No statement in this web site is to be construed as a recommendation by Trading Options For Income to purchase or sell a security, or to provide investment advice. Options involve risk and are not suitable for all investors. Prior to buying or selling an option, a person must receive a copy of Characteristics and Risks of Standardized Options . Copies of this document may be obtained from your broker, from any exchange on which options are traded or by contacting The Options Clearing Corporation, One North Wacker Dr., Suite 500 Chicago, IL 60606 (1-800-678-4667
Madeira Investments LLC
D/B/A Trading Options For Income
8770 Sunset Drive # 201
Miami, Florida 33143
Tel: 786-462-5616
Fax: 305-279-0532
Copyright © 2008 Trading Options For Income. All rights reserved
Madeira Investments LLC
D/B/A Trading Options For Income
8770 Sunset Drive # 201
Miami, Florida 33143
Tel: 786-462-5616
Fax: 305-279-0532
Copyright © 2008 Trading Options For Income. All rights reserved
Our strategies range from bullish and bearish directional strategies such as diagonal and vertical spreads to market neutral strategies such as Iron Condors.
With our newsletter, you have the ability to have our trade ideas sent to your broker for autotrading, an arrangement where you and your advisor allocate funds to our strategy based on criteria set by you and your broker such as maximum individual trade amount, maximum amount of contracts etc. We are proud to submit our trade ideas to, Thinkorswim, Optionsxpress, AOS securities, eOption and Global Autotrading for autotrading purposes. Each of these services have different capabilities so please check with your broker to get more info.
Why Trade Option Spreads?
If we were to reduce the idea of a spread to its most basic or essential characteristic, it would have to be its use of two option contracts, known as the legs of the spread. Using two legs simply means that we are combining, for example, a call option that you buy (sell) with a call option that you sell (buy). Therefore, you are taking both sides of the market in all spreads (buying/selling or selling/buying).
Option spreads have some major advantages over individual strategies. In fact, the full power of options as a trading vehicle doesn't really become known until you develop a good understanding of the workings of spreads. Most importantly, the selling side of option spreads has the greatest potential because you can profit from both time value decay and leverage of holding a long option in, for example, a diagonal spread. Even if using debit spreads, however, there are excellent hidden advantages mostly overlooked by novice traders. Certain debit spreads, for instance, can give you the ability to profit from time value decay (on a short out of the money leg) and potentially gain on the long side (from an in-the-money leg).
The advantage with the in the money debit spread is that you can cover the short option with a long in-the-money option instead of holding the stock itself, which entails much greater risk. And reducing risk is really what spreads are all about.
What we can't do...
We are not financial advisors. We cannot provide any advice as to whether or not options or our trading ideas are a suitable investments for your particular financial situation. We are in the business of publishing our trade ideas and market analysis only. We highly recommend that our subscribers review their trading allocation with a qualified registered financial advisor/planner. Everyone trading or planning to trade options should read the Characteristics and Risks of Standardized Options. A link to this document is posted at the very bottom of this page.
How much does our subscription cost?
No contracts, no long term commitments. You are automatically billed every month and if you decide to cancel your membership, do so prior to your next billing date and you will owe us nothing!
$59.00 per month! Discounts for quarterly, semi-annual and annual subscriptions
With our newsletter, you have the ability to have our trade ideas sent to your broker for autotrading, an arrangement where you and your advisor allocate funds to our strategy based on criteria set by you and your broker such as maximum individual trade amount, maximum amount of contracts etc. We are proud to submit our trade ideas to, Thinkorswim, Optionsxpress, AOS securities, eOption and Global Autotrading for autotrading purposes. Each of these services have different capabilities so please check with your broker to get more info.
Why Trade Option Spreads?
If we were to reduce the idea of a spread to its most basic or essential characteristic, it would have to be its use of two option contracts, known as the legs of the spread. Using two legs simply means that we are combining, for example, a call option that you buy (sell) with a call option that you sell (buy). Therefore, you are taking both sides of the market in all spreads (buying/selling or selling/buying).
Option spreads have some major advantages over individual strategies. In fact, the full power of options as a trading vehicle doesn't really become known until you develop a good understanding of the workings of spreads. Most importantly, the selling side of option spreads has the greatest potential because you can profit from both time value decay and leverage of holding a long option in, for example, a diagonal spread. Even if using debit spreads, however, there are excellent hidden advantages mostly overlooked by novice traders. Certain debit spreads, for instance, can give you the ability to profit from time value decay (on a short out of the money leg) and potentially gain on the long side (from an in-the-money leg).
The advantage with the in the money debit spread is that you can cover the short option with a long in-the-money option instead of holding the stock itself, which entails much greater risk. And reducing risk is really what spreads are all about.
What we can't do...
We are not financial advisors. We cannot provide any advice as to whether or not options or our trading ideas are a suitable investments for your particular financial situation. We are in the business of publishing our trade ideas and market analysis only. We highly recommend that our subscribers review their trading allocation with a qualified registered financial advisor/planner. Everyone trading or planning to trade options should read the Characteristics and Risks of Standardized Options. A link to this document is posted at the very bottom of this page.
How much does our subscription cost?
No contracts, no long term commitments. You are automatically billed every month and if you decide to cancel your membership, do so prior to your next billing date and you will owe us nothing!
$59.00 per month! Discounts for quarterly, semi-annual and annual subscriptions
How Are Options Priced?
A question asked by many novice options traders is: How is an options contract priced? Obviously knowing what the value of what you are buying or selling is crucial to a successful trade. The basic model for options pricing today is the Black-Scholes Model developed in 1973 by Fisher Black, Myron Scholes and Robert Merton. The model is widely used today and is regarded as one of the best ways to determine the “fair” price of an options contract. Click here to read full article
When Delta Neutral Isn't Enough!
We have had several inquiries regarding the concept of Delta Neutral options strategies so I wanted to clarify one important aspect of “neutral” trading” that goes overlooked by many options traders. The recent surge in implied volatility has confirmed that constructing Delta neutral strategies really don’t serve the purpose unless the strategy is Gamma neutral as well. Many traders in strategies such as Iron Condors and other neutral strategies don’t quite understand the fact that a position that may start out as delta neutral can quickly take on directional bias ie: directional risk , with large moves in the value of the underlying security or a spike in implied volatility.
Click here to read full article
Theta...Father Time!
We wrote an article some time last year regarding “Theta” and its impact on our type of strategies. I believe it is worth reviewing again as this important piece of the theoretical options pricing model addresses a very important component in Credit strategies such as Iron Condors and Bull Put/Bear Call spreads. Click here to read full article
Implied Volatility 101
The most misunderstood component of options pricing is implied volatility. Successful options traders understand that implied volatility is the key "ingredient" to making proper trading decisions when buying and selling options and options spreads. Volatility in regards to options is measured two fold. The first and most easily understood is called Historical or Statistical volatility. Statistical volatility simply is the volatility of a financial instrument based on historical returns. Statistical (historical) volatility as the name implies, refers to past actual data.Click here to read full article
Vega, The "Non-Greek" Greek!
Vega is often referred to as the “non-greek” in the options pricing model. Non Greek because Vega is not actually a Greek letter like delta, gamma, theta and rho. In many educational books it is referred to as Kappa instead but for practical purposes and because the trading world refers to it as Vega, we will as well.
Vega represents a measurement of change in options premium relative to a 1% change in implied volatility. As I mentioned before, implied volatility is different from historical or statistical volatility in that it is an indication of a future event which may or may not occur whereas historical volatility is fact. It is important to understand the concept of implied volatility in order to understand vega. Vega takes that subjective “implied” volatility factor and expresses it in real figure that affects the “dollars and cents” of an option. Click here to read full article.
The Fear Indicator...VIX!
The VIX was introduced in 1993 by the Chicago Board Options Exchange (CBOE). The index was originally designed to measure the markets expectation of 30 day volatility of the OEX the S&P 100 index. The index originally measured expectations of implied volatility by evaluating prices on at the money options prices in the OEX and deriving a level of expected volatility. In 2003 the VIX was modified by the CBOE and Goldman Sacks to the broader S&P 500 SPX index. This new formula encompasses a wider range of puts and calls over a wider range of strike prices. The new improved configuration estimates expected 30 day volatility by averaging the weighted prices of near and next term put and call options in the 1st and 2nd contract months. Options used in the calculation must have at least 1 week to expiration and when these near term options reach 1 week to maturity the VIX rolls to the 2nd and 3rd expiration months. Click here to read full article
What Are Delta Neutral Spreads?
Delta neutral refers to a position or portfolio which has an overall Delta value of zero or very close to zero. This means that the portfolio does not react to small changes in price of the underlying assets.
When a position or portfolio is delta neutral, not only does it not react to small changes in the price of the underlying asset, it is also able to profit when the underlying asset breaks out in price, no matter to upside or downside. Yes, profiting both to upside and downside.
Delta neutral is especially useful in options trading when positions are set up to take advantage of time decay. When a position is designed to profit through time decay, it needs to react as little as possible to changes in the underlying asset as possible. In order to do so, a concept known as dynamic hedging is used where the overall delta value of the position is rebalanced whenever it moves out of neutrality.
Delta neutral hedging can be attained using options, futures, stocks or any combination of them. Delta neutral positions are often held by market makers since their main aim is to profit by trading at a spread - rather than earning a return on their position.
A question asked by many novice options traders is: How is an options contract priced? Obviously knowing what the value of what you are buying or selling is crucial to a successful trade. The basic model for options pricing today is the Black-Scholes Model developed in 1973 by Fisher Black, Myron Scholes and Robert Merton. The model is widely used today and is regarded as one of the best ways to determine the “fair” price of an options contract. Click here to read full article
When Delta Neutral Isn't Enough!
We have had several inquiries regarding the concept of Delta Neutral options strategies so I wanted to clarify one important aspect of “neutral” trading” that goes overlooked by many options traders. The recent surge in implied volatility has confirmed that constructing Delta neutral strategies really don’t serve the purpose unless the strategy is Gamma neutral as well. Many traders in strategies such as Iron Condors and other neutral strategies don’t quite understand the fact that a position that may start out as delta neutral can quickly take on directional bias ie: directional risk , with large moves in the value of the underlying security or a spike in implied volatility.
Click here to read full article
Theta...Father Time!
We wrote an article some time last year regarding “Theta” and its impact on our type of strategies. I believe it is worth reviewing again as this important piece of the theoretical options pricing model addresses a very important component in Credit strategies such as Iron Condors and Bull Put/Bear Call spreads. Click here to read full article
Implied Volatility 101
The most misunderstood component of options pricing is implied volatility. Successful options traders understand that implied volatility is the key "ingredient" to making proper trading decisions when buying and selling options and options spreads. Volatility in regards to options is measured two fold. The first and most easily understood is called Historical or Statistical volatility. Statistical volatility simply is the volatility of a financial instrument based on historical returns. Statistical (historical) volatility as the name implies, refers to past actual data.Click here to read full article
Vega, The "Non-Greek" Greek!
Vega is often referred to as the “non-greek” in the options pricing model. Non Greek because Vega is not actually a Greek letter like delta, gamma, theta and rho. In many educational books it is referred to as Kappa instead but for practical purposes and because the trading world refers to it as Vega, we will as well.
Vega represents a measurement of change in options premium relative to a 1% change in implied volatility. As I mentioned before, implied volatility is different from historical or statistical volatility in that it is an indication of a future event which may or may not occur whereas historical volatility is fact. It is important to understand the concept of implied volatility in order to understand vega. Vega takes that subjective “implied” volatility factor and expresses it in real figure that affects the “dollars and cents” of an option. Click here to read full article.
The Fear Indicator...VIX!
The VIX was introduced in 1993 by the Chicago Board Options Exchange (CBOE). The index was originally designed to measure the markets expectation of 30 day volatility of the OEX the S&P 100 index. The index originally measured expectations of implied volatility by evaluating prices on at the money options prices in the OEX and deriving a level of expected volatility. In 2003 the VIX was modified by the CBOE and Goldman Sacks to the broader S&P 500 SPX index. This new formula encompasses a wider range of puts and calls over a wider range of strike prices. The new improved configuration estimates expected 30 day volatility by averaging the weighted prices of near and next term put and call options in the 1st and 2nd contract months. Options used in the calculation must have at least 1 week to expiration and when these near term options reach 1 week to maturity the VIX rolls to the 2nd and 3rd expiration months. Click here to read full article
What Are Delta Neutral Spreads?
Delta neutral refers to a position or portfolio which has an overall Delta value of zero or very close to zero. This means that the portfolio does not react to small changes in price of the underlying assets.
When a position or portfolio is delta neutral, not only does it not react to small changes in the price of the underlying asset, it is also able to profit when the underlying asset breaks out in price, no matter to upside or downside. Yes, profiting both to upside and downside.
Delta neutral is especially useful in options trading when positions are set up to take advantage of time decay. When a position is designed to profit through time decay, it needs to react as little as possible to changes in the underlying asset as possible. In order to do so, a concept known as dynamic hedging is used where the overall delta value of the position is rebalanced whenever it moves out of neutrality.
Delta neutral hedging can be attained using options, futures, stocks or any combination of them. Delta neutral positions are often held by market makers since their main aim is to profit by trading at a spread - rather than earning a return on their position.
"Trading Puts and Calls" is our sister newsletter dedicated to directional trading using in the money puts and calls. No spreads just individual options using our directional analysis on index ETFs!
Our Autotrade Partners!
What Are Vertical Spreads?
Vertical spreads, a strategy done with either calls or puts, involve buying one option and selling another option of the same type and expiration, but a different strike.
A "bull call" spread, for example, entails buying one call and selling a higher-strike, lower-priced call to offset some of the premium cost. This type of spread would be done for a debit. A "bear call" spread would entail selling the lower-strike call and buying a higher-strike call to hedge the risk. This would produce a credit in your account; cash will be held as a margin for the position.
Debit vertical spreads (bull call and "bear put" spreads) profit from a directional move. The position will succeed if the stock has moved past the bought strike plus the debit paid. For a full profit, the underlying needs to move beyond the sold strike by expiration.
Credit vertical spreads involving calls will make a full profit if the underlying is below the sold strike at expiration. The break-even is the strike plus the credit. Credit spreads using puts will profit if the underlying stays above the strike sold minus the credit.
Vertical spreads lose if the underlying moves in the wrong direction. The maximum loss for debit spreads is the debit paid. The maximum loss for credit spreads is the difference between the two strikes used minus the credit. This is also the amount of margin held by your broker.
Debit vertical spreads are used to offset the premium cost of the purchased option, especially when implied volatilities are high. This increases the probability of profit for the trade, but does limit the potential gains. Credit spreads are used when one wants to be a net seller of options, but wants to hedge the risk. Option selling can have a very high probability of profit, but also the potential for large losses, and using a credit spread limits that exposure.
What Are Diagonal Spreads?
You create a diagonal spread when you buy and write options (calls or puts, but not both in the same spread) on the same stock with different strike prices and different expirations
a diagonal spread usually involves the purchase of a longer-term call (or put) and the sale of a shorter-term call (or put) with a different strike. Because the deltas of these options with different strikes are usually not the same, these diagonal spreads have some sensitivity to the underlying stock as with standard one-to-one bull and bear spreads. Also, as with so-called long calendar spreads, these diagonal spreads tend to have a net time decay that is in the investor's favor. This is because a shorter-term option is likely to lose time value faster than a longer-term one, if the stock stands still.
diagonal spreads can offer a very attractive return on capital with only limited risk. As long as the option purchased expires later than the one written, the margin requirements on diagonal spreads are the same as for one-to-one bull and bear spreads. That is: if you buy the more in-the-money call (or put) and sell the more out-of-the-money call (or put), you do not need to post a margin since the net premium you paid represents your maximum loss. Alternatively, if you buy the lower premium out-of-the-money call (or put) and sell the higher premium in-the-money call (or put), you are required to post a margin equal to your maximum possible loss. This amount is the difference between the two strike prices times the number of underlying shares.
What Are Horizontal Spreads?
Horizontal Spreads, also known as Time Spreads or Calendar Spreads , are options spreads made up of options of the same underlying, same type, same strike price but different expiration months. Horizontal Spreads are named Horizontal Spreads because the options that are involved in a Horizontal spread are lined up horizontally on an options chain.
A horizontal spread is a bet that futures prices will trade in a very tight range over some time period. Profitability is based on the speed at which the time value of options deteriorates. The time value of an option close to maturity always deteriorates faster than the time value of options further to expiration, assuming all else equal. While we do not observe time value directly (it is the difference between the option’s premium and the intrinsic value), the time value has been found to be proportionate to the time to maturity.
Vertical spreads, a strategy done with either calls or puts, involve buying one option and selling another option of the same type and expiration, but a different strike.
A "bull call" spread, for example, entails buying one call and selling a higher-strike, lower-priced call to offset some of the premium cost. This type of spread would be done for a debit. A "bear call" spread would entail selling the lower-strike call and buying a higher-strike call to hedge the risk. This would produce a credit in your account; cash will be held as a margin for the position.
Debit vertical spreads (bull call and "bear put" spreads) profit from a directional move. The position will succeed if the stock has moved past the bought strike plus the debit paid. For a full profit, the underlying needs to move beyond the sold strike by expiration.
Credit vertical spreads involving calls will make a full profit if the underlying is below the sold strike at expiration. The break-even is the strike plus the credit. Credit spreads using puts will profit if the underlying stays above the strike sold minus the credit.
Vertical spreads lose if the underlying moves in the wrong direction. The maximum loss for debit spreads is the debit paid. The maximum loss for credit spreads is the difference between the two strikes used minus the credit. This is also the amount of margin held by your broker.
Debit vertical spreads are used to offset the premium cost of the purchased option, especially when implied volatilities are high. This increases the probability of profit for the trade, but does limit the potential gains. Credit spreads are used when one wants to be a net seller of options, but wants to hedge the risk. Option selling can have a very high probability of profit, but also the potential for large losses, and using a credit spread limits that exposure.
What Are Diagonal Spreads?
You create a diagonal spread when you buy and write options (calls or puts, but not both in the same spread) on the same stock with different strike prices and different expirations
a diagonal spread usually involves the purchase of a longer-term call (or put) and the sale of a shorter-term call (or put) with a different strike. Because the deltas of these options with different strikes are usually not the same, these diagonal spreads have some sensitivity to the underlying stock as with standard one-to-one bull and bear spreads. Also, as with so-called long calendar spreads, these diagonal spreads tend to have a net time decay that is in the investor's favor. This is because a shorter-term option is likely to lose time value faster than a longer-term one, if the stock stands still.
diagonal spreads can offer a very attractive return on capital with only limited risk. As long as the option purchased expires later than the one written, the margin requirements on diagonal spreads are the same as for one-to-one bull and bear spreads. That is: if you buy the more in-the-money call (or put) and sell the more out-of-the-money call (or put), you do not need to post a margin since the net premium you paid represents your maximum loss. Alternatively, if you buy the lower premium out-of-the-money call (or put) and sell the higher premium in-the-money call (or put), you are required to post a margin equal to your maximum possible loss. This amount is the difference between the two strike prices times the number of underlying shares.
What Are Horizontal Spreads?
Horizontal Spreads, also known as Time Spreads or Calendar Spreads , are options spreads made up of options of the same underlying, same type, same strike price but different expiration months. Horizontal Spreads are named Horizontal Spreads because the options that are involved in a Horizontal spread are lined up horizontally on an options chain.
A horizontal spread is a bet that futures prices will trade in a very tight range over some time period. Profitability is based on the speed at which the time value of options deteriorates. The time value of an option close to maturity always deteriorates faster than the time value of options further to expiration, assuming all else equal. While we do not observe time value directly (it is the difference between the option’s premium and the intrinsic value), the time value has been found to be proportionate to the time to maturity.
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Trading Options For Income is a subscription based options trading and market newsletter. We analyze and publish spread trading ideas using Index ETF options such as DIA, SPY, GLD, USO and IWM.
Trading Options For Income is a subscription based options trading and market newsletter. We analyze and publish spread trading ideas using Index ETF options such as DIA, SPY, GLD, USO and IWM.
Market Wrap Up And Week Ahead 2/6/2010
C.J. Mendes
The market ended the 4th losing week in a row something we have not seen for some time. The last four week consecutive drop came while we were making our way to the March lows of 2009. The trading actions was fast and furious with volume picking quite substantially to the downside.
The earnings and economic news were mostly mixed for the week with better than expected job loss numbers reported on Friday and better ISM service and manufacturing numbers. Cisco, the tech giant, reported much better than anticipated numbers and John Chambers, Cisco's CEO, commented on what he perceives to be a much better than expected rebound.
Even so, the market had a one track mind and that is to focus on the credit problems in Europe. Portugal, Greece and Spain all made headlines during the week with Portugal suffering through a failed auction of its short term bonds. The concerns about a credit meltdown in Europe has driven the Euro currency down substantially against the dollar and this has caused a spike in the value of the greenback which in this recovery has meant weaker equities and commodity prices.
The ECB will, in my opinion, not allow the Euro to collapse and will step in with measures to stop the bleeding. The European Union will not allow this crisis of its weaker members to take down the rest of the European Union. The IMF is also at play here and they may very well step in with a targetted approach to deal with the issues of nations such as Portugal and Spain. Because of this, I have said I believe this recent "dollar strength" will prove short lived and we will soon give back most of these recent gains.
If my thesis is correct, the resumption of the weak dollar trade will return at least until the Fed begins to signal that it is about to start a tightning cycle which I believe is still some time away possibly as late as late 2010 or early 2011. That should give way to real sustainable strengthning of the dollar and add pressure to equities and commodities.
This does not mean that I am expecting a major rally from these levels to new highs but I do expect us to hold our heads above 1000 on the S&P 500 for the near future. The scenario of a range bound market for the remainder of 2010 is still very much my forecast with the S&P 500 trading between roughly 1000 and 1160.
The focus next week will continue to be the situation in Europe. All eyes will be on the ECB and in particular Jean-Claude Trichet, the head of the European Central Bank, for signs of any actions to stem the crisis. I am expecting a brief oversold rally will eventually give way to more downside. Eventually taking the market to test support at 1035 and then 1000, which is a very important psychological level. I believe that is when we will see some sustained buying from institutions.
C.J. Mendes
The market ended the 4th losing week in a row something we have not seen for some time. The last four week consecutive drop came while we were making our way to the March lows of 2009. The trading actions was fast and furious with volume picking quite substantially to the downside.
The earnings and economic news were mostly mixed for the week with better than expected job loss numbers reported on Friday and better ISM service and manufacturing numbers. Cisco, the tech giant, reported much better than anticipated numbers and John Chambers, Cisco's CEO, commented on what he perceives to be a much better than expected rebound.
Even so, the market had a one track mind and that is to focus on the credit problems in Europe. Portugal, Greece and Spain all made headlines during the week with Portugal suffering through a failed auction of its short term bonds. The concerns about a credit meltdown in Europe has driven the Euro currency down substantially against the dollar and this has caused a spike in the value of the greenback which in this recovery has meant weaker equities and commodity prices.
The ECB will, in my opinion, not allow the Euro to collapse and will step in with measures to stop the bleeding. The European Union will not allow this crisis of its weaker members to take down the rest of the European Union. The IMF is also at play here and they may very well step in with a targetted approach to deal with the issues of nations such as Portugal and Spain. Because of this, I have said I believe this recent "dollar strength" will prove short lived and we will soon give back most of these recent gains.
If my thesis is correct, the resumption of the weak dollar trade will return at least until the Fed begins to signal that it is about to start a tightning cycle which I believe is still some time away possibly as late as late 2010 or early 2011. That should give way to real sustainable strengthning of the dollar and add pressure to equities and commodities.
This does not mean that I am expecting a major rally from these levels to new highs but I do expect us to hold our heads above 1000 on the S&P 500 for the near future. The scenario of a range bound market for the remainder of 2010 is still very much my forecast with the S&P 500 trading between roughly 1000 and 1160.
The focus next week will continue to be the situation in Europe. All eyes will be on the ECB and in particular Jean-Claude Trichet, the head of the European Central Bank, for signs of any actions to stem the crisis. I am expecting a brief oversold rally will eventually give way to more downside. Eventually taking the market to test support at 1035 and then 1000, which is a very important psychological level. I believe that is when we will see some sustained buying from institutions.
