The stock price declined by 0.2% over the eight-day lifespan of the paper positions, or a -7% annual rate.
In the direction trade The options, on paper, produced a 100% yield on debit, for a 4,563% annual rate.
The no-skewing iron condor position produced a 100% yield on debit, for a 4,563% annual rate
The iron condor position skewed to the upside produced a 100% yield on debit from its options. However, the assignment placed short shares of YHOO into my account, producing an instant -0.% loss on debit.
Either way, the results aren't too awful. Had they been real positions, I would have exited the skewed position before it was assigned, producing a different result.
This result argues against skewing as a practice, especially when it creates a low probability of a portion of the spread expiring out of the money. The puts in this case had only a 40% chance of expiring OTM.
YHOO moved above its 20-day price channel on Thursday and confirmed the bull signal on Friday. I've rejected a bull position under my price channel rules (See "YHOO: Bull play, channel rules").
For this hypothetical exercise, I'll consider YHOO as a trade under my volatility rules, a very short term strategy.
I'll be looking to construct a paper trade from options of the MAR4 series of Weeklys, which trade for the last time on March 27.
See "Testing: Expanding the volatility strategy" for a description of my testing project.
YHOO
Direction
The direction is near-term bullish within a longer-term downtrend.
Volatility
Implied volatility stands at 28%, in the 44th percentile of the most recent rise. The chart range is bound by the March 4 lo are today's high so far.
| Week | SD1 68.2% | SD2 95% | Chart |
|---|---|---|---|
| Upper | 46.93 | 48.67 | 45.48 |
| Lower | 43.47 | 41.73 | 41.97 |
| Gain/loss | 3.8% | 7.67% |
The Trade
The trading signal was bullish so I'll attempt to construct a bull position on paper.
sold for a credit and expiring March 28
Probability of expiring out-of-the-money
| MAR4 | Strike | % |
|---|---|---|
| 45 | 54.8 |
The furthest insurance to the downside I could provide in return for a reasonable premium leaves $1.13 of the one standard deviation range uncovered, and $2.73 of the chart range. The risk/reward ratio stands at 7:3. The premium is 30 cents, with shares trading at $45.17.
How would it look as an iron condor?
short the $44.50 puts and long the $43.50 puts
sold for a credit and expiring March 28
Probability of expiring out-of-the-money
| MAR4 | Strike | % |
|---|---|---|
| Upper | 46 | 71.2 |
| Lower | 44.5 | 68.0 |
This structure is built on my customary allowance of a 68% or so chance of expiring out of the money, which generally provides an adequate range of profit and premium.
This structure provides profit for all of the one standard deviation range to the downside but leaves 59 cents of the SD1 range uncovered to the upside. The premium is 34 cents with shares trading at $45.16. The risk/reward ratio is 2:1.
Skewing to the upside, the direction of the trading signal, produces this trade:
short the $45.50 puts and long the $44.50 puts
sold for a credit and expiring March 28
Probability of expiring out-of-the-money
| MAR4 | Strike | % |
|---|---|---|
| Upper | 47 | 87.1 |
| Lower | 45.5 | 40.0 |
The structure places all of the one standard deviation range and the chart range in the zone of profitability. However, it leaves 57 cents to the downside of the SD1 range in unprofitable territory. The premium is 47 cents with shares trading at $45.16. The risk/reward ratio is about 1:1
Decision for My Account
I'll track all three paper trades. If they were actual trades, involving money, I would give preference to the third.
The relatively low implied volatility narrows the range of coverage sufficiently to create a problem for trades like this.
-- Tim Bovee, Portland, Oregon, March 20, 2015
References
My volatility trading rules can be read here. For a discussion of the rationale behind the rules, see my essay, "Rules for very short term trades".
The directional score is calculated as the sum of the following:
- Zacks rating --The Zacks ratings are translated as follows: 1=2, 2=1, 3=0, 4=-1 and 5=-2.
- Enthusiasm rating --: A single percentage derived from the number of analysts whose opinions are in one of five categories: Strong buy, buy, hold, sell and strong sell.
- Strong buy share -- The percentage of all analysts who rank the stock strong buy. If the share is 60% or greater, the score is 1; if 40% or less, then the score is -1; otherwise, the score is zero.
- Ethusiasm momentum -- The score is 1 if today’s enthusiasm rating is larger than the rating 30 days earlier; otherwise, the score is zero.
- 30-day direction -- The trend that best describes the 30-day chart: 1 for an uptrend, -1 for a downtrend and zero for a sideways trend.
- One-day direction -- The trend that best describes the one-day chart: 1 for an uptrend, -1 for a downtrend and zero for a sideways trend.
Elliott wave analysis tracks patterns in price movements. The principal practitioner of Elliott wave analysis is Robert Prechter at Elliott Wave International. His book, Elliott Wave Principle, is a must-read for people interested in this form of analysis, as is his most recent publication, Visual Guide to Elliott Wave Trading.
Several web sites summarize Elliott wave theory, among them, Investopedia, StockCharts and Wikipedia.
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Disclaimer
Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decisions for his or her own account, and take responsibility for the consequences.License
All content on Tim Bovee, Private Trader by Timothy K. Bovee is licensed under a Creative Commons Attribution-ShareAlike 4.0 International License.
Based on a work at www.timbovee.com.
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