This Week’s Trade

This SPX chart reflects my current analysis of the daily time frame. The 8 SMA bands are still upsloping which represents a price uptrend although good location for a new long is currently down around 4050. That’s well below Friday’s closing price of 4105 but I’m not basing my current trade on the rising lower band. The analysis that led me to adding a new long (bullish) position is based on the candles themselves. See the comments on the chart below.

Below is the risk profile of my current position. It’s composed of a Call Calendar and a short Call Diagonal spread. A short Diagonal spread can be initiated for either a debit or a credit depending on the distance between the long and short strikes. In a short Call Diagonal spread, the further the long strike is above the short strike the less the spread costs. Typically, if the long strike is 1 or 2 strikes above the short strike, the trade can be initiated for a small debit. As the long Call strike is moved further above the short Call strike it’s often possible to generate a credit for the trade. The short Diagonal spread comes with an additional ‘cost‘ however. The cost is initially in buying power or the margin requirement for the trade but that can turn into a ‘real‘ loss later on in the trade. The margin requirement amount is the potential risk of the trade if price moves well above the short Call strike prior to expiry. That is why I seldom use this strategy for other than OTM positions. I want there to be room for price to move higher without pressuring the current profit/loss line. The visual representation of that is in the slightly rising current profit/loss (purple line) in the risk profile below. In this position, the Calendar spread was bought for $1.72 debit and the Call Diagonal was bought for $.08 debit. Total debit paid for the combined position was $1.80 debit or $3,600. The margin requirement for the short Call Diagonal spread was $20,000 which is due to being short a 20-lot of $10-wide Diagonals.

This position is a kind of neutral/bullish position. It’s a bullish position because the maximum profit occurs (as in all spreads) if SPX is at the short strike at expiry and that’s almost 100 points higher than current SPX price. It’s somewhat of a neutral position in that the position will benefit from a slow and steady move higher through the week. A big advance on Monday or Tuesday could cause a current loss and increases the possibility of price moving above 4200 prior to expiry.

Below is the actual trade transaction. It was done as a single order so that I could get the fairest order fill possible.

IF SPX is at 4200 at Friday’s Apr14 close then the 4200 Calls with Apr14 expiry will expire worthless. Since the position I own is a time spread I’ll have to either close those short Calls on Apr14 or roll them into a Vertical spread with the Apr17 expiry. Either way I can’t just let the Apr14 SPX 4200 Calls expire because then I would just own a 40-lot of Apr17 long Calls with no hedge. If SPX opened much lower on Monday I could lose much or all of my profit from those! I’ll need to close Apr14 short Calls for a low price (likely $.25 or perhaps more) but definitely not $0. IF SPX is at 4200 at Friday’s Apr14 close then the 4200 Calls with Apr17 expiry will likely be worth around $15 and the 4210 Calls with Apr 17 expiry will likely be worth around $10. So, for a trade that cost $3,600 it could potentially be worth around $50,000 at the Apr14 expiry if SPX is near 4200. Below is the option chain from about 1 month ago (Friday, 3/3/2023) to get an idea on how much the ATM (at-the-money) and $10 OTM (out-of-the-money) Calls were worth with 3 DTE (days to expiry). That will simulate approximately how much the Apr17 SPX 4200 and 4210 Calls will be worth IF SPX is at 4200 at Friday’s, Apr14, close.

Everything in the post above this paragraph can be the entire trade. Nothing more needs to be added. If SPX moves higher, even if it falls short of 4200 I’ll likely have at least a breakeven trade and potentially much better than that. If SPX instead moves lower and I make no adjustment I’ll have a loss. Because this is a short term trade and I held it over the weekend, I could potentially lose the entire amount of $3,600 so that amount is essentially my stop loss on the trade. That’s ok, because $3,600 is less than the max loss I’m willing to take on any single trade! This is the reason why I look for high reward/risk trades. I can risk a relatively small amount to make a relatively large amount.

I’m reserving the space below for any 0DTE (zero DTE) trades that I may make during the coming week to add long or short Deltas to this position. In other words, any 0DTE trades will be made with the goal of enhancing this current position. If I see a setup during the week where I expect SPX to move lower I may, for instance, sell a Call Vertical credit spread with 0DTE to reduce Deltas and add Theta. Since the position is already long Deltas I won’t need to make an adjustment to add Deltas unless SPX is strongly moving up and I think I need to protect for SPX above 4200. I’ll tweet it if I make any updates to the position.

This week’s 0DTE trades: Coming soon!

As per usual, I realize after I’ve published a post that my content on that post could benefit from some additional commentary to help clarify things. In the discussion of buying power reduction and margin requirement I didn’t offer much in the way of potential solutions to that potential problem. If I wanted to reduce that upside risk there are several ways I could accomplish that. Below is a few risk profile showing different ways to reduce that risk.

First is my original position showing the $20,000 in margin requirement.

I could reduce that margin requirement by half if I rolled down the long strike in the back expiry of the spread. That solves some of the margin requirement issue but, in most cases, it’ll likely be money paid out for ‘insurance‘ that I won’t collect on. Isn’t there a way to increase the likelihood that I’ll get some money back on that insurance?

Below is the risk profile showing that margin requirement reduction coming from a nearer to ATM adjustment that is more likely to pay off.

Finally, I can locate that ‘insurance’ policy anywhere I want to! I can place it much closer to ATM to further increase the likelihood of getting a return on that investment. Of course, the closer to ATM it is, the more expensive it is so it’s up to each individual trader to balance the reward/risk of that adjustment. And, oh by the way, those adjustments can be made in either of the 2 expirations. Do whatever works best for you. Hope this helps answer some questions!

Questions or comments? Leave them down below.