BP,
Long time wince we talked...
I tend to like diagonal spreads when the conditions are right, always buying a longer duration and selling a shorter duration. I like to set up the following conditions:
1. Buy an “In The Money” (ITM) option with significant time left before expiration. This minimizes the extrinsic (time) cost of the option.
2. Sell an “At The Money” (ATM) option with as short a time period as possible satisfying condition 3.
3. The “Buy Premium” – the “Sell Premium” is less than the “Sell Strike” – the “Buy Strike”.
Implied Volatility (IV), an important factor in the pricing of options and I prefer to enter positions where the IV is significantly higher for the shorter term (short leg) option. For spread writers, a large delta IV is virtually nirvana.
I break the rules most of the time by legging in...accumulating ITM calls when the market is, in my opinion, at a local minima and selling the shorter term ATM calls when it is at a local maxima.
I also trade the short leg if it appears appropriate. For example, I have some INTC Jan06 calls are strike prices of 17.5, 20, and 22.5 that I have accumulated since July '03. I recently bought back some Jul04 30's that I sold in Jan '04 for $4.6 for $0.40 (I know...too soon). Some people would just let them expire and keep the additional $0.40...but I'd rather play it again in between...maybe selling the Jun04 27.5's if it pops a little...
If I feel another local minima is at hand, I may use the cash generated from the short sale to accumulate more longer term ITM calls. I didn't this time...I guess my conviction of a pop isn't that strong! INTC is actually a bad example for a stock best for diagonal spreads, because the IV skew (in time) is up for the longer duration options. This is the opposite of what you want. You want to pay less for the extrinsic value you purchase and get more for the extrinsic value you sell. However, looking closely at those I’ve accumulated, they all have almost flat IV skew…that’s why I’m looking for a screening tool…lol
I've also accumulated positions in MSFT, KLAC, NVLS, LRCX, DCX (don't ask why...lol), EBAY, YHOO, DELL, ALTR, QCOM, CSCO... most are in the green, but a few (EBAY, QCOM) were almost monotonic in their rise, so I ended up rolling them out several times to "buy back" the value and have a higher ‘nut’ than I would prefer.
Ira |
