This is an idea that was spawned by a posting on elitetrader.
Markets tend to move sideways 65% of the time and trend only 35% of the time, give or take a few %. Traditionally that has meant calendar spreads, short strangles, short butterflies, iron condors etc. Trouble is, short strangles have unlimited risk in the event of a big move. Short butterflies and condors have limited risk, but even if you diversify by having a range of them on different stocks, a major geopolitical event may move all stocks/indices sufficiently to ensure that they all move out to the wings and all will suffer a loss, albeit limited.
So having just got in from a bracing walk, I thought I'd run this one past you. Select identical numbers of stocks in 2 groups - one group are those running into resistance which is expected to hold, and the 2nd group are those that have found support and which is expected to hold - say 5 in each group. For those that have come up against resistance, place a call backspread (i.e. with stock at (say) 98, sell 1 x 100 call and buy 1 x 105 call). Max risk is 5 - the gap between the strikes. Likewise for those at support, place a put backspread (i.e. with stock at 102, sell 1 x 100 put, buy 1 x 95 put).
My thought is that if the market moves sideways, as it does much of the time, most supports and resistances should hold and you'll keep the premia taken in on both the call and the put backspreads. 1 or 2 may break thru their support or resistance, but if say 7/10 stay the right side of their s/r then there will still be a profit.
If there is a major event and the market plummets, then the expectation would be that all the supports would fail and you'd loose on the put backspreads, but all the call backspreads would expire worthless so that you'd keep all the call premia taken in, so overall you'd still breakeven.
Likewise, if the market spikes up suddenly, the expectation would be that all the resistances would breakout, so you'd loose on the call backspreads, but the put backspreads would all make money and again you'd more or less breakeven. So overall the strategy should make money in a sideways market, which is about 65% of the time, and still breakeven on a sudden move in either direction.
I'd envisage this as a bit like a fishermans night-line - set it up and leave it alone until morning - or in this case, expiry - and come back and see what you've got. But if you felt so inclined, on (say) a convincing breakout thru resistance, you could buy back the short call at a loss and let the long call run.
Still haven't decided on best way to select stocks. Probably start with looking at sector charts, writing the call backspreads on stocks from a weak sector, and sell the put backspreads on stocks from a strong sector.
Anyway - those are the bones of the idea - a sort of market neutral strategy where big moves are neutral and sideways markets enable you to collect premium. The key, IMHO, would be to ensure that you have the same $ values for both the call and the put backspreads, and that you have a number of these simultaneously to spread the risk - probably at least 5 of each, and preferably more.
Any thoughts or comments?
Markets tend to move sideways 65% of the time and trend only 35% of the time, give or take a few %. Traditionally that has meant calendar spreads, short strangles, short butterflies, iron condors etc. Trouble is, short strangles have unlimited risk in the event of a big move. Short butterflies and condors have limited risk, but even if you diversify by having a range of them on different stocks, a major geopolitical event may move all stocks/indices sufficiently to ensure that they all move out to the wings and all will suffer a loss, albeit limited.
So having just got in from a bracing walk, I thought I'd run this one past you. Select identical numbers of stocks in 2 groups - one group are those running into resistance which is expected to hold, and the 2nd group are those that have found support and which is expected to hold - say 5 in each group. For those that have come up against resistance, place a call backspread (i.e. with stock at (say) 98, sell 1 x 100 call and buy 1 x 105 call). Max risk is 5 - the gap between the strikes. Likewise for those at support, place a put backspread (i.e. with stock at 102, sell 1 x 100 put, buy 1 x 95 put).
My thought is that if the market moves sideways, as it does much of the time, most supports and resistances should hold and you'll keep the premia taken in on both the call and the put backspreads. 1 or 2 may break thru their support or resistance, but if say 7/10 stay the right side of their s/r then there will still be a profit.
If there is a major event and the market plummets, then the expectation would be that all the supports would fail and you'd loose on the put backspreads, but all the call backspreads would expire worthless so that you'd keep all the call premia taken in, so overall you'd still breakeven.
Likewise, if the market spikes up suddenly, the expectation would be that all the resistances would breakout, so you'd loose on the call backspreads, but the put backspreads would all make money and again you'd more or less breakeven. So overall the strategy should make money in a sideways market, which is about 65% of the time, and still breakeven on a sudden move in either direction.
I'd envisage this as a bit like a fishermans night-line - set it up and leave it alone until morning - or in this case, expiry - and come back and see what you've got. But if you felt so inclined, on (say) a convincing breakout thru resistance, you could buy back the short call at a loss and let the long call run.
Still haven't decided on best way to select stocks. Probably start with looking at sector charts, writing the call backspreads on stocks from a weak sector, and sell the put backspreads on stocks from a strong sector.
Anyway - those are the bones of the idea - a sort of market neutral strategy where big moves are neutral and sideways markets enable you to collect premium. The key, IMHO, would be to ensure that you have the same $ values for both the call and the put backspreads, and that you have a number of these simultaneously to spread the risk - probably at least 5 of each, and preferably more.
Any thoughts or comments?
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) a while back but not having looked at options too much or for a long time i was unsure of how it would or could play out. I can see from your clear explanation that this would be very workable indeed. At the time i was thinking more about a put/call spread but looking for a break out or reversal of s/r points.
