Strategies
Our bread and butter trading strategy is credit/vertical spreads. About 80% of all the trades that we perform are credit spreads. We love them because they meet our main trading criteria. 1) They have defined risk 2) They take advantage of time decay. As the song goes, ‘time is on my side, yes it is.’ 3) There are 3 ways to win, which means we don’t have to be right to profit. The trade can make money even if the stock moves in the opposite direction of our original thesis.
We sell options that have at least 70-80% chance of being profitable when we place the order. Most of our strategies involve selling options. We are collecting premium when we place the trade. Combine all of these criteria and you have a winning formula that can be duplicated month after month.
This position can be opened from a bullish or bearish directional bias. The trade involves the purchase of one option and the sale of another within the same class, with the same expiration but at different strike prices. The trade results in a net credit for us (the seller of the option). Our goal when entering these trades is for the option to expire worthless. When this occurs we receive the max profit for the trade, which is the original amount that we collected when we entered the trade. Although our potential profit is capped our max loss is also capped.
This strategy is actually 2 credit spreads at once. One is sold below the current stock price and one is sold above the current price. The one below the stock (the put) is a bullish position and the one above the stock (the call) is a bearish position. This is a neutral trade and you are looking for the stock or index to remain range bound and stay between the 2 spreads. This trade can be put on at one time/order as an Iron Condor or it can be ‘legged’ in one credit spread at a time. It all depends on price action and the overall movement of the market. This is a great strategy because you can essentially get two trades for the risk of one. It’s impossible for the stock or index to finish both below and above your strikes. Therefore, your risk capital is the same when you have one position on or two.
Trading Philosophy
We don’t try to predict where a stock or the market in general is going. Instead, we make a trade based on where we think it is NOT going. This is an important distinction. The market will drive you crazy if you’re constantly trying to predict a direction. Just sit down and watch CNBC one day. You’ll see constant debating between Bulls and Bears about the direction. After all it’s these differences of opinion that make the market. If these so called ‘experts’ can’t always predict it what makes you think you’ll be able to?
Instead, we use a time tested strategy that puts the odds on our side. Think of it like this. When we sell options we are acting like the house in Vegas. We are selling an option to another trader who wants to ‘gamble’ more. They think they can predict the direction of a stock and they see big winnings in their future. Unfortunately, with the odds we are giving them they are going to lose 8 out of 10 times. Did you know in Vegas, Roulette only pays the casino on average .05 cents out of every dollar gambled? That means the house gives back 95% of the money in winnings. But obviously just a 5% return has built some pretty large casinos on the strip.
Obviously, not everyone buying options from us is looking for that lottery ticket. Some investors are buying protection for positions that they may already have open. We sell them this protection/insurance on their positions and 8 times out of 10 the option/policy expires worthless. This means we get to keep the premium collected . The buyer of the options also wins because they were able to sleep soundly for the month or so while owning the option. They know that during that period of time their portfolio was insured. The possibility and uncertainty of a huge loss was replaced with the certainty of a much smaller one by buying protection in the form of an option. How soundly would you sleep if you lived in a million dollar mansion that didn’t have any fire insurance coverage. Not very well I think.
Options serve a very important purpose in our stock markets. If the markets didn’t have options there would be a lot more panic selling when a stock and/or the market started to decline. We’re here to help fulfill that role by selling options.
