Custom Option Strategy Trade On IWM

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Option strategy: Thank you for all of the kind emails that I received from everyone. I received a lot of emails from people just saying, “Hey, take here. Get well. Thanks for all you do.” And I appreciate that honestly. Thank you guys so much for underselling. I just lost my voice, had my daughter sick last week and then I think she just gave it to me.

It’s starting to come back slowly but surely. Today, a relatively active day for us as far as opening and closing trades, and I’m going to go over all of those for you guys tonight, and a couple of different little things. The custom order that we did on IWM was a little bit different. It’s got no name to it, so it’s a little bit of a custom order, but I think you’ll find it kind of interesting.

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First, I want to go over the earnings trade in HLF. HLF obviously we’re not going to shy away from doing anymore, continuing to do earnings trades, the implied volatility is there, you keep these things small, we only did this on one lot strangle on HLF which is Herbalife. But we went ahead and sold the weeklies, the NOV1 which if you continue to YouTube and watch our take five segments from today, just five-minute video clips throughout the day, we talked about all these NOV1, NOV2, NOV3, and what those all mean for weekly options.

But we did sell the NOV1 65 call, 45 put above and below the market. We sold a $20 wide strangle just to show you how rich implied volatility is for Herbalife and took in a very decent credit doing that of about $1.69. I think well, well, well beyond the expected move. When you go in here to the trade tab of Herbalife, you can see, or you may not be able to see just quite in the top right-hand corner, but you can also see the same number right here on the right-hand side.

But right now, the options are pricing in about an $8 expected move in Herbalife, and that’s almost what it had. It closed at about 56 and currently in after hours trading is right about 49. It had a pretty decent move lower and almost right at that expected move. Now, we were $10 on either end of its closing price, so we’ve got a little bit of room between ourselves in the market.

And you can see here on the risk diagram that it’s coming down towards our bottom side here, but this is our profit loss diagram here, and it’s not exact obviously, I’m just drawing this with my mouse. This is our profit loss diagram and Herbalife right now is trading right in here around 48.80, 49 or so.

We’ll see what happens tomorrow when we get a lot more volume in premarket where this thing might open up, but it’s going to open up lower. Profits were much lower, so for all intensive purposes, it looks like it could be a good trade right now, but we’ll see what happens tomorrow.

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Alright, the next trade that we did get into is FXY. Now, here’s the thing with FXY. You can’t shy away from this. And in our trading, last week on Friday, premium was better in FXE than FXY. But FXY has started to naturally gain a little bit more attraction in the market because of just the huge, huge down moves that it’s had on the Bank of Japan’s stimulus.

As a result, the Yen has been really crushed, and we decided to go ahead and try to take advantage of this opportunity because we think further stimulus might mean that the Yen is going to continue to get crushed, so we went ahead and sold an 87/88 call spread above the market, took in about $.25 of credit. And you can see when we go over here to the chart of FXY, just a huge, huge move down.

It gapped lower on Friday, it had a huge gap lower on the news, and then again today; it had another big gap lower, and you can see just that spike in implied volatility, now it’s up at the 100th percentile. A very, very high implied volatility, definitely worth looking at selling some options in which is what we did and we just decided to make it a little bit directional. We think the risk is to the downside for the Yen, so in that case, we want to be above the market with a credit call spread.

Alright, the other trade that we did today that was a little bit different is a custom order (it’s got no name to it) in IWM. Now, what we want to do is take advantage of two things. One, we think the market is a little bit overbought, we could see a little bit more down move, but we didn’t just want to go ahead and just sell just a regular naked option or do something like that. And premium is not bad in IWM, so what we decided to do was make a combination trade.

If you look at the order, (and I send it out in the notes as well) we bought one, so that plus one 117 put and then we sold one 116 put. And I know it’s a little bit confusing. You just got to break it down slowly. We sold one 116 put. That means we are long the 117/116 debit put spread. That part of the order means that we’re long a debit put spread anticipating that the market is going to go lower. Now, that put spread only cost us…

I think when you broke it down during the trading day, I think its value was around $.40. That put spread part of it only cost about $.40 in premium. Now, what we did is we went lower on the option chain and sold a naked option, so this is that second part of the custom order where we sold one of the 105 puts. Now at the time, that was trading for about $.53.

When we took in the credit from selling the naked puts at 105 for $.53, that helped pay for all of the put that we financed, that debit put spread and gave us an additional $.13 in credit which is ideally what we wanted. We wanted some credit… You can see my voice is still acting up a little bit. But we wanted some additional credit because this credit protects us in case the market does head higher. By taking in a credit on this overall trade, we’re protected in case the market does head higher.

It's better to show you visually on the analyze tab what we’re doing here. This is what our position looks like. From 117 and 116, it sounds like a regular debit put spread, but it’s all ultimately moved higher by the credit that we received by selling this naked leg down here at 105. What that does is that gives us a nice big window between about 104 and about 117 here where we make the bulk of our money. This is the profit window.

We do want the market to go down, but we’ve also given it a very wide range to go down too. Now, if the market does go higher, we’ll still make that $.13 credit. You can see that we do not lose any money in case the market goes higher which is why I like this trade, because in this current market if the market does go higher, I don't want to be losing any more money doing that.

By structuring the trade this way, we give ourselves an opportunity to make just a little bit of money. It covers commissions, but we’re not losing any money in case the market does go higher. A very interesting order. Just take your time with them as they come through. And I’m starting to add those notes in there. Just make sure that you read those notes, those trade alert notes very carefully and very slowly because I do break it down if it’s a little bit different.

Alright, very quickly tonight, we did have two closing trades that we get out of. One, the iron condor in APC, this is nothing more than just profit taking on this. APC was an earnings trade that we traded the November contracts versus the weeklies and had a very nice profit in it. It's only worth about $35 right now, so we decided to get out of that trade, buy it back for $35 and take an $81 profit on one lot, very, very nice little trade.

Same thing with Lowe’s, we decided to get out of our Lowe’s trade for two reasons today. One, Lowe’s was heading higher, and Home Depot is starting to head lower. Now if you remember, Lowe’s was a hedge trade in the same sector as Home Depot because we’re short a call spread in Home Depot. We went in and added this Lowe’s hedge trying to take advantage of these Home Depot housing building stocks moving higher.

And we did that with Lowe’s, we went ahead and closed it out for a $.12 debit, so just a little $33 profit, but goes towards a hedge in Home Depot. But the reason that we decided to close it out today is that these stocks are starting to diverge just a little bit. Now Lowe’s is continuing to move higher, great, we want to take advantage of that.

And now, Home Depot is moving down lower which is what we want, that it’s starting to head back lower towards the direction that we need because we’re short that call spread which is currently on the money. This was magnificent. We want to take advantage of that move up in Lowe’s, anticipating that it might have rolled over with Home Depot in the next couple of days. But we want to see Home Depot continuing to move down. That would help our call spread.

As always, I hope you guys have a good evening. I hope you guys enjoy these video tutorials. If you guys have any questions or comments, please let me know. I’ll get back to those tonight or tomorrow. And if you can join us tonight as a premium member… Remember, our premium members; we’re doing our open-ended live Q&A tonight at 8 o'clock.

And what that means is that I am on the phone, on the conference call, showing you guys anything that you want to see, answering any of your questions. But this only applies to premium members, so you got to upgrade your membership if you're not currently a premium member. Until next time, happy trading!

About The Author

Kirk Du Plessis

Kirk founded Option Alpha in early 2007 and currently serves as the Head Trader. In 2018, Option Alpha hit the Inc. 500 list at #215 as one of the fastest growing private companies in the US. Formerly an Investment Banker in the Mergers and Acquisitions Group for Deutsche Bank in New York and REIT Analyst for BB&T Capital Markets in Washington D.C., he's a Full-time Options Trader and Real Estate Investor. He's been interviewed on dozens of investing websites/podcasts and he's been seen in Barron’s Magazine, SmartMoney, and various other financial publications. Kirk currently lives in Pennsylvania (USA) with his beautiful wife and three children.