On Monday, Paul had a good exchange with a Twitter follower about structures for trading upside moves, particularly in $SPX. Paul mentioned both Broken Wing Condors and the RS+. These structures work to the downside and the upside, but they are particularly effective on those grinding moves to the upside.
The RS+ is Paul’s brainchild and something of a house special around here, so let’s take a closer look at the RS+ that Paul was showing in the DM above. As shown in the DM, on Monday $SPX was sitting around 4100 (the max profit zone of the RS+) and the position had built a nice profit of a few hundred dollars.
By Friday, $SPX had moved up to almost 4160. Price had now overshot the max profit zone of the RS+, but the position was still bullish and had roughly doubled in value to about $1,600. But just as importantly, you can see that this position is still very stable. Delta is virtually flat and gamma is a tiny -0.08. That’s the technical way of saying that the T+0 line is basically flat at the current mark price with a very gentle slope in either direction. That’s the ideal scenario as this position approaches expiry. The position has very little directional risk, and theta is accelerating dramatically (currently 239).
You have some long vega exposure but because, for reasons we can explore in a different post, the vega behavior of an RS+ is much milder than in a pure time spread–and potentially even more so in an RS+ like this one that is both unbalanced and broken-wing. (If you don’t understand why that would be, drop a comment below and we can discuss.)
Importantly, there is also a lot of theoretical value remaining in this position, which when viewed together with my T+0 line means that the risk-reward ratio for this position remains strong. If I think price is like to hang around between 4070-4170 for a few more days, this position is worth holding onto.
But that doesn’t mean we should hold onto the whole thing. When analyzing the risk-reward of an open position, we need to consider not only the overall position but also its component parts. This RS+ contains a 4050/4100 call vertical that expires in a week. That 50-point spread is made up of a bunch of smaller spreads, and the ones closes to that 4050 long call have already accrued most of their theoretical max profit.
In fact, we can see below that the 4050/4070 vertical was selling for $17.05. That’s 85% of its max value ($20)! Unless you’re very confident that $SPX is going to hold above 4100 — and even if you are — risking 85% of max profit in order to squeeze out an extra 15% usually isn’t a great idea.
Great, now you’ve booked some profit. But the result is that your T+0 line, which had been ever-so-gently bullish, is now ever-so-gently bearish and your upside profit at expiration is now substantially reduced. Fine if you’re expecting a retracement. But what if all your analysis is saying this market is powering higher?
So, if you’re bullish, what to do? Why not add another RS+ a little further down the chain?! The one below is available for just $17.65. In other words, you can create this new position by simply recycling the risk that you pulled out of the position with the roll that we just looked at. Nice! You now have positive delta, big theta, and two big tents in your profit zone.
If your really bullish — and your trading plan allows you to put a little more risk on the table — you could consider a second RS+ like this one. I’m not going to compare and contrast these in detail. Open up the images yourself, look at the greeks and the risk profiles, and see if you can think of reasons why you might prefer one or the other.
One last point. Step back and take a big-picture look at these last two positions. Look how gentle the T+0 lines are, how positive theta is, and how massive the profit zones are at expiration. All built by adding little-or-no extra risk to the trade. This is the kind of position that we try to build every day. Positions that are easy to manage, that let you sleep at night, but that offer the potential — when everything lines up — for outsized profits. That’s the key to sustainable options trading.
Update from Paul: Great post by Travis highlighting the benefits of the Call RS+ position! I just wanted to add what I would consider doing if SPX had a strong bearish chart reversal and I felt like I needed to get short Deltas to benefit from a drop in price. I wouldn’t exit the adjusted bullish RS+ as shown with the first two trades in the risk profile below. Instead of exiting that position I’d add a third trade to the position to make it reasonably strong bearish position. This position would be profitable over a range of 300+ SPX points by this week’s expiry. The Theta would be close to $500/day on an adjusted cost basis of about $1,000. Pretty good return on capital even if SPX doesn’t move at all. As Travis mentioned, if you have questions or comments post them here or on twitter.
Aloha Travis
Thank you for this post.
My first impressions while trying to understand both the initial position and the adjustments thereafter is one of confusion and overwhelm, especially adding second and third elements to the trade!
I think much of this is due to the novelty of these types of approaches. Protecting gains and the low risk gradual nature of this style resonates with my very much so i’d love to be able to grasp this and start using them on my own.
In order for this to occur an through understanding up each step (the smaller spreads) is essential.
Some questions:
*setting up (huge amounts of) daily positive theta along with fairly flat delta while even being able to skew the position to benefit from direction moved has been a goal of mine for so long. After all, the only guarantee i see in trading is that time passes!!
I am so grateful we found each other and intend on learning all of this and as much as i can from you guys!
Some other specif questions:
*What is T+0 line?
*Would you explain what it mean to be ‘both unbalanced and broken-wing’?
recycle risk?
*How can multi expiration positions be setup without adding extra risk/margin requirement? How does this help to spread the risk out?
*Overall i feel overwhelmed and lost so if you are able to dissect and help me understand from the ground up, it would be so helpfulI.
In meantime, ill be looking over other RS+ posts and trying to understand as much as i can
Hi, Bodhi. Thanks for reading and for the questions. Here are some answers and general thoughts that I hope will be helpful to you. Happy to discuss further with you, if I can be helpful.
1. The T+0 Line is the line on a risk graph that shows your real-time profit/loss, as opposed to the profit/loss at expiration. On the TOS screenshots in this post, the T+0 Line is purple; p/l at expiration is blue.
2. “Unbalanced” and “Broken-Wing” are two different ways to modify an option spread, particularly butterflies and condors. A standard butterfly or condor is symmetrical”. It has a debit spread on one side and a credit spread on the other side, both of which are the same width and contain the same number of options. To “unbalance” that spread, you would add extra debit spreads or extra credit spreads. To “break the wing,” you would make either the debit spread or the credit spread wider than the other. There are many nuances to why and how you would want to do this, but that’s the general idea.
3. “Recycling Risk” refers to systematically removing risk from a trade and then putting that same risk back into the trade in order to take advantage of the next expected move. Most of our trades are opened for a debit. And, in most of those trades, the debit paid is the max risk of the position. We refer to that debit as “original risk.” Once a position starts working, it is often possible to hedge the position using adjustments that collect a credit. That credit offsets the debit you paid to open the trade, reducing your “original risk.” As you reduce original risk, you can use that risk capital to buy new positions without risking more than your original debit.
4. “Multi-Expiry Positions.” When you recycle risk and start adding new positions, you can add the new position in the same expiry as your original position, or you can put it in a different expiry. Which expiry you choose will depend on your expectations for the underlying, but the general idea is that spreading your positions across expiries is another way to hedge risk. Let’s say your first position is very short-dated. If the stock doesn’t move as you expected, that position might get crushed. If your second position is in the same expiry, it’s going to get crushed, too. But if you put it further out in time, for example, then it won’t suffer as badly as the first position and may ultimately even make a profit. This diversification reduces the volatility of your intraday p/l.
I hope those responses to your questions are helpful. I don’t know where you are in your trading journey, but let me add a few more thoughts that may or may not be relevant to you. The RS+ is an advanced spread. Studying it can teach you a lot, but I’d suggest first studying verticals, calendars, diagonals, butterflies, and ratio spreads. All of those are contained inside an RS+ and it’s hard to really understand what an RS+ is doing if you don’t have a pretty firm grasp of those component parts.