Options strategies are continuously under development; this page will change as my approaches are refined.

Under development:

Earnings calendars

Monthly RUT and SPX unbalanced condors and broken wing butterflies

VIX calendars and VXX diagonals

Event-driven iron condors, double calendars and double diagonals

Ad hoc unbalanced condors and broken wing butterflies

Covered calls

Monthlies (Under Development)

A balanced portfolio of monthly options, weighted to the SPX, is much easier to manage than I had assumed when I first started learning. This takes a lot of analysis and planning, however. The options setups I look for are much easier to identify and quantify than directional trading setups within intraday or swing time horizons. I have both the implied odds of the target strikes in addition to the range probabilities provided by my own model, which provides a much needed measure of confidence in my day to day decision-making.

The main vehicles are strangles, straddles and verticals (to include construction of iron condors and butterflies, when warranted). The goal is to achieve a nice, wide range of profitability for individual trades, and an even nicer and wider range of profitability across the beta-weighted portfolio.

The conceptual anchor of the approach is based on a monthly range projection of the SPX, using the emini S&P futures (ES) as a proxy. There are two reasons I use ES to beta-weight: (1) I know the contract well, having day-traded it for two years using volume profile and order flow; (2) I occasionally hedge the portfolio by trading this contract during periods of extreme momentum. (The title of this blog is *Mostly* Mean Reversion….)

February’s projection (based on the January close) for the March ES futures contract:

A series of consecutively more extreme ranges are rare in the S&P monthlies — it’s very unlikely that in the month of February (it’s the 13th as I write this), the S&P will print at either 2,298.50 or 1561.50, even in this market environment. The model I use suggests there is a 16% chance of an expansion beyond January’s H-L range (with a sample size of 221 months, and 44 pattern occurrences).

An expansion is defined as a move 10% greater than the range of the previous period (in this case, January’s H-L range). A contraction is a move that is 10% smaller than the previous month’s range. Anything else is considered a duplicate range. That leaves an 83% chance that February’s range will either duplicate or contract, meaning ES will remain within a 2044 to 1804.25 range — or, more accurately, to within 10% of that range (more or less) as the rules stipulate. Given that the ATRs for the 50, 20 and 10 month periods are no more than 145 points, I will lean more toward the contractionary projection of 149.75 points, which when measured from January’s close suggests a high of 2079.75 and a low of 1780.25. (The probability of a contractionary range is 72%. I go into a bit more detail about this below.)

These figures change throughout the month. It is rare in any market for price to advance or decline with no retracements over the course of 30 days. To adapt to market conditions, the high and low projections are continuously refreshed. For example, ES has already traded to the lower end of the projection for February — a low of 1802.75 on Friday, in fact. This changes the high projection from 2079.75 to 1952.25 — we measure this by adding the contractionary range to February’s current low of 1802.50. The low projection is 1790.25, found by subtracting from February’s current high of 1940. (The actual model shows two contractionary figures that are slight different from one another — this is intentional and beyond the scope of this blog post.)

The particular pattern driving the projections above has a varying impact on range — there are twenty patterns tracked by the model. January’s pattern is a fairly strong one, as evinced by the 72% probability of a contraction. (I don’t trade model patterns with less than a 60% probability — this is before considering the implied odds of the chosen strikes.) As it turns out, this particular pattern is a good one to sell strangle options around. I’m not sure why…since it is not associated with the highest market volatility or the highest model probability.

Setting up my approach as a beta-weighted portfolio, I rank individual equities, ETFs and futures by IV percent, and then drill down to find those that provide a nice wide envelope around my assumed levels in the S&P. I only have one February option trade left, so will use the March options instead to illustrate the concept —

As of today, my portfolio break-even points are at 2022 and 1691, which provides great coverage for the identified risk in this cycle. I’m skewed a little to the downside, because the current high projection is 30 points above 2022. This is partly due to the fact that although I think the S&P will continue to trade in a wide range, I’m more bearish than anything else. It’s also due to the fact that we still have a couple more weeks of active portfolio construction for the March expiry. Ideally, my break-even prices will extend well beyond the rolling H-L projection.

As the S&P rotates up and down the projected range, I will scan for issues with high volatility and take trades that provide the highest blended odds of success. Let’s take USO as an example. When the S&P traded down into the low 1800s, I entered a straddle with two contracts. As the S&P rotated up into the low 1900s, crude decoupled from it’s recent correlation and again dumped, providing another chance to enter a straddle at a lower price, extending the break-even price range of the USO trade and also rounding out the overall portfolio profile. Before this cycle is over, I’ll probably have added two more positions in USO.

The above illustrates an important aspect of this model: I never pile into an individual trade. I scale in with small size and with different strategies at different points along the trajectory of the portfolio’s anchor — the S&P500 index. Options are an incredible way to stay agile in turbulent markets and beta-weighting a portfolio to an index or a small group of indices has opened doors that I had never thought to open when I first started trading currencies and then futures. I can express a much more nuanced and quantifiable view with this approach and, more importantly, I can shift and adjust when I’m wrong. (Losses happen!)

This is by far the safest and most comfortable approach that I’ve found while managing a very busy career. (50-60 hours a week is no joke when you’re also trying to day-trade futures in the early AM. Tried that already and it was too much for me!) I’m increasingly interested in this approach because I can express questions and opinions about a myriad of markets and get *instant* feedback without a margin call — the most recent example being the oil markets and decoupling from the S&P, as I expressed on Twitter a couple of weeks back.

There you have it. I hope this is at least a little bit interesting to others.

Weeklies

See the original post here.