Detailed XOP Short Strangle Option Strategy Recap

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Short strangle: We're going to go through all of the trades that we made on Friday, February 19th. So it's Friday. Expiration for February is now coming on, and now we're getting fully into March and then again start building out the portfolio in April. We got a lot of positions on in March. I like kind of where we're sitting right now.

The market ended lower today ... Just a little bit, but it was helpful for the overall portfolio, so I'm glad to see that we're well positioned with all the positions that we do have on heading into March. We just need to start now building out maybe a couple more in March next week and then start building out in April. 

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That's going to be the mission, and again, we'll go over this a little bit more in depth this weekend on the strategy call with elite members. Today it was all about energy, as has been the theme for January and February. Closed out of a couple of energy plays ... Our "OIH STRADDLE" that we had around 23.

This is just one of the OIH STRADDLES that we have. We've got another one around 22, but we closed this one out at the $95 profit target that we had for it. Implied volatility has dropped in OIH. That's why we closed out one of our straddles as the stock went down earlier today. I mean look, you can see here on the chart.

Implied volatility has gone from basically the hundredth percentile down to around the sixtieth. The stock has had very little movement, and that's what's caused such a quick and rapid decay in the value of these options.

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We still have our straddle centered around 22. That gives us a little bit of bearish exposure to oil still which I think is okay. I don't want to be super bullish on oil right now. I'd rather be cautiously bearish. So we're going to hold on to that position, but again we add another position in the energy sector here today we'll talk about.

We also got out of our "XLE STRANGLE." With these strangles, we try to take these off at more than 50% of max profit or around there. We took at $60 quick profit on the XLE STRANGLE and took off the 63 calls and the 47 puts. We've done a good job trading XLE all month ... Have taken some pretty nice gains.

At least with XLE, the same thing kind of prevails. Implied volatility has dropped pretty low. It's down the 58th percentile. The position that we had on ...You started to see some decay in value because of that implied volatility drop. I mean look, there's not much else to say here other than the stock has traded sideways for the past two and half weeks and volatility has dropped.

As that implied volatility drops, again it's like ... I wouldn't say it's like shooting fish in a barrel, but this is when we get our biggest edge. This is when you have to be a little bit more aggressive in taking some of these trades. So hopefully we're trying to show you guys how to do that with real trades.

The next position that we got into today is a strangle in XOP. We stacked on top of our existing strangle in XOP another set of three strangles. We did the 27 calls. We shorted the 27 calls, and we shorted the 19 puts. Again we took a nice $59 credit.

Most of the energy/oil related ETFs right now, XOP and USO seem to have the best-implied volatility, so that's why we went with it versus going back to an XLE or something like that. Just so you guys know, we just went with XOP because it still had really good implied volatility. It's in the 68th percentile end of today.

It's on it's way down, but it's still high, so we wanted to add another position in. It was around 73 today when we entered this position. USO also has some well-implied volatility, starting to see a decay in that, but right now we just wanted to go with XOP to kind of stack that trade on top of our existing one.

Remember, we already have for XOP, or we already did have for XOP ... We had the 33 calls above the market and the 21 puts below the market. Now that the stock is moving down, or up vertically you can see here on the trade pricing grid ... Now that the stock is moving closer to our short strikes on the put side what we want to do is, again, stack another trade right on top.

So right here what we're doing is just resetting another trade with the same probability of success that we had for the original one. Trying to sell each side at about the 15th percent probability of being in the money. We sold the 19 puts. We sold puts just a little bit below where our existing position is, and then we sold calls much closer because the stock has fallen much further than our original position was.

Now we sold calls at the 27 strike. We're still doing the same mechanics of entering the same type of trade, the same probability every time, we've just now spread the entry over different days. The benefit to doing that when we look at the trade tap here is that we get a position that looks more like this.

So here's the ... Let me do this; we did the 19s and the 27s today. Here was our original position. This was before the addition of the spread today, and you'll notice that the stock is trading right about here. Our break-even points on the original strangle are all the way out here.

So you'll notice we're not exactly neutral in the center, meaning we'd love the stock actually to be trading here, around 27.5 for us to be completely neutral in this position. By adding this additional spread on top of where the stock is trading now, now we get the stock here, where it is again. Now we have broken even points here and here.

Do you see how more neutral this position is by adding this additional strangle on top of it? It gives us a lot more balance around XOP, and we're taking advantage of the ability to spread this trade out over multiple days instead of just, you know, throwing 10 or 20 contracts on at a time. We did three. We'll do three here.

We could do three more if we want to in the future. Hopefully, you get an understanding of why we do this because it helps average around where the stock is trading. This is that whole concept of delta neutral, beta neutral trading, and it only really works if you have a lot of these little trades that you can spread out over time.

Add a comment in the comments section tonight for the video if you're watching this. Let me know if you get this concept if it makes sense. We're doing this a lot. We did this with USO. We're doing this right now with GLD and GDX. It's the same basic concept; we're just applying to different markets and securities.

As always, I hope you guys enjoy these videos. If you have any comments or questions, please ask me right below, and 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.