Why doesn't this put (or call I guess) selling strategy work every time?

[TooEffingOld]

[snip]
So spy went down 15%, and although you took in $4k (on what margin?), you lost $11,500 for a net loss of $7500. Obviously, whether you lost more than 15% (the buy and holders) depends on your margin type and your portfolio, but off the top of my head this $7500 is ~25% loss.

Oops, my bad, please ignore the $11,500 number and the "net". (reading too many financial statements lately, not enough trading :-(

 

[newwurldmn]

Using my made up examples/numbers -

You take in 8 option premium.

Lose 6, 4, and 2 on the puts.

So you are down 4 overall. Doesnt seem too bad to be down that much when the stock took a truly MASSIVE 60% hit, with buy and holders down that much.

Well, your hypothetical clearly doesn't work all the time.

In the real world, your results will be far worse. But that is something you will learn the hard way (as the rest of us have).

 

[baro-san]

Use real quotes, and you'll see that's not that simple.

 

[Baozi]

this is like the martingale strategy for stocks: stock drops and you double down, stock drops again and you double down again etc, when stock recovers the initial value you make a shitload of $$$.

The strategy can never fail, as long as you have enough money to double down.

The problem in real life is that you don't have unlimited capital, and sooner or later you will bump into a streak of losers that will blow you off the water.

With options, the issue is compounded by the fact that the payoff is non-linear. If the move is violent enough you will incur a loss so massive that your broker will probably decide to close your position, most likely at the worst possible moment.

 

[ironchef]

Stock is at $10. A $10 put is $2. You sell one.

Stock drops to $8. You sell an $8 put, which is now (roughly, to keep it simple) $2.

Stock closes at end of option period at $8. You collected $4 of put premium, you lose $2 when then the $10 put is exercised. So you are up $2 still.

If stock drops to $6, same thing, you sell a $6 put for $2. Stock closes at $6.

You collect $6 of put premium, lost $4 when the $10 put dropped to $6, lost $2 when the $8 put dropped to $6. So I think you are still even even though the stock had shed a MASSIVE 40%.

So it just goes to show that if you don't sell all in one big chunk, but just sell slowly as volatility kicks in, its really pretty hard to get crushed selling options. I know the above example is missing tons of stuff, but is not the theory GENERALLY sound?

Thanks!

The logic sounds so convincing and good so why doesn't it work? I am not smart enough to explain to you like the other posters but I had been there and done that back in 2013 when I started, after reading books like "The Wall Street Money Machine", watching tastytrade, Terry's tips, reading website that claimed you could sell options in your spare time and made millions without trying if you subscribed and paid $9.99 a month to get their tips....

It didn't work in real life, at least in my case. I lost my GOOGL, AAPL, BRK-B... through exercised and to add insult to injury I had to pay capital gain taxes and my net gain was worse than if I just "buy and hold".

So around mid 2013 I thought, if I could not make money selling, I should be able to make money if I reversed and bought? Didn't work when I mechanically bought just like it didn't work when I mechanically sold.

Trading option is hard work. I had to work my tail off just to make a buck.

 

[taowave]

And there are those rare circumstances when the stock never recovers...

this is like the martingale strategy for stocks: stock drops and you double down, stock drops again and you double down again etc, when stock recovers the initial value you make a shitload of $$$.

The strategy can never fail, as long as you have enough money to double down.

The problem in real life is that you don't have unlimited capital, and sooner or later you will bump into a streak of losers that will blow you off the water.

With options, the issue is compounded by the fact that the payoff is non-linear. If the move is violent enough you will incur a loss so massive that your broker will probably decide to close your position, most likely at the worst possible moment.

 

[ironchef]

this is like the martingale strategy for stocks: stock drops and you double down, stock drops again and you double down again etc, when stock recovers the initial value you make a shitload of $$$.

The strategy can never fail, as long as you have enough money to double down.

The stock would have gone to zero or been bought out at by another company at the lowest price you bought. My real world examples: WholeFood.