6 New Option Selling Trades

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Option selling: Tonight, I want to go over all of the new opening trades that we had on Tuesday, January 20th to start off the week. Hopefully, everyone had a lovely long holiday weekend. Then we get into the beginning part of the week, and we had quite a lot of trades that we entered today, a lot of new opening orders, no closing or hedge trades today, so all just new opening orders.

But before I go over those, I wanted to bring to your attention that the new current portfolios are going to be updated and available inside of the membership area here every single week. We’re going to try to update it over the weekend, but the latest it’ll be updated is by the morning of Monday, so Monday morning before the week, that will be the latest it’s updated.

But you can see all of our current positions from that week prior and just prepares you to make sure that you’re following all the trades correctly or have all the right positions. All you do is hit “view portfolio, ” and you can see all of the trades that we made in here for that week with positions, some days, whether it's a put spread, credit spread, call spread, iron condor, the whole deal. Everything is in here available for you guys, so it makes it very, very easy.

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Moving onto today's opening orders… And sorry for my voice, I’m still getting over a little bit of a cold from the webinar last night and losing my voice, so I’ll try to make it as brief and as efficient as possible. The opening orders for today, the first one that we did is a vertical credit spread in MS which is Morgan Stanley. Morgan Stanley along with HAL which is Hal already reported earnings and gave us an opportunity to sell some premium after they reported earnings because what we usually see is we often see that implied volatility crush that happens.

But in both of these cases, we didn't see that happen. Now we’re beyond that earnings event; we can take advantage of that by going out to the next month out to March and selling some premium. For Morgan Stanley, we went out to the March contracts, sold the 37/38 call spread for a $.19 credit, so we took in a pretty decent credit on that one. This is what the Morgan Stanley trade tab looks like right now.

Our position right here is at 37 and 38. The likelihood of us losing on this trade is a little less than 25%, so it’s about a 75% chance of success trade. Even though the credit is a little bit small, it is a very high probability of success trade. And when you look at the chart of Morgan Stanley, you can see that the IV percentile here is definitely above that 50th percentile that we’re looking for.

It’s in the 60th percentile which is great. Now, the reason we decided to go a little bit bearish is one, we needed a couple of negative Deltas in our portfolio, so we added them that way, but also, we definitely have a very strong sell signal still showing here on MACD, so we’re going to lean maybe on technical’s just a little bit here as far as directional assumption.

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Another trade that we entered today was a calendar in J&J. Johnson & Johnson also post-earnings announcement, its implied volatility has dropped a little bit below that 50th percentile, so now we can’t do any of those premium selling strategies that we wanted to. But as I had talked about with premium members on the strategy call on Sunday night this week, we needed a couple more calendars in our portfolio, so we wanted to get this one on, it’s the first one that we have right now going for February, March, period which I really like, so we went ahead and did the 97.5 put calendar in J&J for $.59 as far as a debit.

Let me go back. Now remember with these calendar spreads, what you’re doing is you’re selling that front month which is February, the 97.5 put and in March, you’re buying the 97.5 put. It’s a little bit confusing sometimes, but just take your time with the calendars or use one of our video tutorials inside of the membership area to understand it a lot better.

For Johnson & Johnson, when we look at the chart again, implied is volatility very, very small. Well, it was below that 50th percentile, now it’s a little bit above that. It was below that 50th percentile earlier today, but now it’s above it just a little bit. And what we’re doing here is we’re just playing a little bit of downward movement in the stock.

The stock opened up lower on bad earnings and we’re just assuming maybe the stock continues to drift lower as it heads towards February expiration. When we look at the actual profit and loss diagram for J&J, you can see that we’re already in a zone because of our breakevens where we actually can make money. Even though the stock is right about here, we already could make money if the stock just sits here.

We don’t make a lot, but we’ll make a little bit of money. But ideally, what we want is we want the stock to close anywhere between about 101.24 and about 83 or so. As long as it can close somewhere in that range, the best possible area would be 97.5 right at our strikes. You can see that’s the area that we want it to close at, right at 97.5, but it could go as low as 93 or as high as about 101.24.

A good trade, I love the odds on this trade. It’s a much higher probability of success trade because we've got such a wide range here to profit. And you can see we’ve left a lot of room to the downside in case J&J does continue to move lower as it heads into earnings. The other trade that we go into today is a vertical call spread in HAL.

These are very similar, the same thing with SMH. I’m going to go over these quickly, so we have time to talk about the earnings trades that we had. Both of these credit call spreads, both stocks had high implied volatility. They are the same type of setup as the one here with MS. Just take a look at those charts.

But you can see that’s what we’re trying to do, is just add a bunch of premium. And in this case, we wanted to play things a little bit directionally bearish just because we need the negative Deltas in our portfolio. You could easily play this bullish if you think the stocks are going to rally. It doesn't matter as long as you're selling premium and on the right side of volatility.

Now, as we get into the two earnings trades that we had today, these are going to be fascinating. The first one that we got into was Netflix. I’m going to save that until the end because Netflix already announced its earnings, so we’ll have some things we need to discuss Netflix. IBM, we got into a trade, it was late in the day. I know the alert went out late, but that’s when I get them. And when I get them, I send them out.

We tried to get into it earlier in the day, just didn't get filled until right up at the close here. We did do the iron condor in IBM. It’s just a higher-priced security. And usually, when these stocks that we’re trading are in the 100s or 200s or 300s in Netflix’s case, we don't like to do anything with an undefined risk trade because it just takes up so much margin with these higher-priced securities.

We like to do things a little bit wider calendars in some cases, but that’s the way we like to go. In IBM, we did do a calendar, the 165/170 call spread, and the 145/140 put spread. That means that we ideally want IBM to trade between 165 and 145 tomorrow when it opens up post-earnings. Now when we go to the chart here of IBM, you can see the stock has been pretty flat, has high implied volatility which is great, already announced earnings.

And let me just go here, so you guys can see the trade tab. We did decide to go with the weeklies. We always go with the front most weekly contract that has all the volatility built into that contract in the decay. And you can see that the measured move in this particular instance was about $6, so we were looking for a move that was about $6 from where the stock had closed today as far as an expected range. The stock closed at 156.95, so that puts us at about 150 or so on the bottom side and about 163 on the topside.

We went just outside of those ranges. On either end, just gave ourselves a little bit more room. And you can see that the stock already announced earnings after the market closed today and is trading about 154, right in that range, the low 154, so right at near its expected move. And I think it’ll trade lower as it opens tomorrow, this is just after hours trading. But this is what our IBM iron condor looks like. The stock is sitting post earnings right in the middle of our strategy which is perfect, so we should end up taking a pretty decent profit out of this trade going forward.

And then the iron condor in Netflix, it looks like we will have a trade that's going to need some adjusting. We had a quick little run here, and as far as profitable trades, we had a nice little streak going into Netflix, it looks like. We did decide to do the iron condor on Netflix. We did the 390/395 call spread, and the 290/285 put spread. We did a 100 point wide iron condor, and we want it to go far, far out of the expected range.

We took in a pretty decent credit to do it too; it’s about $135. But unfortunately, Netflix made a move that was beyond its expected range and quite a lot beyond its expected range. When you’re in here on the trade tab, what you'll notice is that the expected move for Netflix was about $38 heading into the close, and you can see that the stock closed at about 350 or so, so we’re looking at a move up to maybe 380 or so, 390, in that kind of range.

Well, the stock is moving and trading right now at about 404, so it’s well beyond the expected range which means that this doesn't happen often. In fact, probably 3 out of 10 times, the stock might make a move this high beyond its expected range heading into earnings. This does create a little bit of a challenge for us, but that's okay. This is also a great learning opportunity for everyone.

With Netflix, you can see that the stock is currently trading over here. This is where the stock is trading after hours, about 404. Our iron condor is set up right here. This stock made a huge move against our position. But like our earnings guide shows you, (and you can download that right inside the membership area) the first thing that we’re going to do tomorrow morning is roll this side of the spread out to next month which is February, so we’re going to roll it from the January weeklies out to the February monthly contracts, we will keep the same strike prices, 390/395.

We’ll keep the same strike prices. We will not move these higher. At the same time, we’re going to slide the bottom side of our trade up. We're going to roll up to something very, very close to 390 on the put side. We’re going to roll very, very close to it, take in as much possible premium as we can, and that's going to help reduce our risk heading into next month.

And then at that point, it’s just a waiting game to see if Netflix has a move down lower and gives us an opportunity to take some profit out of here or a scratch. But at least at this point, your first move should be to reduce risk, and that’s always what hedging and adjusting are about. I’m going to walk through just a little bit about how we will go about doing that.

The first thing that we’re going to do is we would close out this position. I’m just going to do it in a couple of different orders so that you guys can see it. But we’re going to buy this trade back, so we’re going to close out this 390/395 call spread, and we would sell out the same 390/395 call spread for February. We would sell it out for February, take in some credit on that sale, and also sell out maybe something like a 385/380 put spread.

We would do that, and then you could see at February expiration which is here once I take all these trades off, our iron condor would look something like this, very narrow at the top and much more defined. The whole goal here is that we’re trying to reduce risk. We’re sliding that one side up, trying to make it as narrow as possible because all we want to do is take in as much extra credit as we can take in because this helps us reduce our risk on the trade.

If we can take in as much possible credit as we can on these rolls, this helps us reduce our risk on the trade as long as we keep the width of the strikes the same and the number of contracts that we’re trading. We’re still going to keep everything 5 hits wide. We’re still going to make only one contract when we do these rolls tomorrow. And this is assuming that Netflix stays up here which it might, but it could come back down in pre-market trading and open up lower, in which case, we try to close it at a profit or a scratch.

An excellent opportunity in Netflix even though the trade has gone against us. We’re going to obviously have trades that don’t go our way. That’s just part of the game. And we want to make sure that we talk through those situations with you guys as our members here on the website. As always, if you guys have any comments or questions, please add them right below. And 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.