Subject: 3 Options Strategies for a Flat Market

 

Terrys Tips newsletter
     

Dear Friend,

Before I delve into this week’s option idea I would like to tell you a little bit about the actual option portfolios that are carried out for Insiders at Terry’s Tips.  We have 11 different portfolios which use a variety of underlying stocks or ETPs (Exchange Traded Products).  Eight of the 11 portfolios can be traded through Auto-Trade at thinkorswim (so you can follow a portfolio and never have to make a trade on your own).  The 3 portfolios that cannot be Auto-Traded are simple to do on your own (usually only one trade needs to be made for an entire year).

Ten of our 11 portfolios are ahead of their starting investment, some dramatically ahead.  The only losing portfolio is based on Alibaba (BABA) – it was a bet on the Chinese market and the stock is down over 30% since we started the portfolio at the beginning of this year (our loss is much greater).  The best portfolio for 2015 is up 55% so far and will make exactly 91% if the three underlyings (AAPL, SPY, and GOOG) remain where they presently are (or move higher).  GOOG could fall by $150 and that spread would still make 100% for the year.

Another portfolio is up 44% for 2015 and is guaranteed to make 52% for the year even if the underlying (SVXY) falls by 50% between now and the end of the year.  A portfolio based on Costco (COST) was started 25 months ago and is ahead more than 100% while the stock rose 23% - our portfolio outperformed the stock by better than 4 times.  This is a typical ratio –  portfolios based on Nike (NKE) and Starbucks (SBUX) have performed similarly.

We are proud of our portfolio performance and hope you will consider taking a look at how they are set up and perform in the future.

Terry

 
Option Tip of the Week

3 Options Strategies for a Flat Market:  

"Thinking is the hardest work there is, which is probably the reason why so few engage in it." - Henry Ford

If you think the market will be flat for the next month, there are several options strategies you might employ.  In each of the following three strategies, I will show how you could invest $1000 and what the risk/reward ratio would be with each strategy.  As a proxy for “the market,” we will use SPY as the underlying (this is the tracking stock for the S&P 500 index).  Today, SPY is trading at $210 and we will be trading options that expire in just about a month (30 days from when I wrote this).

Strategy #1 – Calendar Spread.  With SPY trading at $210, we will buy calls which expire on the third Friday in October and we will sell calls which expire in 30 days (on September 4, 2015).  Both options will be at the 210 strike.  We will have to spend $156 per spread (plus $2.50 commissions at the thinkorswim rate for Terry’s Tips subscribers).  We will be able to buy 6 spreads for our $1000 budget. The total investment will be $951.   Here is what the risk profile graph looks like when the short options expire on September 4th:

 SPY Calendar Risk Profile Graph August 2015

On these graphs, the column under P/L Day shows the gain (or loss) when the short options expire at the stock price in the left-hand column.  You can see that if you are absolutely right and the market is absolutely flat ($210), you will double your money in 30 days.  The 210 calls you sold will expire worthless (or nearly so) and you will own October 210 calls which will be worth about $325 each since they have 5 weeks of remaining life.

The stock can fluctuate by $4 in either direction and you will make a profit of some sort.  However, if it fluctuates by much more than $4 you will incur a loss.  One interesting thing about calendar spreads (in contrast to the other 2 strategies we discuss below) is that no matter how much the stock deviates in either direction, you will never lose absolutely all of your investment.  Since your long positions have an additional 35 days of life, you will always have some value over and above the options you have.  That is one of the important reasons that I prefer calendar spreads to the other strategies.

Strategy #2 – Butterfly Spread:  A typical butterfly spread in involves selling 2 options at the strike where you expect the stock to end up when the options expire (either puts or calls will do – the strike price is the important thing) and buying one option an equidistant number of strikes above and below the strike price of the 2 options you sold.  You make these trades all at the same time as part of a butterfly spread.

You can toy around with different strike prices to create a risk profile graph which will provide you with a break-even range which you will be comfortable with.  In order to keep the 3 spread strategies similar, I set up strikes which would yield a break-even range which extended about $4 above and below the $210 current strike.  This ended up involving selling 2 Sept-1 2015 calls at the 210 strike, and buying a call in the same series at the 202.5 strike and the 217.5 strike.  The cost per spread would be $319 plus $5 commission per spread, or $324 per spread.  We could buy 3 butterfly spreads with our $1000 budget, shelling out $972.

Here is the risk profile graph for that butterfly spread when all the options expire on September 4, 2015:

 SPY Butterfly Spread Risk Profile Graph August 2015

You can see that the total gain if the stock ends up precisely at the $210 price is even greater ($1287) than it is with the butterfly spread above ($1038).  However, if the stock moves either higher or lower by $8, you will lose 100% of your investment.  That’s a pretty scary alternative, but this is a strategy that does best when the market is flat, and you would only buy a butterfly spread if you had a strong feeling of where you think the price of the underlying stock will be on the day when all the options expire.

Strategy #3 – Short Iron Condor Spread.  This spread is a little more complicated (and is explained more fully in my White Paper).  It involves buying (and selling) both puts and calls all in the same expiration series (as above, that series will be the Sept1-15 options expiring on September 4, 2015).  In order to create a risk profile graph which showed a break-even range which extended $4 in both directions from $210, we bought calls at the 214 strike, sold calls at the 217 strike and bought puts at the 203 strike while selling puts at the 206 strike.  A short iron condor spread is sold at a credit (you collect money by selling it).  In this case, each spread would collect $121 less $5 commission, or $116.  Since there is a $3 difference between each of the strikes, it is possible to lose $300 per spread if the stock ends up higher than $217 or lower than $203.  We can’t lose the entire $300, however, because we collected $116 per spread at the outset.  The broker will put a hold on $300 per spread (it’s called a maintenance requirement and does not accrue interest like a margin loan does), less the $116 we collected.  That works out to a total net investment of $184 per spread (which is the maximum loss we could possibly incur).  With our $1000 budget, you could sell 5 spreads, risking $920.

Here is the risk profile graph for this short iron condor spread:

 SPY Short Iron Condor Spread Risk Profile Graph August 2015

You can see the total potential gain for the short iron condor spread is about half what it was for either of the earlier spreads, but it has the wonderful feature of coming your way at any possible ending stock price between $206 and $214.  Both the calendar spread and the butterfly spread required the stock to be extremely near $210 to make the maximum gain, and the potential gains dropped quickly as the stock moved in any direction from that single important stock price.  The short iron condor spread has a lower maximum gain but it comes your way over a much larger range of possible ending stock prices.

Another advantage of the short iron condor is that if the stock ends up at any price in the profit range, all the options expire worthless, and you don’t have to execute a trade to close out the positions.  Both the other strategies require closing trades.

This is clearly not a complete discussion of these option strategies.  Instead, it is just a graphic display of the risk/reward possibilities when you expect a flat market.  Maybe this short report will pique your interest so that you will consider subscribing to our service where I think you will get a thorough understanding of these, and other, options strategies that might generate far greater returns than conventional investments can offer.
  
                      ---------------------------------------
 
Any questions?   I would love to hear from you by email (terry@terrystips.com), or if you would like to talk to our guy Seth, give him a jingle at 800-803-4595 and either ask him your question(s) or give him your thoughts. seth@terrystips.com

You can see every trade made in 8 - 10 actual option portfolios conducted at Terry’s Tips and learn all about the wonderful world of options by subscribing here.   Why wait any longer to make this important investment in yourself?

Even better, you can become a Terry’s Tips Insider, and receive all our educational reports and materials absolutely free by opening a new account at the best options broker around -
thinkorswimIf you open an account with our link, they will give you 60 days of free trading or up to $600, the same deals they give to everyone who opens an account with them. You must use this link to sign up - open thinkorswim account – and once you have funded your account with at least $3500, email Seth@TerrysTips.com and let him know that you have done it, and this is what he will do – sign you for our Premium Service package ($119.95 value plus an extra 4 months of our Premium Service, valued at another $190.80).  You get $300.65 worth of services without paying us one penny.

I look forward to having you on board, and to prospering with you.

Terry

 


thinkorswim tdameritrade special offer    

  open thinkorswim account

 
Overbought/Oversold report
August 6, 2015
• S&P 500 (SPY) – 24.5 (Oversold)
• Dow Jones (DIA) – 11.6 (Very Oversold)
• Russell 2000 (IWM) – 18.2 (Very Oversold)
• NASDAQ 100 (QQQ) – 26.2 (Oversold)     
 
Testimonial of the Week

I have bought your books and really feel you are one of the few honest people in this business.  I subscribed to many free newsletters just to get as much info as possible, but yours is the only one I am paying for.  ~ Jim (July, 2015)

     

Thank you again for being a part of the Terry's Tips newsletter. If you are interested in signing up as an Insider, visit Terry's Tips today for details.

Sincerely,
Dr. Terry Allen
Terry's Tips

 
 
Week 359

August 6, 2015
 
In This Issue
Option Trading Idea of the Week
Overbought/Sold Condition Report
Testimonial of the Week
Terry's Book

Hot off the press! Could be the best book on options you will ever read.

Order Dr. Allen's book "Making 36% - A Duffer's Guide to Breaking Par in the Market Every Year in Good Years and Bad" at the discounted price of $12.94 using the discount code TEE when ordering!

Think or Swim

A Chicago brokerage firm with the unlikely name thinkorswim by TD Ameritrade is our clear choice as the best of all option-friendly brokers. For openers, they have absolutely the best options software available anywhere, and it’s free!  They offer real-time option prices (bid-asked prices, sizes, volume, Greeks, etc.), and their trading platform is remarkably easy to use, even for complex spreads, and they offer a free Auto-Trade service so that you can have Terry’s Tips (or other newsletter) Trade Alerts automatically placed in your account without your having to place the trades on your own.  Thinkorswim by TD Ameritrade is the absolute best choice for the serious option trader.

Visit thinkorswim

thinkorswim, Division of TD AMERITRADE, Inc. and Terry's Tips are separate, unaffiliated companies and are not responsible for each other's services and products.

©Copyright 2001-2015 Terry's Tips, Inc. dba Terry's Tips