Let me make a point here, relative to the short strangle described in the post responded to here.
By definition, selling naked options short, without a covering long or short position in the underlying, is a speculative technique (don't even think of calling this "investing") that can be described as taking large risks to generate (relatively) small returns. Note: LARGE RISKS.
And this applies whether selling short puts or calls. Selling BOTH at the same time, even as a strangle where the strikes may be relatively far apart, may reduce the risk somewhat, but also increases it in the sense that the seller is now exposed to a large move in the underlying in EITHER direction.
And the larger the premium available in the options, and thus the more attractive they may appear in one sense, the larger the risk. Remember that somebody is on the other side of your trade; it may be a hedged market maker who covers himself with the stock or an offsetting position, but it also may be a buyer who sincerely believes that he is going to make money by buying a put for 3.50 with a strike of 12 1/2 because he thinks (maybe even knows more than you do about whats going on!!!!$##@@) that the stock is going back to 4 by May 15th!
Also I hate to see folks use the term "guaranteed profit" in this game. The only guaranteed profit is when the expiration date is long gone, the options have expired, your broker left the cash in your account (and is still in business!) Yep, you made a profit.
But maybe you sweat a lot to make that profit. Remember, as long as you hold that position, the only thing that is going to REALLY count is what happens after expiration. The volatility that happens before that may shake your wallet so hard you will think a tornado blew you straight out to Kansas.
Just suppose for a hot minute, that you put this strangle on, and with 4 days to go till expiration, the premiums are down pretty good and you could buy the options back for 1/3 of what you collected. But the stock has been so quiet, and you're looking good, and figure you've got it made.
Now the news comes out, or a buyout rumour hits, or Icahn takes a big stake, or whatever. The stock screams to 32 and your short 25 call is now bid at 11!. Good grief. But it soon quiets down, corrects, and is back to 27 1/2. Good, I'll make it yet!
Next day, Wed, we get another spike. 33-34 1/4 - 36 - 39. My God, I'm getting killed. I gotta get out of this thing before I lose any more! So you buy to close. And let the put run (which does indeed eventually expire). And the next day, DNDN or whatever it is collapses, down to 27 1/2 again, and finally, on Friday, closes at 23 5/8. Damn! If I'd only hung on I had a profit on the whole thing! Shit!. What lousy luck.
And here is another scenario. You sell a short put at 30 on something, and on expiration day, the stock closes 30.60, just above the strike. While you are enjoying your congratulatory drink of single-malt scotch that afternoon, at 6:14 Eastern, some panel, event, lawsuit, news, whatever, hits........after hours this thing is trading at 18 on about 6 million shares (it opens Monday at 15 1/2).
You figure, wow, just made it. Think you won't be assigned stock at 30? Think again. Options expire on SATURDAY and I will guarantee you that the "system" will ensure that you are long stock in your account at 30 on Monday morning.
BTW, in my experience it doesn't work the other way around. If you were LONG a put, it's out of the money, Jack, sorry, bye-bye. Others with greater knowledge of wall street and greater experience please correct me if I am wrong. But the big boys can work things that you never even come close to getting a sniff of.
Sorry for the long-winded post and the diatribe, but guys, remember.......this business generates small returns in exchange for high risk. Yes, probabilities may be heavily in your favor. And you may win 20, or 30, or more times in a row.
Just don't forget that it only takes once to kill you, especially if you are overtrading. And always play the game if possible so that the absolutely worst outcome won't destroy you financially. |
