Lesson Overview

CMG Calendar

In this small trade that we made before the holidays we were able to take advantage of really high implied volatility after a big gapping move lower in GILD.

We were then able to sell an iron condor with strikes $5 wide on either end and taken a $100 credit for the trade overall. By selling our strikes at about a 15% probability of expiring ITM we added this 70% probability of success trade to our portfolio.

More Discussion

Was This Helpful? Add Comments/Questions

  • Glenn

    Amazing! I need to take a lesson from this for sure!!!
    Thanx for sharing!

  • Johnny

    Kirk, this is a nice adjustment strategy. I can clearly see how the trade went against you, but you didn’t let the move destroy the original trade. So really all you did was roll the short (Nov) puts and kept collecting the premium to reduce overall cost? If CMG regressed in price and flattened out, you stood to make a decent return on the original debit, very nice trading.

  • Well even if you were assigned on the short options you could exercise the long options to cancel out the stock position and just move forward from there.

  • Kevin Kettring

    Good point, at all times be rational. Thanks Kirk

Show Video Transcript +

In this video, I want to show you guys a recent case study that I’m going to use for how to adjust calendar spreads that you enter. And in this case study, we’re going to look at Chipotle Mexican Grill, so CMG is the ticker symbol.

And we’ll show you guys how we were able to cut our loss in Chipotle by 70% because of the adjustments that we made. Now, of course, it still hurts that we had a loss in the trade.,

But I would rather have a 70% less of a loss than just to take a full loss in doing nothing and let the trade go all the way to expiration without any adjustments.

As always, with adjustments, your first and only goal should be reducing risk and reducing the loss. Then your goal should be to possibly turn a profit.

But if you’re going to start adjusting a trade because it’s going sideways or it’s going against you, the whole goal is to reduce risk and reduce the potential loss that you have on that trade, so it doesn't hurt you as bad as you originally thought.

We’re going to go through step-by-step in this video today. I’m going to show you exactly all of the trades that we made with all the fills and dates and times and all of that stuff, so you can see how we cut our loss by 70% with this Chipotle calendar spread.

Now, I want to go to the chart first of Chipotle and just let you know exactly where we started making this trade. Right here on the 21st which is when Chipotle opened up after earnings. It’s this big red day right here on the 21st of October; we entered a put calendar spread on Chipotle.

The whole idea here was that it had really bad earnings and we assume that maybe after these bad earnings that it would continue to drift lower and head towards around the 580 regions.

That’s where we centered our trade. We were ideally looking for Chipotle to go down to around 580 by the time that we were making this trade. Now, you can obviously see that Chipotle didn't do anything, but continued to move higher 100% against our position and our underlying assumption which is fine.

That’s trading. Sometimes you win, sometimes you don’t. But in this case, it continued to move higher, and we had to do something fast to make some adjustments because the original put calendar spread that we entered was pretty pricey, it cost us about $470 to enter.

We didn’t want to take the big bath on that size of a trade. Here’s the actual look at the trades that we made. You can see here this is going from top to bottom. And the first trade that we made was on 10/21, and it was that calendar, just one, doing the November, December 580 put calendar spread.

Now, with the actual option prices here of each of the individual options, (which is why I love this layout) it shows you that we bought the December options for $1,100 and we sold the November options for around $700.

That’s the premium that we took in on those November options. The net price that we paid was about 470, so $470 for every one lot that you were doing.

Now, as Chipotle started to rally up on 11/6, we went back in, and we rolled up one of our put sides. You can see here that this order that came in on 11/6 – And we’ll bounce back and forth between the charts.

You can see that we were only dealing now in the November options. All we did was take the 580 put that we had originally sold. Remember we sold that 580 put here for around $691. Well, that put was now trading for about $64.

You can see that most of the money had already been made on that put. Holding that put all the way through expiration wasn't giving us a lot of premium. There’s pretty much nothing left in it. We were just holding this short put. We’ve made most of the money on it.

What we decided to do was to roll that put up to 610. You can see we just made an adjustment; we used a vertical order. A vertical order is selling the first contract and buying the next one.

Well, that 580 that we bought, we just basically closed out of the 580 short that we already had. In this case, we rolled up from the 580 to the 560; we took in an additional credit overall of 159.

That gets reduced off of the 470 that we had. And now, if Chipotle lands in a range, we have that credit reduced or that cost of the trade automatically reduced by $160, so where it cost us originally 470, now it’s only going to cost us around 360 or so. That’s reduction in the price of the trade.

What it looks like on the analyze tab – And what I’ve done here has I pulled up a recent Chipotle spread. Don’t look at the numbers down here because this is just a recent spread around the same price. But this is ideally what the scenario was.

We had a calendar spread that’s tilted towards the bearish side, and you can see that Chipotle is trading right now right about here. If we were entering a very similar spread, we’d ideally want Chipotle to move down. In our case, Chipotle moved way higher.

As it moved higher, what we’re doing is we’re taking this side of the calendar spread, and we’re rolling it closer to take advantage of the higher move in the stock. It might look something like this after the adjustments.

We roll up that put side, and we roll it up closer, it might look something like this if we roll up that put side. Now, our calendar gets more and more tilted. It's shifting whereas it was somewhere around here.

This is what it looked like originally, something like that. Now, we’re just shifting this calendar down here and up here by rolling up the put. We’re taking in more credit, anticipating that the stock might go higher. Now, you’ll notice what that does is that moves our breakeven point out even further.

By doing this, we move our breakeven point out further on the topside. That allows us a little bit more flexibility in the movement of the stock potentially if the stock continues to rally.

Remember that that trade was made, so we made that adjustment trade on 11/6. We go back to the chart here, and you can see that that adjustment trade was made right here on 11/6, right here on this day.

We gave it the good part of the month to see if it potentially would turn around, but it didn't, so we made an adjustment halfway through the month. Remember that we’re targeting all of our profits on the first expiration cycle for that calendar.

We’re not looking to hold the long option all the way until December. We’re targeting this first expiration which is November. Halfway through the month, we went ahead and made that adjustment.

Now as you can see, Chipotle continued to rally after that. A couple of days later, it started to rally up to 660. What we did is we came back on 11/12, and we went ahead and did the same thing that we did before, but now we took those 610 puts that we were short, we had sold those for about 223, and those 610 puts now, we bought back for $.36.

The same kind of logic applies here that once Chipotle continues to rally, those short puts had eaten up all of the premia that it had. And had we left that 610 put on, we were only going to make another $36.

What we did is we went ahead and rolled up the 610 puts to 640, the same type of process that we used originally, just staying very systematic and very robotic about how we’re doing these adjustments.

Now, those 640 puts cost 141, so the overall credit that we received after doing this was 105. Now, we’ve reduced our credit one time by 160, so from 470 to 160, and we’ve reduced the cost of this trade down another $1.05. That’s exactly what happened.

With the Analyze tab, what our original position after the first adjustment looked like this. Now, our new position after this last adjustment might look more like this. It’s just a little bit flatter on the topside and a little bit steeper on the backside.

Because remember, Chipotle has gone high this way, so we don’t have too much risk over in this area because Chipotle has got to fall a long way for us to take some risk on this end.

What we’re trying to do is continue to push up this side of our profit loss graph, so that if Chipotle continues to rally, we reduce our loss even more so than it already is.

Now obviously, Chipotle continued to rally through expiration, and we were able to, after all, is said and done, close out of our now diagonal spread on 11/21 which is just this past Friday, closed out of our 11/21 diagonal spread in Chipotle and we sold out of our 580 puts for December.

Remember, these are the ones that we had originally bought for 11/61. They’re now trading at $.70, so they’ve lost a significant amount of their value obviously because Chipotle continued to rally higher.

And our 640 puts that we had sold for $1.41 are now trading for $.5. We made up some of that money in the 640 puts and the continuous rolls that we had on the put side.

Now, we were able to get another credit after selling this back to the market because those 580 puts were worth some money of about $.65. After all, is said and done, we were able to take the 470 cost, reduce it by 159, 105, and 65, and we ended up with a loss of 141.

At the end of the day, we still ended up with a loss of 141, but that's a 70% reduction in our initial possible loss of $470. A huge, huge reduction in how we were doing things because we stayed systematic and mechanical about how we were making adjustments to this put calendar spread.

Hopefully, that was a good example for you guys. This is what I’m trying to do here at Option Alpha. If you like this video, please up it on YouTube or share it on social media, on Facebook, on Twitter.

Help us spread the word about how we’re helping people make smarter trades. But this is a great example of how you can take a trade that goes 100% against you. Chipotle never made a tick in our direction and still reduce your loss.

And to me, that is the essence of trading. As always, if you guys have questions or comments, please add them right below. And until next time, happy trading!

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