Out of the Money Calendar Spreads

July 19th, 2011

This is a guest post by Derek Devore, an experienced options trader. Find out more about his OptionBoost Video Training Program at http://optionboost.com

One of my favorite structures when I’m evaluating a position which is slow moving, but is on its way to reaching a particular price point, is Out of The Money Calendar Spreads, or “OTM” Calendar Spreads. In a Calendar Spread, one is basically selling the “front month” option while simultaneously buying an option further out in time – both options having the same strike price. The benefit to this spread is the fact that you are financing part of what you pay for buying an option, by the option you are selling in the spread. Lets look at an example:

Let’s say that the RIMM was currently trading at 28.00 and I thought it was going rally back to 31.50 by the end of this month. In this particular situation, I would look to purchase a Calendar spread at the 132 strike price by creating the following structure:

BUY +1 RIMM AUG 31 CALL for $0.99
SELL -1 RIMM JUL 31 CALL for $0.21

As you can see from the above order, I am purchasing the AUG Call (the month further out in time) for $0.99 and selling the JUL Call (the front month, or the month closest in time) for $0.21. So, collecting the premium of $0.99 and buying something else for $0.99, allows me to reduce my cost basis of the entire spread to only $0.78 (i.e.; $0.99- $0.21). Now, since we’re essentially selling something against something else we’re buying, we want to make sure that what we are selling is somewhat “overpriced” compared to what it has been priced historically. How do we best determine what is potentially overpriced in the options market?…with “Implied Volatility”!

Implied Volatility

Implied volatility is a measurement which tries to predict the future volatility (the magnitude of up-and-down movement in a security) in order to assign a theoretical price value for a certain option. In other words, if the underlying stock makes huge upswings and downswings, it is said to be more “volatile”. As expectations of future volatility increases, so does the implied volatility of a certain option contract, therefore its price generally increases and vice-versa. Therefore, going back to our Calendar spread example, we want to sell options that are overpriced (using its implied volatility as a measurement ) in order to buy options which we feel are fairly priced.

Charting Implied Volatility

Charting our two different-month options in a volatility chart quickly shows us that we are on the right track in terms of selecting this particular spread. If you notice in the chart below, the light green line (representing the July option we sold) is much higher than the dark green line (representing the Aug option we bought). Furthermore, you can see exactly where the 31 strike price lies on the chart, by the brown crosshairs – showing us that the implied volatility for the Aug option is all the way up to 49.89%, compared to the 44% implied volatility for the July option.

RIMM Options Chart

So it looks like we have indeed accomplished our goal of selling something which is relatively “expensive” to finance the purchase of something that is relatively “fair” in price.

Although this is just one aspect to consider when purchasing Calendar spreads, hopefully it will inspire you to dig a little deeper into implied volatility charts to allow you to see in a type of “third-dimension” of how pricing in the Option Market behaves – and more importantly – how you can learn to spot these pricing instabilities to use them to your advantage in your trading.

Derek Devore is an experienced options trader. He professionally trades his own account, from his home, specializing in Options Trading and Forex. He is the creator and owner of the OptionBoost Video Training Program at http://optionboost.com

Speaking at NY Traders’ Expo on Tuesday

February 20th, 2011

Just a reminder that I’ll be giving a presentation along with Trade-Ideas’ David Aferiat at the New York Traders’ Expo this coming Tuesday, February 22. The title of the talk is Automated Trading with the Odds in Your Favor. We’ll discuss coming up with trading strategies, refining your ideas into a trading plan, and creating a feedback loop for ongoing continuous learning about the markets.

Feel free to drop me a line if you’re going to be there and we can meet up.

Options Support Coming Soon – Sign Up to Learn More

February 16th, 2011

We’re hard at work adding support for options in StockTickr. If you’re an options trader and want to use StockTickr to improve your trading, sign up here to be notified when it will be ready.

Rest assured that the options trading journal will be:

  • Easy to use
  • Require minimal manual data entry
  • Will help you make more money with your trading

Sign up here and be notified immediately when it’s ready.

The New StockTickr Yearly View

February 7th, 2011

We’ve just added a new calendar view into StockTickr.  You can view multiple years worth of trading on a single page. Notice the colors – the darker green the day is the more profitable that day was relative to other days and the same is true for losing days.

Clicking on the day of the month takes you right to the trading journal for that day. There is a link on the month name that takes you to a monthly calendar view showing details of each day.

Sign up now to become a better trader!

Here’s a screenshot:

Calendar Year View

Nasdaq 100 Gap Down Strategy

January 3rd, 2011

I saw James Altucher’s post on articles he’s tired of writing each year and one of his ideas piqued my interest. He says:

…if a Nasdaq 100 stock gaps down more than 5%, its a good buy for the day.

I thought I’d check out this idea further by doing some backtesting. Over the past 2 years there were 234 instances where a Nasdaq 100 stock gapped down by at least 5%. I tested going long right at the open and then closing the position at the close the following day.

It turns out there is an edge going long in this situation. Here are some stats:

Win Rate: 55%
Average Gain: 0.73%
Profit Factor: 1.55

So it definitely looks like there is some edge there. Whether or not it is worth trading is another question. More testing is required to determine that, but at this point it’s probably worth working on or at least continued study to see what can be learned from it.

Introducing StockTickr Goals

December 14th, 2010

Traders need to be always looking for ways to improve their trading. If you’re not regularly trying to get better, then you’ll stagnate and you’ll get worse. Many traders make mistakes – often the same mistakes over and over. (I know I do).

This is why we created StockTickr Goals. It’s a way to create trading goals for yourself, assign them to certain days, and then hold yourself accountable. It’s an easy way to create a feedback loop so you can improve your trading over time.

It’s included with the already free StockTickr Basic accounts and also with the StockTickr Pro service. Get started now and take your trading to the next level.

goals image

Learn more about StockTickr Goals here.

Mathematically Optimal but Psychologically Wrong

November 2nd, 2010

Here’s a good article that relates quite a bit to trading. John Cook discusses debt consolidation and the debt-snowball strategy. His point is that the even though it’s mathematically optimal to tackle higher interest rate debt first, in practice it’s more practical to tackle the smaller debt first.

There are a lot of parallels to trading with this. A good example is scaling out of trades. In most every strategy I’ve come across (and all that I’ve traded), the mathematically optimal strategy is to not scale out of trades but to keep your position until a stop or a target is hit.

In real life though this is often difficult to do. It only takes a couple trades where your target is oh-so-close to being hit and then ends up stopping out to see that scaling out could provide some psychological relief.

Another good example is using an optimal position size for your trades. Depending on your account size the optimal position size for your trading strategy might result in some really large drawdowns to weather. You have to take into account the psychological element – your theoretical backtest doesn’t care that it’s difficult to trade through drawdowns. 😉

StockTickr Trading Robot Now Trades the Canadian Markets

October 27th, 2010

Are you interested in diversifying your trading strategies across markets? The StockTickr Trading Robot now supports trading the Canadian markets through Interactive Brokers. You can trade the TSX and TSX venture exchanges by configuring your Trade-Ideas strategies to point to these exchanges for your strategy.

Didn’t Log All Your Futures Trades? Use StockTickr To Upload Trade History

October 11th, 2010

Didn’t log all your futures trades into a journal but still want to analyze your trading and improve your edge? No problem! We’ve just added support for uploading trade history from Transact Futures monthly statements using the StockTickr Bulk Import feature.

This is a nice addition for futures traders with firms that clear through Transact (Infinity Futures for one). Instead of starting from scratch or manually entering trade by trade you can now import your entire trade history into StockTickr right off the bat which makes the performance analysis that StockTickr provides that much more valuable.

Here’s an example of what you can analyze, learn more here.

  • Which times of the day are you most profitable and which are costing you money?
  • What’s the typical amount of ticks or dollars a position goes against you but still ends up profitable?
  • Does your trading exhibit streaks, is it better to press it when things go your way or maybe not?
  • Is System A that you’re trading better than the new System B you’re trying out?
  • Want to keep track of performance during Fed day? Just tag those trades as FedDay and analyse them separately.

We support over 40 futures contracts. Sign up for a free trial and start making the most of your edge.

StockTickr Announces the Sterling Trading Bot

October 6th, 2010

After several weeks of beta testing, the StockTickr Sterling Automated Trading Robot is ready for action!

This robot will let you automate your trading through the Sterling trading platform using your Trade-Ideas trading strategies. You have full control over your trading strategies and can configure your trading instructions in a number of ways.

  • Absolutely the easiest way to start automated trading – no coding required!
  • Full control over what gets traded through the robot.
  • Automatically execute one or many trading strategies.
  • Include a variety of exit orders including stop loss, time stops, trailing stops, and targets.
  • Set a maximum number of orders to be sent per strategy.
  • Extensive position sizing capabilities.
  • Automatic performance analysis and journaling through StockTickr.
  • Much, much more.

This software lets you get the most out of your trading by combining the real time scanning from Trade-Ideas, the advanced performance analysis of StockTickr, and Sterling’s robust and fast execution platform.

There’s a free trial so get started now.

« Previous Entries