How to Ensure Success With Options Calendar Spread
Make sure you have software to plot your risk graph., Your break even points range is at least 10% of stock price., Max Profit to Max Risk ratio is at least 100%., Probability of Winning is at least 60%., Avoid trading through earnings date., Avoid...
Step-by-Step Guide
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Step 1: Make sure you have software to plot your risk graph.
When trading straight calls or puts or vertical spreads (all legs on the same month), it is relatively easy to work out the max risk, max profit and break even point to draw risk graph.
However, calendar is a horizontal spread that makes up of two different option months.
That makes it almost impossible to manually and accurately plot your risk graph.
So, you need software to do this.
Utilize your free broker tools or sign up for a paid program.
It does far more than just plotting risk graph such as modeling the implied volatility of the stock.
This analyzes if you should trade this stock or not. 20% of the last year low in IV is the best. -
Step 2: Your break even points range is at least 10% of stock price.
This spread trades on stocks that move between an obvious support & resistance.
It is recommended that you structure your risk graph so that your 2 break even points cover the range of stock’s movement.
The best distance between these two points is 10% of stock price.
For example, if stock prices at $30, your upside point should be $31.5 and downside point is $28.5.
The wider, the merrier.
It will increase your chance of winning.
Also, when trading calendar you would want your stock to move less.
Statistics say that stocks under $50 move a lot less than those above $50. , Max Profit in this spread is the pointy head in the risk graph and your max risk is what you invest in the trade.
This is a very low risk trade so u would want at least 100% potential profit to make your time and commission worth it. 120% or more in potential profit is the best. , Different traders will have different number to identify their worth-the-time trades.
This author's probability for calendar is 60% to make it worth trading.
The higher is the better. 80% is the best. , Earning potentially causes the stock to jump in either direction and out of your trading range.
If you don’t really care or think this is a minor problem, do a research on the stock and see if it has historical record of jumping on earning. , This author traded once thru dividend date.
The risk graph completely crushed and collapsed.
The author lost a bit more than 50% of the trade before he/she was taken out by the pre-plan exit order. , Pre-planning your exits, as you know, is the most important part of your trading.
For calendar spreads, you have 4 exit targets: 100% profit, 50% loss, upside break even and downside break even.
You can do this easily by setting up an OCO order that contains 4 orders that aim at those 4 targets above. 100% profit and 50% use limit order.
The other two utilize market order. , Generally, you should trade put calendar.
This is because most of the time it is cheaper than calls.
Also, in case of an exercise, a call option will force you to short stock.
This can be harmful if the stock pay dividends on the day you get exercise, you will have to pay dividend to the owner of the share you short. , Back-To-Back means selling a nearest month option and buying the month right after that.
When trading this spread, you would expect the stock not to move.
And if it does, you would hurt so much.
The way to do this is make it gamma neutral or as close to zero as possible. -
Step 3: Max Profit to Max Risk ratio is at least 100%.
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Step 4: Probability of Winning is at least 60%.
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Step 5: Avoid trading through earnings date.
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Step 6: Avoid trading through a dividends date.
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Step 7: Pre-set your exits at the two break even points.
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Step 8: Trade with Puts.
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Step 9: Trade Back-To-Back Spreads.
Detailed Guide
When trading straight calls or puts or vertical spreads (all legs on the same month), it is relatively easy to work out the max risk, max profit and break even point to draw risk graph.
However, calendar is a horizontal spread that makes up of two different option months.
That makes it almost impossible to manually and accurately plot your risk graph.
So, you need software to do this.
Utilize your free broker tools or sign up for a paid program.
It does far more than just plotting risk graph such as modeling the implied volatility of the stock.
This analyzes if you should trade this stock or not. 20% of the last year low in IV is the best.
This spread trades on stocks that move between an obvious support & resistance.
It is recommended that you structure your risk graph so that your 2 break even points cover the range of stock’s movement.
The best distance between these two points is 10% of stock price.
For example, if stock prices at $30, your upside point should be $31.5 and downside point is $28.5.
The wider, the merrier.
It will increase your chance of winning.
Also, when trading calendar you would want your stock to move less.
Statistics say that stocks under $50 move a lot less than those above $50. , Max Profit in this spread is the pointy head in the risk graph and your max risk is what you invest in the trade.
This is a very low risk trade so u would want at least 100% potential profit to make your time and commission worth it. 120% or more in potential profit is the best. , Different traders will have different number to identify their worth-the-time trades.
This author's probability for calendar is 60% to make it worth trading.
The higher is the better. 80% is the best. , Earning potentially causes the stock to jump in either direction and out of your trading range.
If you don’t really care or think this is a minor problem, do a research on the stock and see if it has historical record of jumping on earning. , This author traded once thru dividend date.
The risk graph completely crushed and collapsed.
The author lost a bit more than 50% of the trade before he/she was taken out by the pre-plan exit order. , Pre-planning your exits, as you know, is the most important part of your trading.
For calendar spreads, you have 4 exit targets: 100% profit, 50% loss, upside break even and downside break even.
You can do this easily by setting up an OCO order that contains 4 orders that aim at those 4 targets above. 100% profit and 50% use limit order.
The other two utilize market order. , Generally, you should trade put calendar.
This is because most of the time it is cheaper than calls.
Also, in case of an exercise, a call option will force you to short stock.
This can be harmful if the stock pay dividends on the day you get exercise, you will have to pay dividend to the owner of the share you short. , Back-To-Back means selling a nearest month option and buying the month right after that.
When trading this spread, you would expect the stock not to move.
And if it does, you would hurt so much.
The way to do this is make it gamma neutral or as close to zero as possible.
About the Author
Carol Kelly
Dedicated to helping readers learn new skills in practical skills and beyond.
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