Trade long enough and save enough money and eventually you'll need to make a couple small tweaks to your options strategy as you start managing larger trading accounts. Today's show is all about transitioning your options strategy in a way that optimizes the increased capital you have to invest. If you're not yet at the "large account" level we talk about, don't worry. One, you'll get there over time if you stay committed. Two, the concepts are important for all traders to understand so that you can start planning ahead as your account grows and as you add more funds in the future.
Key Points from Today's Show:
- When you move past $500,000, you can start to consider yourself a large account trader.
- Once you start crossing multiple hundreds of thousands of dollars, begin looking at transitioning to higher-end strategies.
- However, having more money in your account does not mean you have a bigger chance of success.
- Your ability to generate positive expected returns and consistent cash flow in your account has nothing to do with account size.
- Although having a larger account makes it easier to get into more trades, it also makes it harder to allocate everything.
- Filling the buckets becomes exceptionally hard the more money that you trade.
- Although you are limited with a small account, anything you do in a small account can move the needle.
- As you start trading a larger account, filling the bucket becomes harder — you have to allocate a lot more money to make sure that you keep up with the returns and profit you want to draw from your account.
1. Incorporate Higher Value Products
- As you transition to a larger trading account, move towards larger products in general.
- Start transitioning to larger index products such as SPX, RUT, and NDX, and higher value/price point stocks such as Google, Apple, and Tesla.
- With higher price point stocks you don't have to sell as many contracts to get enough premium and allocate your funds quickly.
Example 1: Google is at $1,170, but since it is such an expensive stock that means that a single options contract in Google could be $2,000 or $3,000. This is good because then you don't have to get 15 or 20 contracts of something else for what you could get in one single position in Google. This means that in some cases you have to specialize a bit more, focusing more of your portfolio on these bigger products.
Example 2: USO is a large ETF, with a low price point ($12 security). There is just not that much pricing in there, so the at the money straddle in USO right now is only $70. So if you're trading half a million or over a million dollars, trading USO should probably not be on your watchlist.
2. Gravitate Towards Undefined Risk Spreads
- Undefined risk spreads include straddles and strangles — iron butterflies, iron condors.
- With much more capital at your disposal, you want to trade those higher premium positions.
- This strategy may introduce more volatility, but that doesn't necessarily mean it's a bad thing.
- If you are trading in an IRA or Roth IRA or SEP IRA and you have a larger account balance, you want to make the spreads as wide as possible.
- Go as wide as you can so you buy inexpensive options on the further end of the spectrum.
Example: If $10 out is the limit, and at $10 out the option contracts are $2 or $3 a piece, that's where you stop. Don't go to $20 out just because you want to make it wide — go as wide as possible, within reason. Be logical about the trade, pay an okay premium for your long strikes, but try to mimic straddles and strangles synthetically as much as possible. This is especially important in a margin or portfolio margin account, you want to be trading straddles and strangles as much as you possibly can.
*Keep at least 50% of your account in cash to withstand any margin pushback you may get.
3. Fill In Your Gaps
- Fill in the gaps with a lot of high IV ETF's and uncorrelated underlyings.
- In larger trading accounts you have core strategies surrounding the larger products.
- With more capital at your disposal, you can now fill in the gaps in your portfolio with other ETFs.
- You may not trade as much in those ETFs as you would in the core grouping of positions, but it can give you more diversity in your exposure.
- This will smooth out your returns with a lot of uncorrelated underlyings, filling in the gaps.
Example: You trade 100 contracts of SPX (core positions) to match your larger account size. Then you trade 20 contracts of both FXE and XLE, spreading out the rest of your portfolio in smaller positions in these other ETFs. These help your portfolio to withstands the general ups and downs of the market. The ETFs you trade can vary from month to month.
*Look for those low hanging fruit opportunities to grab high IV ETFs or any other uncorrelated underlying or stock to fill in your gaps.
4. Trade More Synthetic Covered Call Positions
- If you find that you have a lot of capital available and you cannot get it all allocated every month, do more synthetic covered call positions.
- Synthetic: you can replicate a stock position with much less capital and much less risk using options.
- Look at trades you truly want to hold long-term — big industry ETFs that have really been beaten down — and do synthetic covered calls against them.
- This includes leap options on the call side to replicate stock, and selling front month call options against it to give you a synthetic covered call position.
- The strategy allows you to allocate more of your capital and reduce cost base at the same time.