capturing the premiums

[Zulu89]

ive been looking at trading options to capture the premiums, in particular the short strangle strategy. Looking in the textbooks i understand that theorectically my risk is unlimited but i assume ill be able to scratch each leg for a very small or no loss at all if either strike price is approaching.

Applying this strategy sounds like a no brainer but i keep thinking , if it was that easy everybody would be doing it. None of the guys in my room trade options apart from going long call/put contracts occasionally, which always expire worthless

I would appreciate if the more experienced option traders could identify some of the practical risks i should expect to be exposed to.

Thanks

 

[Martinghoul]

Look here: http://www.trade2win.com/boards/general-trading-chat/72164-writing-call-options.html

 

[Zulu89]

Thanks Martinghoul
The unknown unknowns that could one day produce a very large loss is probably not strategy for me.

i was thinking, what if in addition to a short strangle i well long a call and a put option with strikes further out than those of the strangle components, this would mean i would be able to predetermine my max risk(not sure about this). This strategy does have 'wrong way' risk as you put it, isn't that compensated by being right more times than your wrong?

 

[Martinghoul]

Aha, now you're onto funky stuff. The strategy you describe is called an "iron condor" (unless I am having a senior moment) and it's well-known and well-used by lots of people. The attractiveness of iron condors and other such strategies is exactly as you describe. However, these sophisticated strategies have their drawbacks (there's no free lunch). Specifically, issues are transaction costs (there's lots of legs), as well as an overabundance of moving parts, which means that you have to be careful and diligent and know what you're doing.

 

[Hoggums]

ive been looking at trading options to capture the premiums, in particular the short strangle strategy. Looking in the textbooks i understand that theorectically my risk is unlimited but i assume ill be able to scratch each leg for a very small or no loss at all if either strike price is approaching.

Applying this strategy sounds like a no brainer but i keep thinking , if it was that easy everybody would be doing it. None of the guys in my room trade options apart from going long call/put contracts occasionally, which always expire worthless

I would appreciate if the more experienced option traders could identify some of the practical risks i should expect to be exposed to.

Thanks

Iron condors can be expensive to sell if a strike price is approaching. Firstly it is likely that a move to a strike price is a result of higher market volatility, making the all the options more expensive - add to that the fact that the option premium will get much higher as the market moves towards the strike price - your losses on the short option position will far outweigh the profits on the other legs.

Iron condors can spend most of their lifecycle at a unrealised loss until expiry is due.

 

[Zulu89]

Thanks for the replies guys, do i need a license to write options?

 

[Martinghoul]

Do you mean like 007 ? As I understand it, you can sell options just like selling other things in your trading platform. Margins, however, will be an entirely different kettle of fish.

 

[gooseman]

not trying to be funny here or indeed too technical but do you nuderstand how to hedge short gamma?

*and i don't mean cupping your balls and hoping for the best

 

[Zulu89]

Thanks Martinghoul, thats what i expected.

not trying to be funny here or indeed too technical but do you nuderstand how to hedge short gamma?

*and i don't mean cupping your balls and hoping for the best

To be perfectly honest, i havent a clue on how to hedge short gamma, presently im trying to get my head round the greeks and their implications. My boss suggested i start looking at options only last week, to add another string to my bow. So im miles away from actually putting on an option strategy i feel comfortable with.

 

[tripleogstar]

biggest risk in options trading is generally vega and skew. so you need to make sure you understand those. when you are shorting a strangle, you are selling volatility, this strategy has a high vega. So it turns into a volatility play if you are delta hedged

 

[luckyd1976]

Iron Condors -Risk Defined to the Cash Strikes (B-Call, S-Call, Price, S-Put, B-Put)
Strength =High Win rates
Weaknesses = 9-1 Risk reward (if untouched Exit plan, but risks are defined to the strike prices))

Short Strangles - Naked OTM Call and Naked OTM Put (S-OTM Call, Price, S-OTM Put)

Are two different beasts!!!

Please dont confuse the two.

 

[luckyd1976]

Iron condors can be expensive to sell if a strike price is approaching. Firstly it is likely that a move to a strike price is a result of higher market volatility, making the all the options more expensive - add to that the fact that the option premium will get much higher as the market moves towards the strike price - your losses on the short option position will far outweigh the profits on the other legs.

Agreed. Thats why every trade should have an Exit strategy.

Iron condors can spend most of their lifecycle at a unrealised loss until expiry is due.

Previous post of mine under "Free Systems"/One Shot Condors

Let me try and explain for accounting purposes what the Iron Condor does. When you first take a position. You will see the jump in your Cash balances. But the positions themselves will show you a loss.

Example: Cash 25k starting account. After the position 25.8k Cash but maybe a 23.5k Mark To Market (M2M) Account Value.

Dont be alarmed by this. Because with Condors it's about the Cash value. And as time (Theta decay) gets closer to the expirations dates the Account value will rise to meet the Cash value.