts on the OEX or SPY. Unfortunately I am a few days too early and pretty soon I'm down 20% and decide that although I think I'm right on the evantual drop, Jan is usually an up month so I sell the Jan 47 puts to reduce my cost basis and I don't want to bother with a spread that returns less than the 20% I'm already down. As soon as I do that the big kahuna comes. [/B]

Chris I think we've all made similar decisions where we're right on direction and vol and somehow still lose money. In fact I think there was nothing wrong with your trade. Being long a bearishish calendar and long a otm put vertical should normally win when the market drops. A possible exit strategy next time might be to exit when you hit neutrality, since your position is no longer in the direction you originally intended. Not sure if that was possible in your trade given the gap down. But I still don't think your trade was incorrect. Just not a good outcome.

 

[riskfreetrading]

I think that there are some problems in these trades. In summary they are:

1. The initial trade is a spec. It went against him. He converted it to a diagonal (which is more of an income time of trade). So there is a mixing of type of trades, which may indicate that our colleague is not dividing his trades into specs part and income (high prob) part.

2. If you want to hedge in a spec trade, hedge at the start. I would have entered an ATM vertical at the start (the net is roughly the intrinsic value of an the higher in the money put). If I am wrong on entry, and still believe in the move, I will take off the profit from the short put and keep the long put for the big swing. If I am right the first time (if the options from same month are used), then I would double (or come close) my bet. Then I would move the strikes down if I want to repeat the process on the way down (probably with half the position I used at the beginning of the move).

3. One should never be in an income/delta neutral position with long theta in an environment where the trader's view is fast movements are in view.

 

[scoobie27]

Thanks all for the advice people and from what i read, I think i better trade one contract just to get a fee for it.

D,
If VIX is high, i plan to do some reverse calenders. Wanted to do one on ES when VIX was above 30 on Monday or Tuesday but missed the chance.

Risk,
I've actually been trading ES options all along and have previously traded credit verticals and diagonals but am now trading ratios spreads on the ES with success, though i took a small hit last week.

Cheers

 

[scoobie27]

Quote from spindr0:

I agree but I think that one should understand the ins and outs of the strategy before paying that tuition.

I understand the ins and outs but i like to trade one contract whenever im trying to learn more about a new strategy as i feel it makes me learn better with real money on the line.

The classic text book answer to why use a double calendar would be that you expect the underlying to range trade until near term expiration and then upon expiration, you own a next month strangle for a reduced cost.
[/QUOTE]

Exactly, i expect the underlying to range trade between my two calendars until near expiration, hence remaining relatively delta neutral.

 

[spindr0]

I understand the ins and outs but i like to trade one contract whenever im trying to learn more about a new strategy as i feel it makes me learn better with real money on the line.]

There's no doubt about that. Unfortunately, many people take larger option positions and then show up on option BB's asking what went wrong or what they should do to fix it :0

I was interested in delta neutral scalping against long straddles for a long time. I read about it and asked many posters about it but it wasn't until I did it with real money that I got the trading feel of it. Now I'd be comfortable taking a larger position since I think I know what to look/watch out for and could react to a change in circumstances rather than have to sit there and reason it out - and possibly wait too long.

As for the double RC's, watch that IV and be prepared to react if price change occurs early.

 

[RichardRimes]

Quote from scoobie27:

Risk,
I've actually been trading ES options all along and have previously traded credit verticals and diagonals but am now trading ratios spreads on the ES with success, though i took a small hit last week.

Cheers [/B]

I was going to add to my post that I thought your ratio spreads should be doing well in this market. I think last weeks big moves WERE definitely exacerbated by the So Gen debacle.

I've been thinking about doing them but not sure exactly how to ratio it out. Not to diverge too far off topic but do you have a defined ratio depending on the deltas your looking for? or do you usually just do 2/1...3/1 etc. thanks D

 

[scoobie27]

Quote from spindr0:

There's no doubt about that. Unfortunately, many people take larger option positions and then show up on option BB's asking what went wrong or what they should do to fix it :0

I was interested in delta neutral scalping against long straddles for a long time. I read about it and asked many posters about it but it wasn't until I did it with real money that I got the trading feel of it. Now I'd be comfortable taking a larger position since I think I know what to look/watch out for and could react to a change in circumstances rather than have to sit there and reason it out - and possibly wait too long.

As for the double RC's, watch that IV and be prepared to react if price change occurs early.

I don't have that problem of taking large position when learning because im too chicken by nature and hate losing money, even though i still lose : ) One contract is enough for me to take the position very seriously and follow it everyday.

If i was paper trading, I forget that i even had the position on. So i think i might do a one contract calender and reverse calenders just to get a good feel for them.

I analysed ratio spreads and understood what's said in the books but it was not until I had money on it that I really got an intimate understanding of how they behaved with changes to the underlying and vix. Been trading them since April and I feel I can picture the risks without looking at risk graphs. Im no expert but feel quite comfortable with them. Money on the line forces you to learn a strategy properly

 

[scoobie27]

Quote from RichardRimes:

I was going to add to my post that I thought your ratio spreads should be doing well in this market. I think last weeks big moves WERE definitely exacerbated by the So Gen debacle.

I've been thinking about doing them but not sure exactly how to ratio it out. Not to diverge too far off topic but do you have a defined ratio depending on the deltas your looking for? or do you usually just do 2/1...3/1 etc. thanks D

Not off topic at all as I've learned heaps from the replies on calendars.

In a nutshell, I do 1x2 ratios on ES. They are 50 point wide and i've only been doing PUTS. Before doing 50 pt puts, I traded christmas trees which were endorsed by Mav, but I feel my 50 wide ratios are even safer.

eg. Buy 1 1300MAR PUT
Sell 2 1250MAR PUT

I might receive $6 credit for opening the spread.

The beauty with ratios spreads is that it starts off -ve gamma but can end up +ve gamma if time decay is sufficient.

Have been closing my 50 pt ES spreads every month for credit except for my FEB and MAR spreads thanks to last week Got hit there and lost some money.

Sometimes you can even close it for more credit than you received to open them. Bear in mind this only happens if you have SUFFICIENT TIME DECAY. If my spreads are close to expiry, i actually want the underlying to fall towards my strikes.

With credit verticals, unfortunately it always remain -ve gamma. I guess the trade off is that the ratios have the risk of naked PUTS...

Im still testing and plan to do some 60pt wide ratios for even more safety.

Pls don't take my advice as im only a newbie and trade from learning from others and filtering to see what works for me. Feel free to ask more qs but Im now off to sleep soon in AUS.