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As a special service to my readers, I will be offering you one interesting trade idea every few weeks…for educational purposes only and to throw some light on my process and strategies when trading options.
I say for educational purposes only because there will not be a follow-up on the trade. IF you happen to take on the trade remember, the key to keeping losses to a minimum is proper position-sizing. Most of the strategies I offer are risk-defined so you know at order entry how much is at risk. And knowing how much is at risk should give you a good idea what your position-size should be per trade. But again, the following trade is meant for educational purposes only.
Another Weekly Options Trade
Ten days ago I presented a webinar focused entirely on my unique approach towards weekly options. The following is a very good example of how I use “Weeklies”, so if you find that you are interested in the strategy make sure you check out the presentation. It goes into far greater depth on how I use weekly options as an income-based options strategy.
Let’s examine how a weekly options trade works using my approach.
The overall market, more specifically the S&P 500 as seen through the ETF SPY, is in a very overbought state again, according to my favorite mean-reversion indicator, RSI.
We saw a similar set-up on the 7th of November when we sent out our first sample weekly trade in the Strike Price. Now SPY is offering us a similar set-up.
Once I see confirmation of an overbought state in one of the highly-liquid ETFs I follow, like SPY, I want to immediately look towards a trade.
Above is the weekly options chain for SPY.
With SPY trading for roughly $207.50 and in a very overbought state, I want to use a strategy like a bear call spread. A bear call spread will enable me a margin of error just in case the current directional trend, in this case a bullish trend, continues.
The next step would be to choose the actual spread. I want to start by looking at the Prob.OTM column in search for a probability of success around 85%. If I were to choose the strike price closest to 80%, I would need to sell the 210 strike. However, since I only want to go out one strike wide I would need to buy the 211 strike and that would only bring in a natural premium (bid price – ask price) of $0.10. After commissions, $0.10 doesn’t allow for much of a gain.
So, the next step is to move further up the options chain towards the 209.5 strike.
I can sell the 209.5/210.5 bear call spread for $0.15 ($0.34-$0.19). By selling the strike with a slightly lower probability of success I am able to make a return of 17.6% over the next eleven days. Again, the decision always rests with how much probability you want to have on your trade. In this case, we are going with a 79.09%.
But again, given the extreme overbought nature of SPY, I am comfortable pushing forward with the trade. Especially knowing that two of the eleven days are weekend days. So in reality I am only exposed to 9 trading days.
I’ve been trading weekly options in my Weekly Portfolio for my Options Advantage service since late February and so far I have had one losing trade. More importantly, the return on capital is over 70%. As I said before, I do things a bit differently than most. I do not make a trade every week. I wait for overbought/oversold extremes to enter the market and then I begin to look for a trade.
Back on the 7th I said the following and it will always hold true, “for one to randomly select a trade based on the fact that it is Thursday or Friday or any specific day for that matter, is irresponsible.” The market doesn’t work that way. I mean what’s the hurry? Why do we need to make trades every week, especially for arbitrary reasons? We are in this for the long haul, so let’s take that approach.
Again, last week I gave a webinar on Weekly Options and my approach. If you would like to learn more, please click here.
And as always, if you have any questions please feel free to email me.
Special Options Advantage Offer
If you ever thought about delving deeper into the options market – and seeing my personal options trades and recommendations on a regular basis – I’ve got some great news. My premium trading service, The Options Advantage, is available now for 50% off the regular rate. Click here to subscribe.