A Short-Term Income Trade in SPY

Over the past two weeks I have discussed a few contrarian opportunities and how to take advantage of them, if you are so inclined, by selling puts.
My plan was to give several more ideas as we conclude 2015. But, before I continue my series of contrarian opportunities, I have an immediate short-term opportunity that takes precedence.
Before I get started I just want to make sure all of you are forewarned. The trade I am about to tell you about is a riskier trade than what most of you are accustomed to in Income & Prosperity. However, that certainly does not mean opportunities like the one I am about to mention should not be considered. Just remember, if you do consider the trade, keep your position size small.

A December to Remember

December is typically one of the better months for the market, with subdued trading before the holidays. Not this year. The VIX, otherwise known as the investor fear gauge, kicked 64% higher this past week to mark the largest one-week jump in the history of the volatility index.
Typically, when a jump of this magnitude occurs markets tend to take a reprieve going forward. No one can say for certain if it will happen this time, but if you look at prior occurrences, a successful short-term income trade could be in the cards. Just remember, we have a wild card in the mix this time around: the potential hike in interest rates following the Federal Reserve meeting on Wednesday.
However, that is why I prefer options selling strategies. They have a built-in margin of error just in case we are wrong in our prediction. Let me explain.

The Strategy

I want to use an options selling strategy known as a bull put spread.
The goal of selling a bull put credit spread, or vertical put spread, is to have the stock close above the put strike you sold at options expiration.
Simply stated, you want the stock to stay above the short strike until the puts expire. That means the puts will expire worthless and you will retain the credit received upfront. I typically sell out-of-the-money puts, so that I have some room for error if my assumption is incorrect.
My assumption is that over the short term the S&P 500, as measured by the SPDR S&P 500 ETF (NYSEArca: SPY), will push higher – or at least not move significantly lower – over the next few weeks. As a result, I want to place the following trade.
Take a look at the options chain below:

I want to focus on the percentages in the column titled “Prob.OTM.”
Knowing that the SPY fund was trading for roughly $202 on Monday, I want to sell a bull put spread with a probability of success in excess of 70%.
Just look at the Dec4 15 196.5 strike. If I sell the 196.5 puts and buy the 195.5 puts I can bring in $0.22 ($1.72 – $1.50) for a 28.2% return. The probability of success on the trade is 70.33%.
If I lower my probability of success I can bring in even more premium, thereby increasing my return. It truly depends on how much risk one is willing to take. For this trade, I prefer 70% or above, because it is slightly more than one standard deviation away from the recent price of $202.
If SPY closes above the 196.5 strike, I will make the max profit of 28.2%. Basically, SPY can trade higher, flat or can move $5.50, or 2.7%, lower over the next 10 days and the trade will still be profitable. If SPY closes below $195.50 I will lose the entire amount, or $78 per contract.
If you are interested in learning the intricacies of my step-by-step approach to trading weekly options, please sign up for my free webinar, which will be held this Thursday at 12 p.m. EST.
You’ll not only learn how I trade options, you will also learn a few other simple options strategies that use probabilities to your advantage.