Beating Index Investing with Options Trading

[thegenius]

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I think out of a lot of this.....the only thing that makes general sense to me is the thing where you make money selling a contract where you agree to buy a stock in the future at a lower price. Whatever that is called.

For instance there are some stocks that I would like to own for the long haul if I could get in at the right price. I watch WYNN regularly waiting for it to drop below $70 and it just hasn’t done it in over a month or two.

So I do have an open buy order to buy something like 40 shares of WYNN at 69.80, and I’m just waiting and waiting and waiting.

I would rather have someone give me money to wait to buy WYNN at 69. And I’m willing to execute the contract if it gets to that point.

But the notion of buying another contract to close out a contract....I just don’t get it enough to be confident in that.

 

[cyanide12345678]

What determines the rate of these puts/calls? Like what determines the $290 in the example above, or the $130 in your previous example?

The market. These are real people buying and selling contracts. Just like people buy and sell shares. Higher volatility, higher premiums, so stocks like Tesla have ridiculous premiums. Higher demand from people to buy a put at a certain price, makes the ask price go up. Literally supply and demand in a way.

Like what happens when markets crash? A lot more people are selling the stocks, fewer buyers, price keeps dropping.

 

[cyanide12345678]

I think out of a lot of this.....the only thing that makes general sense to me is the thing where you make money selling a contract where you agree to buy a stock in the future at a lower price. Whatever that is called.

For instance there are some stocks that I would like to own for the long haul if I could get in at the right price. I watch WYNN regularly waiting for it to drop below $70 and it just hasn’t done it in over a month or two.

So I do have an open buy order to buy something like 40 shares of WYNN at 69.80, and I’m just waiting and waiting and waiting.

I would rather have someone give me money to wait to buy WYNN at 69. And I’m willing to execute the contract if it gets to that point.

But the notion of buying another contract to close out a contract....I just don’t get it enough to be confident in that.

You don't need to be comfortable with that if you don't have an issue with your option going all the way to expiry. When i started out, i didn't fully understand the buying selling of the contract. I'm starting to get a better idea.

But the above scenario you describe is literally THE BEST time to use an option. You are leaving money on the table by not doing an options trade and instead doing a limit trade.

If you feel comfortable owning 100 shares of wynn instead of 40 then you should use that to do your first options trade instead. It's a no brainer in your example. You want to own the stock, you know what price you are willing to pay for it. Why not get paid to do that order? If wynn goes to 60 and you are forced to buy it at 69, who cares? That's what your limit order would have resulted in as well without you getting any premium. This is a safer and better way to do it.

The option to buy back your put, you don't have to really worry about if you plan on buying the 100 shares. That's for people who need an out from the obligation of buying 100 shares.

 

[cyanide12345678]

@thegenius

Check out the sort of premium you would be getting if you sold a september, Dec, or a March Put trade instead of a limit trade for what you're suggesting. If you plan to buy and hold for a long period of time, this is the way to go.

The bid ask spreads are higher because i took the screenshots after market closed. So fewer buyers and sellers actively buying and selling things.

Few observations: If you 100% want to own the stock, then even the Premium included for the 1 month sep option actually gives you a better price than your limit order. So, if you sold a PUT for 4.9/share at strike of 72. Even then your effective cost basis is 67.8, lower than your Limit order. Buy that's if you place a market option order. If you're smart, you would place a limit PUT trade at the "last price" or the Mid price between bid/ask spread.

If you ABSOLUTELY want to hold WYNN for a longgg period of time. Like if your limit order went through at 69, in 1 week, and if the stock went to 50, you wouldn't care because you're in it for the long term. Then look at the premiums of the longer durations. Look at how high the premium is for a 6 month option for $70. In the March 2021 and Dec 2020 option; just to sell a contract at strike price of $70, someone is paying you $1365 and $1085 today.

So lets take Dec 2020 option with a strike price of 70 and compare it to a limit order of 100 shares at $69 price, literally someone is paying you $1085, to say that you would buy WYNN at $70 until Dec 2020. The assumption - you plan to buy and hold WYNN as a long position over several years. And you plan to buy 100 shares as that's 1 contract instead of 40 shares (so comparing apples to apples)

The potential outcomes:

1) WYNN goes above $70 and never drops below 70. Limit order -You never own anything. You don't make anything. Option Put Sale - You make $1085 (If you do a cash secured put and have $7000 in your account, then that's a 15% return over 5 months.

2) Wynn goes to between between 70 and $59.15 on Dec 2020. For example - $62. Limit trade: Your purchase went through at 69, and then your investment declined in value - your 6900 (assuming 100 shares at $69) is now worth $6200. Option trade: Your PUT is assigned since price is below strike price. You buy 100 shares for $7000. So you bought something that's worth $6200 for $7000. BUT YOU ARE STILL POSITIVE $285 since someone had paid you $1085 already. So $1085 - $800 (declined value) = +$285 (you are still in the green).

3) Price goes below 59.15. For example - $50. Limit order: That $6900 investment is now worth $5000. Your investment value is now - $1900. Option trade: You buy something worth $5000 now for $7000. But you were originally paid $1085. So your net investment is at Neg 915 now. So effectively you lost only 915 instead of $1900 in value of your shares - So effectively the option hedged your risk, and decreased your loss (just like options were designed to do). In either case, you believed in the company and the gambling industry, so you buy and hold. One strategy just gave you a better outcome in all 3 scenarios.

Stare at the outcomes for a little bit of time and see the videos I sent you - Your outcome is better with every result (except only if price dipped below $69 transiently for a few days/weeks before your contract date, so contract doesn't materialize, and then price shot up 30% by the time of your contract expiration. In that case, your limit order would have gone through, you would have bought shares with the limit order, and participated in the upside. The contract you would just made the 15% and not bought anything. Therefore, as I've been saying all along - Options minimize risk if used properly like this, they decrease potential upside and downside.

Lastly, the person who originally bought the call from you and paid you $1085. If price went to $50. That person got what they were betting. They buy 100 shares at market for $5000; sell them to you for $7000. So 2000 return on a $1085 investment; 184% return for them. That's why these people bet and are willing to pay someone a premium for trades. Their upside can be significant, and their downside is full loss of full premium. But they are gamblers. They lose more often and occasionally win big. The PUT sellers (the ones who are okay with smaller wins rather than wanting big wins), if they happen to sell puts on things they would Buy and hold anyway (wynn in your example) - These people Win almost every time compared to their normal buy and hold strategy of limit/market orders (like the 3 outcomes above).

Hope this helps. Good luck. THese are not imaginary numbers - These are actual numbers based on todays market prices.

 

[thegenius]

If you feel comfortable owning 100 shares of wynn instead of 40 then you should use that to do your first options trade instead. It's a no brainer in your example. You want to own the stock, you know what price you are willing to pay for it. Why not get paid to do that order? If wynn goes to 60 and you are forced to buy it at 69, who cares? That's what your limit order would have resulted in as well without you getting any premium. This is a safer and better way to do it.

I hear what you are getting at

And with that kind of logic, I should just buy WYNN now. It's at 72.5, and I want it at 69....so it's close I should just buy it now. I'm bullish on it once we get a vaccine, it was trading around 140s prior to this crash. I expect it to go that high in a couple of years which is about 80-100% ROI.




I think what confuses me is that you can somehow acquire shares with calls (buying) and puts (selling) and the entire thing is just confusing. It's like "I have the right to sell a stock at $70 in the next three months"...but who is going to buy it, what if I don't have it, ugh.......
like
you can buy and sell a contract that gives you the right to buy a stock
and
you can buy and sell a contract that gives you the right to sell a stock

 

[cyanide12345678]

I hear what you are getting at

And with that kind of logic, I should just buy WYNN now. It's at 72.5, and I want it at 69....so it's close I should just buy it now. I'm bullish on it once we get a vaccine, it was trading around 140s prior to this crash. I expect it to go that high in a couple of years which is about 80-100% ROI.




I think what confuses me is that you can somehow acquire shares with calls (buying) and puts (selling) and the entire thing is just confusing. It's like "I have the right to sell a stock at $70 in the next three months"...but who is going to buy it, what if I don't have it, ugh.......
like
you can buy and sell a contract that gives you the right to buy a stock
and
you can buy and sell a contract that gives you the right to sell a stock

So if you SELL a covered call - you already own 100 shares of x and you agree to sell those shares at price Y. You get premium for selling that call. The person that BUYS the covered call -pays you premium. And buys your 100 shares at price Y if price is above Y.

You can also SELL a Naked call. Now you don't own 100 shares. But you agree to sell something at price Y. You get premium. But you don't own anything. Price goes to Z, and z > Y. Option executes. Now your broker automatically buys at price Z market price, and sells those to whoever had BOUGHT your naked call at lower price Y. You lose z - y x 100. If price remained below strike, you gained premium.

You can SELL a put. Then you are the one buying the 100 stocks if price below strike price. The person who BUYS that put and pays you the premium. They don't own the shares, but the brokerage automatically buys shares at a lower market price for them, and sells them to you at the higher strike price. They make the difference automatically. You end up owning 100 shares at strike price.

Hope that helps.

 

[thegenius]

@thegenius
So lets take Dec 2020 option with a strike price of 70 and compare it to a limit order of 100 shares at $69 price, literally someone is paying you $1085, to say that you would buy WYNN at $70 until Dec 2020. The assumption - you plan to buy and hold WYNN as a long position over several years. And you plan to buy 100 shares as that's 1 contract instead of 40 shares (so comparing apples to apples)

The potential outcomes:

1) WYNN goes above $70 and never drops below 70. Limit order -You never own anything. You don't make anything. Option Put Sale - You make $1085 (If you do a cash secured put and have $7000 in your account, then that's a 15% return over 5 months.

2) Wynn goes to between between 70 and $59.15 on Dec 2020. For example - $62. Limit trade: Your purchase went through at 69, and then your investment declined in value - your 6900 (assuming 100 shares at $69) is now worth $6200. Option trade: Your PUT is assigned since price is below strike price. You buy 100 shares for $7000. So you bought something that's worth $6200 for $7000. BUT YOU ARE STILL POSITIVE $285 since someone had paid you $1085 already. So $1085 - $800 (declined value) = +$285 (you are still in the green).

3) Price goes below 59.15. For example - $50. Limit order: That $6900 investment is now worth $5000. Your investment value is now - $1900. Option trade: You buy something worth $5000 now for $7000. But you were originally paid $1085. So your net investment is at Neg 915 now. So effectively you lost only 915 instead of $1900 in value of your shares - So effectively the option hedged your risk, and decreased your loss (just like options were designed to do). In either case, you believed in the company and the gambling industry, so you buy and hold. One strategy just gave you a better outcome in all 3 scenarios.

Do contracts automatically execute on or before the day?

The December 2020 (by the way, what day in December is that?) puts at 70. What if the stock goes below 70 in November and then rebounds over 70 in late November or early December. Does the contract automatically execute? The stock price can oscillate any number of times around your strike price before the expiration date, so what happens?

 

[thegenius]

So let's say I sell a put on WYNN at $70 by Dec 2020. I am agreeing for someone to sell me 100 WYNN shares on or before Dec 2020 at $70 if the stock goes at or lower than that. I get some $$ upfront.

Then let's say in October that I think WYNN turns into a ****ty stock. All of their leaders get coronavirus and they all die on the ventilator in Macau hospitals all on the same day. Patrons are dying left and right after entering WYNN hotels. People are getting concomitant norovirus and explosive diarrhea on top of having multi-system organ failure from COVID-19. The stock is plummeting with no chance of it ever getting better. It's going down the tubes. It's at 50, now 40....down and down. It might go bankrupt. Now......I don't want anything to do with WYNN anymore. I never want to own their stock, and I don't want to be tied down in any options contracts. I want out. However... ... ... ... ... I entered into a contract that someone is going to sell me 100 shares of WYNN on or before Dec 2020 for $70 and believe me they are chomping at the bit to do it. They could sell their shares on the open market for $25, or they could sell them to me for $70! No brainer!!!

How do I get out of this obligation? As far as I know I don't own the contract. The other guy owns it. I can't sell something I don't own.

At this point I'm happy to give up the upfront $$ and probably even more to get out of this obligation.

What do I do?

 

[thegenius]

I wish option contracts were not always in increments of 100 shares. Someone needs to invent a way to do options with any number of shares.

 

[cyanide12345678]

Do contracts automatically execute on or before the day?

The December 2020 (by the way, what day in December is that?) puts at 70. What if the stock goes below 70 in November and then rebounds over 70 in late November or early December. Does the contract automatically execute? The stock price can oscillate any number of times around your strike price before the expiration date, so what happens?

I believe they automatically execute on the day of the contract expiration. It is automatic if the contract is "in the money". Automatically goes away if it is worthless.

Also If you don't see a specific date just month and year, most likely it's the 3rd Friday of that month.

If the stock goes below 70, but bounces back by contract date. Two likely outcomes - most likely outcome is that nothing happens. But there is a small chance that you may prematurely be assigned those 100 stocks before contract end date. Most likely you won't. Here is why.

If you promised to buy at 70, and the price is 50 with 2 months left. The person who BOUGHT the obligation from you, aka the dude/dudette who paid you the premium has two options. They can SELL the PUT that they had originally bought from you (so do what you originally did when you sold a put). Or they can execute the contract with you. If they execute the contract with you - the broker automatically buys them 100 shares at market value of 50, sells them to you at 70. They make $2000.

But.... They missed out on potential gain by doing so. They could have SOLD a put at strike price of 70, when price is $50. I know in all my examples i was selling puts below current price. You can SELL a put above market price as well. So...if stock is $50, and they sell a put for $70 with 2 months left. Then the premium of that put is a lot. It has two components - intrinsic value, and time value. The intrinsic value (in the money value) of this put is $20/share or 2000/ contract. But with two months left, it also has market determined time value, maybe another 3-4 dollars (just like when you are selling a put below market price, it has no intrinsic value, only a time value. The time value decays and decreases as you near the option end date.

So... The person will likely SELL a put at 70 when price is $50. They will get 20+time value. So let's say 24/share, or 2400 per contract. Then they made $2400 instead of $2000 which is why it is very rare for options to execute before expiration because the person is leaving the time value on the table and only taking the intrinsic value.

 

[cyanide12345678]

So let's say I sell a put on WYNN at $70 by Dec 2020. I am agreeing for someone to sell me 100 WYNN shares on or before Dec 2020 at $70 if the stock goes at or lower than that. I get some $$ upfront.

Then let's say in October that I think WYNN turns into a ****ty stock. All of their leaders get coronavirus and they all die on the ventilator in Macau hospitals all on the same day. Patrons are dying left and right after entering WYNN hotels. People are getting concomitant norovirus and explosive diarrhea on top of having multi-system organ failure from COVID-19. The stock is plummeting with no chance of it ever getting better. It's going down the tubes. It's at 50, now 40....down and down. It might go bankrupt. Now......I don't want anything to do with WYNN anymore. I never want to own their stock, and I don't want to be tied down in any options contracts. I want out. However... ... ... ... ... I entered into a contract that someone is going to sell me 100 shares of WYNN on or before Dec 2020 for $70 and believe me they are chomping at the bit to do it. They could sell their shares on the open market for $25, or they could sell them to me for $70! No brainer!!!

How do I get out of this obligation? As far as I know I don't own the contract. The other guy owns it. I can't sell something I don't own.

At this point I'm happy to give up the upfront $$ and probably even more to get out of this obligation.

What do I do?

Similar to above.

You sold a put for strike of $70. Price tanks to $40. 3 months left on contract. You panic the company is going bankrupt. You can now BUY the put (become the guy paying the premium to the person selling the put). Thereby you shift the obligation of purchase to someone else (the person you are now paying the premium)

You will have to BUY a put for strike of $70 when price is 40 for example. Then you are paying premium of intrinsic value of $30 plus time value whatever market determines.

So let's say time value is $5. Then you close out your position by BUYING a put at strike 70, for 35/share and pay someone $3500 to close the position and get rid of your obligation. You pay someone $3500 premium. Now they officially have that obligation of purchasing wynn at $70 in exchange of the premium you paid. Your position is closed. You lost $3500 minus whatever premium you made initially.

This is why i personally only plan on options for etfs that i would normally buy anyway. Then you truly don't care if you end up buying and holding. Then you improve your returns through premiums. But if you change your mind and BUY BACK to close your put, then you realize the loss/profit. Just like if you sold any stock, you are realizing the profit/loss.

 

[thegenius]

I believe they automatically execute on the day of the contract expiration. It is automatic if the contract is "in the money". Automatically goes away if it is worthless.

Also If you don't see a specific date just month and year, most likely it's the 3rd Friday of that month.

If the stock goes below 70, but bounces back by contract date. Two likely outcomes - most likely outcome is that nothing happens. But there is a small chance that you may prematurely be assigned those 100 stocks before contract end date. Most likely you won't. Here is why.

If you promised to buy at 70, and the price is 50 with 2 months left. The person who BOUGHT the obligation from you, aka the dude/dudette who paid you the premium has two options. They can SELL the PUT that they had originally bought from you (so do what you originally did when you sold a put). Or they can execute the contract with you. If they execute the contract with you - the broker automatically buys them 100 shares at market value of 50, sells them to you at 70. They make $2000.

But.... They missed out on potential gain by doing so. They could have SOLD a put at strike price of 70, when price is $50. I know in all my examples i was selling puts below current price. You can SELL a put above market price as well. So...if stock is $50, and they sell a put for $70 with 2 months left. Then the premium of that put is a lot. It has two components - intrinsic value, and time value. The intrinsic value (in the money value) of this put is $20/share or 2000/ contract. But with two months left, it also has market determined time value, maybe another 3-4 dollars (just like when you are selling a put below market price, it has no intrinsic value, only a time value. The time value decays and decreases as you near the option end date.

So... The person will likely SELL a put at 70 when price is $50. They will get 20+time value. So let's say 24/share, or 2400 per contract. Then they made $2400 instead of $2000 which is why it is very rare for options to execute before expiration because the person is leaving the time value on the table and only taking the intrinsic value.

Interesting.....right now selling a put on WYNN at 90 has a price of 20. Why would someone want to pay $2000 today to buy WYNN at $90 over the next few months? Because they think it's going to take off? For someone to make money on that, WYNN would have to be at 110 when the put gets executed.

 

[cyanide12345678]

Interesting.....right now selling a put on WYNN at 90 has a price of 20. Why would someone want to pay $2000 today to buy WYNN at $90 over the next few months? Because they think it's going to take off? For someone to make money on that, WYNN would have to be at 110 when the put gets executed.

Selling a PUT for 20 means the person is receiving 2000 today to buy WYNN at 90 (not paying $2000). The person SELLING the put receives the premium. The person BUYING the PUT, pays the premium.

WYNN price is 72.4. If WYNN goes up to 80 by end of contract - They buy the 80 dollar item for 90. So 9000 spent on something that's worth 8000 - Loss of $1000. But they were paid $2000; so net of $1000 profit. In fact, if by end of contract, WYNN stays at $72.4 - the person then buys something worth 7240 for 9000 for a net profit of 240; since they got $2000 premium already.

So WYNN won't have to be at 110 for this person to make money. If it did go to 110; then they got 2000 premium only. Contract is now worthless and out of the money. The person who owns the contract and had Bought the contract by paying $2000 will not buy something at $110 market value to sell it to you for $90. Price above strike for PUT eventually makes the contract worthless.

 

[cyanide12345678]

If you are paying someone 20 upfront; then you are BUYING a PUT. Then you paid someone 2000. If price stays the same, Broker automatically market buys at 72.4, and sells to the other person for $90. Then paid 2000 and got back 1760. If price declined to 50; then broker market buys 100 shares for 5000 and sells them for 9000. Then you made 4000 - 2000.

 

[wamcp]

If I don’t fully understand something I don’t do it with my investments so I’m not gonna try out this new method I don’t even really understand it so there’s that.

It is a valid emotional reasoning.

Still, the thing I never understood is how so many investors are constantly told not to actively manage their own investments, to just "buy and hold", and they follow that mantra as sheep.

Think about how ridiculous that sounds. Let's you have $500K, 2 million dollars, 5 million, 10 million or whatever accumulated. Are you seriously going to blindly trust "the markets" to give you the best return vs risk ratio? Over millions of dollars of YOUR own money? You carefully choose what 20K or 50K or 70K car you buy......yet you'll toss hundreds of thousands of dollars into "the market" and not bother to look and see what happens on a routine basis?

You must always keep in mind 1) you will not live forever and you will die eventually, 2) Reality is reality, anything can happen (see: trump was elected in 2016, did you EVER, ever think that would happen back in 2010?), and 3) past performance never guarantees future performance.

So, for example, if we run into a stagflation era lasting decade(s) in the coming few years, that will absolutely WRECK your retirement plans for your entire life. Just go look at the real returns of SP500 back in the 70s.

We are in a dangerous central bank played world with ridiculously low rates, QE, and MMT is already here. This money printing is radically different and orders of mangitudes more massive than during the GFC.
Inflation WILL happen. Costs of your goods WILL rise. Rates WILL need to go up, and as a result asset prices WILL collapse for both bonds and stocks. Not only that, but your taxes WILL go up to try to finance the millenial demands for more 'free' stuff and money printing.
And don't forget, your income plus job satisfaction will continue to fall as health care is radically changed by congress in the near future.

The best way to hedge against that is to make piles and piles of money TODAY, while the asset bubble continues to inflate, and invest in inflation hedges now (like gold, TIPS).

Remember Paul Volcker 2018: "The real danger comes from encouraging or inadvertently tolerating rising inflation and its close cousin of extreme speculation and risk taking, in effect standing by while bubbles and excesses threaten financial markets. Ironically, the ‘easy money,’ striving for a ‘little inflation’ as a means of forestalling deflation, could, in the end, be what brings it about. "

 

[thegenius]

Little update @cyanide12345678. Every 10 years or so, I do deep dives into things and just go nuts researching it and getting into the topic. For instance, like 15-20 years ago I spent every waking minute listening and learning about the Grateful Dead. And I'm happy for every second I spent doing that.

This thread, and our PM's, have really gotten me interested in options. I perused this thread again...I agree with just about everything you wrote. I have spent so much time learning more about options. Options have a bad reputation for being too risky. They are only as risky as you want them to be. You can do options with very little risk, in fact less risk that just plain old investing, and make small, predictable, reliable returns. Or you can do crazy spreads or make bets that are very risky with high reward potential. I don't understand why I haven't been doing this more in my life. Had I properly understood and learned about options 20 years ago, I would be up hundreds of percent by now on whatever initial investment I had made. MUCH MUCH more than what the market would have given me.

I really think one can find the right risk level for options. If people like to buy and hold stocks...you can buy and hold stocks and sell covered calls against them. Worst case scenario is you get called, you have made some money, and then you sell puts on the same stock the next day to get back in. If you don't get assigned the puts, you sell some more the next month. All along you are collecting money / premium. You can make money if the market is going up. You can make money if the market is going down. You can make money if the market is going sideways. It's a great way to give you fairly reliable income. Why have a bank account with 100K just sitting there collecting 1%/year...when you can sell monthly puts on low-volatility stocks like GM or T and make so much more money. GM and T haven't done anything in 10 years. They are duds. In fact because they are such duds makes it so much easier to earn like 2% / month on your investment, for instance.

Now...all that aside which I 100% believe...I've chosen more of the gambling aspect of it, but that is gonna change very shortly. I put 14K into a Schwab account on Aug 1 and have made, about 5-6 weeks later, $1,469.05. In the first month I made $1,255.14. I made 9% on my first month of solely selling puts. This is NOT a margin account either! I say this is gambling because I chose very strict criteria for selecting the stocks to do this on...and it turned out that almost all of the options I made money on were biotech stocks that had juicy premiums because these companies either make it or break it with their stocks. I chose deep OTM puts that expire in a few weeks that had returns of at least 5%. These were out of the money by at least 25%, if not more. And the only way to make 5% on your investment in 2 weeks with deep OTM puts is finding highly volatile stocks (some of them with an IV of > 300%!!!). I would do some research on the company, look when they would report earnings (I never sold contracts that expired after earnings!). Did some other logical things. And I'm happy to say that I've made money on every single trade. Haven't lost one yet.

I recognize though that this is not sustainable. I had a few that expired...and the following monday the stock tanked > 20%. No bueno on that. What I'm realizing now is that it's much easier to make 3-4%/month on relatively non-volatile stocks, and 4-6% on moderately volatile stocks. For instance...let's look at GM.

For the past 8 years GM has traded between 28-40 the entire time (except in March of this year). It's a dud of a company. Not doing anything. I see no point in owning GM as a stock holder for the long term. They just don't get it. However...for options it's a good relatively safe play: it's certainly reasonable to:

Sell Oct 2020 P @30 for 1.50. You make $150, and if assigned you now own GM at 28.5. If it expires worthless you have made 5% in one month (1.5/30). For those who are not cyanide who have read this far...what that means is you have to set aside $3000 for 1 month just in case you are assigned the stock. You can't use this money for anything else (unless you unwind your option position). But after the month your 3K is free to be used for anything you want, and you've made $150 on top of that. If GM is less than 30 (say 29 or 27 or whatever) you get assigned...you now own GM at 28.5. You can either just sell it then for little profit or loss...or just sell a call option on it. An example 1 month call might be worth 1.35. You collect another $135. GM is so unlikely to make any major swings in the stock price that you are not risking all that much. Looking at chart...it usually moves max like $2/month in one direction or another. For the past 8 years!!!!!! I would never do this strategy, certainly not now...with stocks like TSLA or AAPL. They are way too volatile. But you can do this with stocks like GM. That being said I haven't chosen to do it against this particular stock because my money is already tied up in other stocks...but it appears it's a pretty reliable way to make 3-5%/month against a stable, dud company like GM.

Of course you have to watch out for major market dumps. Like the one we had in March. But everybody lost money in March, option traders, investors, long term holders, etc.

Currently I'm in medium - to - high volatility, large cap companies that have been depressed since the market fall in March. These include industries like Energy, Banks, Airlines, Cruise Liners. All of these have dropped 10-40% unlike tech stocks, and I've picked companies that are relatively volatile as you get better premiums. I'm in AAL, UAL, CCL, NCHL, APA, SRNE, and CAPR. All I do are trades where the option expires 5-25 days out. I close half of them and let the other half expire worthless depending on how they are doing.


lastly I'll say this about margin. If you don't use margin it's fine. There are still ample opportunities to make good money. 3-5% / month in that range. It's fantastic. Its like driving the speed limit. If the speed limit is 65, then you drive up to 65 but not any faster. And it's safe. You'll never get pulled over for speeding, and you'll likely never get pulled over at all unless you violate other laws. With margin...you are allowed to drive faster. How fast depends on how much margin you use. Some people love to speed on the highways and want to go 90 in a 65 zone all the time. They will get caught one day. They will get caught many times in their life. They will get burned investing like that too. It's guaranteed. But it's thrilling when you don't get caught. I bet it's a lot of fun. I plan on using margin to speed just a little. I always drive 5-10 over the speed limit. And I've never gotten pulled over for speeding. So i'm going to be using a little margin to get me to my destination just a little bit faster.

Option trading is unfairly vilified.

 

[cyanide12345678]

Little update @cyanide12345678. Every 10 years or so, I do deep dives into things and just go nuts researching it and getting into the topic. For instance, like 15-20 years ago I spent every waking minute listening and learning about the Grateful Dead. And I'm happy for every second I spent doing that.

This thread, and our PM's, have really gotten me interested in options. I perused this thread again...I agree with just about everything you wrote. I have spent so much time learning more about options. Options have a bad reputation for being too risky. They are only as risky as you want them to be. You can do options with very little risk, in fact less risk that just plain old investing, and make small, predictable, reliable returns. Or you can do crazy spreads or make bets that are very risky with high reward potential. I don't understand why I haven't been doing this more in my life. Had I properly understood and learned about options 20 years ago, I would be up hundreds of percent by now on whatever initial investment I had made. MUCH MUCH more than what the market would have given me.

I really think one can find the right risk level for options. If people like to buy and hold stocks...you can buy and hold stocks and sell covered calls against them. Worst case scenario is you get called, you have made some money, and then you sell puts on the same stock the next day to get back in. If you don't get assigned the puts, you sell some more the next month. All along you are collecting money / premium. You can make money if the market is going up. You can make money if the market is going down. You can make money if the market is going sideways. It's a great way to give you fairly reliable income. Why have a bank account with 100K just sitting there collecting 1%/year...when you can sell monthly puts on low-volatility stocks like GM or T and make so much more money. GM and T haven't done anything in 10 years. They are duds. In fact because they are such duds makes it so much easier to earn like 2% / month on your investment, for instance.

Now...all that aside which I 100% believe...I've chosen more of the gambling aspect of it, but that is gonna change very shortly. I put 14K into a Schwab account on Aug 1 and have made, about 5-6 weeks later, $1,469.05. In the first month I made $1,255.14. I made 9% on my first month of solely selling puts. This is NOT a margin account either! I say this is gambling because I chose very strict criteria for selecting the stocks to do this on...and it turned out that almost all of the options I made money on were biotech stocks that had juicy premiums because these companies either make it or break it with their stocks. I chose deep OTM puts that expire in a few weeks that had returns of at least 5%. These were out of the money by at least 25%, if not more. And the only way to make 5% on your investment in 2 weeks with deep OTM puts is finding highly volatile stocks (some of them with an IV of > 300%!!!). I would do some research on the company, look when they would report earnings (I never sold contracts that expired after earnings!). Did some other logical things. And I'm happy to say that I've made money on every single trade. Haven't lost one yet.

I recognize though that this is not sustainable. I had a few that expired...and the following monday the stock tanked > 20%. No bueno on that. What I'm realizing now is that it's much easier to make 3-4%/month on relatively non-volatile stocks, and 4-6% on moderately volatile stocks. For instance...let's look at GM.

For the past 8 years GM has traded between 28-40 the entire time (except in March of this year). It's a dud of a company. Not doing anything. I see no point in owning GM as a stock holder for the long term. They just don't get it. However...for options it's a good relatively safe play: it's certainly reasonable to:

Sell Oct 2020 P @30 for 1.50. You make $150, and if assigned you now own GM at 28.5. If it expires worthless you have made 5% in one month (1.5/30). For those who are not cyanide who have read this far...what that means is you have to set aside $3000 for 1 month just in case you are assigned the stock. You can't use this money for anything else (unless you unwind your option position). But after the month your 3K is free to be used for anything you want, and you've made $150 on top of that. If GM is less than 30 (say 29 or 27 or whatever) you get assigned...you now own GM at 28.5. You can either just sell it then for little profit or loss...or just sell a call option on it. An example 1 month call might be worth 1.35. You collect another $135. GM is so unlikely to make any major swings in the stock price that you are not risking all that much. Looking at chart...it usually moves max like $2/month in one direction or another. For the past 8 years!!!!!! I would never do this strategy, certainly not now...with stocks like TSLA or AAPL. They are way too volatile. But you can do this with stocks like GM. That being said I haven't chosen to do it against this particular stock because my money is already tied up in other stocks...but it appears it's a pretty reliable way to make 3-5%/month against a stable, dud company like GM.

Of course you have to watch out for major market dumps. Like the one we had in March. But everybody lost money in March, option traders, investors, long term holders, etc.

Currently I'm in medium - to - high volatility, large cap companies that have been depressed since the market fall in March. These include industries like Energy, Banks, Airlines, Cruise Liners. All of these have dropped 10-40% unlike tech stocks, and I've picked companies that are relatively volatile as you get better premiums. I'm in AAL, UAL, CCL, NCHL, APA, SRNE, and CAPR. All I do are trades where the option expires 5-25 days out. I close half of them and let the other half expire worthless depending on how they are doing.


lastly I'll say this about margin. If you don't use margin it's fine. There are still ample opportunities to make good money. 3-5% / month in that range. It's fantastic. Its like driving the speed limit. If the speed limit is 65, then you drive up to 65 but not any faster. And it's safe. You'll never get pulled over for speeding, and you'll likely never get pulled over at all unless you violate other laws. With margin...you are allowed to drive faster. How fast depends on how much margin you use. Some people love to speed on the highways and want to go 90 in a 65 zone all the time. They will get caught one day. They will get caught many times in their life. They will get burned investing like that too. It's guaranteed. But it's thrilling when you don't get caught. I bet it's a lot of fun. I plan on using margin to speed just a little. I always drive 5-10 over the speed limit. And I've never gotten pulled over for speeding. So i'm going to be using a little margin to get me to my destination just a little bit faster.

Option trading is unfairly vilified.

Hey I'm just glad at least one person found some value in my initial post. I love finance so i thoroughly enjoyed attempting to explain a new concept that i has newly learned that mathematically just made sense. The more I've discussed it, the more it has solidified my own understanding and knowledge.

You're already doing really great with selling puts and sounds like you've mastered calls and puts now. I think you can attest to this being not really that complicated...i think initially you were hesitant and didn't understand the concept of "buying back" a put, but sounds like you've mastered that too. These strategies can honestly be learned in 1 week i think, which i think you will agree with. So it's really not as complex as people think.

Also when you're ready for really safe options (sort of like the index funds i do) then look into the differences between us and European options - look at spx and rut which is basically the European equivalent of spy and iwm. But those options cannot be executed before their deadline, which takes almost all unpredictability out of the equation in case someone exercises their option prematurely before deadline.

Also for extremely extremely volatile individual stocks that you are trading, look into selling a put and combining that with buying a put with a lower strike price to limit your downside risk with extremely volatile assets that can essentially go to 0. This decreases your premium when you buy a put with a lower strike, but it also means you don't have unlimited loss potential if this biotech stock went bankrupt in a month and stock went to 0 and you had to buy it at whatever strike price.

Cheers. Good luck. Glad you're killing it. My next current project is setting up an automated dropshipping Amazon and eBay store with full automation. I'll post about it if it makes $$$

 

[turkeyjerky]

Man it's interesting what medicine does to people.

Ten years ago, as doe-eyed undergrads, we applied to medical school excited to 'make a difference' or 'help people'. Now we're just trying to extract a few bucks on the margins of an increasingly corrupt system.

Not so different from a locums agency recruiter or cmg scumbag when you think about it.

 

[HemorrhagicShock]

Man it's interesting what medicine does to people.

Ten years ago, as doe-eyed undergrads, we applied to medical school excited to 'make a difference' or 'help people'. Now we're just trying to extract a few bucks on the margins of an increasingly corrupt system.

Not so different from a locums agency recruiter or cmg scumbag when you think about it.

This mindset and approach is as American as Cherry Pie

 

[thegenius]

Hey I'm just glad at least one person found some value in my initial post. I love finance so i thoroughly enjoyed attempting to explain a new concept that i has newly learned that mathematically just made sense. The more I've discussed it, the more it has solidified my own understanding and knowledge.

You're already doing really great with selling puts and sounds like you've mastered calls and puts now. I think you can attest to this being not really that complicated...i think initially you were hesitant and didn't understand the concept of "buying back" a put, but sounds like you've mastered that too. These strategies can honestly be learned in 1 week i think, which i think you will agree with. So it's really not as complex as people think.

Also when you're ready for really safe options (sort of like the index funds i do) then look into the differences between us and European options - look at spx and rut which is basically the European equivalent of spy and iwm. But those options cannot be executed before their deadline, which takes almost all unpredictability out of the equation in case someone exercises their option prematurely before deadline.

Also for extremely extremely volatile individual stocks that you are trading, look into selling a put and combining that with buying a put with a lower strike price to limit your downside risk with extremely volatile assets that can essentially go to 0. This decreases your premium when you buy a put with a lower strike, but it also means you don't have unlimited loss potential if this biotech stock went bankrupt in a month and stock went to 0 and you had to buy it at whatever strike price.

Cheers. Good luck. Glad you're killing it. My next current project is setting up an automated dropshipping Amazon and eBay store with full automation. I'll post about it if it makes $$$

I'm already on it! credit spreads are coming up. They will be useful for sure. I'm just trying to work on how to optimize the profit/loss for what I want to do, which is relatively conservative stuff. You know...deciding on the moneyness of the short put, how wide to make the spread (e.g. where to buy the long put), etc. I've read it's harder to manage credit spreads if they go bad than just regular ol' cash-secured puts. But it's just a matter of time before I try one.

It's like learning to ride a bike when you are young. I remember being terrified to even get on it and did everything I could to protect myself if I fell. Same thing with options. I'm not going to do anything crazy at first (and hopefully ever). Experienced option traders will do something like

Stock Price XYZ: 50
Sell Put 49 Strike: 1.60
Buy Put 47 Strike: 1.00
Net Credit: 0.60 (1.60 - 1.0)
Max Loss: 1.4 (49 - 47 - 0.6)
Probability of Profit: 57%
Return on Capital: 0.6 / 1.4 = 42%

Traders try to get a profit (or return on capital) of 33% or more of the credit spread. The problem I have with the trade above is that the stock very likely might go to 48 or around that and it's just more complicated in terms of how to manage this credit spread to limit risk than a similar cash-secured put (where you just sell the 49 Put strike and wait). You can roll down short put, just let the position go and see what happens, muck around with the long put, and there are other things one can do. But traders who watch the market continuously might be able to time things like this to make money, or they do hundreds of trades like above to squeeze out a moderate sized profit.

I will probably do something much more OTM like:

Stock Price XYZ: 50
Sell Put 44 Strike: 0.45
Buy Put 40 Strike: 0.10
Net Credit: 0.35 (0.45 - 0.1)
Max Loss: 3.65 (44 - 40 - 0.2)
Probability of Profit: 87%
Return on Capital: 0.35 / 3.65 = 9.5%

What makes this credit spread above so enticing is the distance between the stock price and the short put (50 - 44), which corresponds to a 12% drop in stock price, and the break even point of this trade would be 44 - 0.35 = 43.65, which is 12.7% drop in stock price. Assuming these options expire in 30 days...there are very few stocks that drop 12% in one month. There are literally thousands of companies that do not go up or down 12% in one month. And when they do it's usually around earnings, and all one has to do is simply not trade around earnings dates.

Who wouldn't be happy making 9.5% in one month?

There is a level of risk for all people when it comes to options. They really are unfairly vilified. You can construct spreads like the examples I gave above to make the prob of profit > 95%. You won't make that much, but you can do that. You might make 3%. That's fine! You can do whatever you want.

I like the analogy of learning to ride a bike and speeding. So appropriate. Most people drive on or just above the speed limit and they get to point B from A just fine. Almost never get caught speeding. Might get caught speeding once every 10 years. Some people ride bikes conservatively and never get into crashes. Some mountain bike on steep hills and occasionally break bones. Option trading is exactly like that. Another reason why I think people are fearful of it is that you always hear of people getting their savings "wiped out" from option trading. How often do you hear people getting "wiped out" with buying and holding stock? The reality is while people usually don't get wiped out buying stock unless they buy speculative ones...but they do lose money. If you have owned GM over the past 10 years...you have probably lost money depending on where you bought it. Literally it would have been better to buy a 10-yr treasury bond.

Just don't do stupid, risky stuff and option trading can very easily increase your general rate of return by 10-25% / year. (Maybe more?) That is...if you expect to make market returns of 8%/year, then you can increase that to 10-12% / year. All you have to do is go 5 mph over the speed limit, and never go 100 when you think nobody is looking.

 

[thegenius]

I’m glad that a few of you have found a passion for options trading. I still remain skeptical after looking into further myself. The risk may be less than I initially thought, but I still don’t believe it is the path to FIRE. Saving more than you spend is what gets you to that goal. I think I’m also a little biased though in that I like the old fashioned concept of getting paid for your physical work and paying others for their work. I know you should let your money work for you, but money is dirty. I worked a lot of blue collar jobs growing up and learned the value of work. I just don’t like the idea of a shortcut. I think work builds character. So maybe my bias prevents me from realizing the benefit of fancy investing to some extent. I just want others to know that you can retire comfortably around age 40-50 easily by working in EM for 10-20 years through a simple financial strategy that solely focuses on living within your means.

I think I disagree....

If you are in your 20's...let's say you are a new EM grad and you are 26. You want to retire when you are 50. What you are going to do is basically plug numbers into an online compound interest calculator and determine what you need to retire by age 50. Everybody has probably done this.

If you start off with $10,000, contribute $2,000/month, invest for 24 years....here are your totals for different rates of return:

Interest Rates, total net worth after 24 years with above numbers...
6% = ~$1,260,000
8% = ~$1,665,000
10% = ~$2,222,000

So I think we would all agree that it should be easy to get 6%/year investing in the stock market, averaged out over 24 years. And I think we would all agree that we would expect, and plan on, getting 8%/year. That's what the stock market has done in the past. But people cringe at the thought of getting 10%/year. How can anyone do that? It's impossible!

Well it's not. The only thing you have to do is work a little at it. little is the operative word here. And once you get used to it it's not a lot of work.

Scenario 1: Invest 100% of your money in VTI (Vanguard Total Stock Market Index Fund). Set it and forget it for 24 years. You will have 1.665M at the end of that time.

Scenario 2: Invest 90% of your money in VTI, and set aside 10% of your money to do conservative monthly option trading. I think a VERY CONSERVATIVE estimate is that one can make 1%/month trading options with an extremely high chance of probability. Like > 95%. So you are getting 8% / year return on 90% of your money, and getting 12% / year on 10% of your money. This will probably be close to an effective total yield of 10% although I didn't do the math.


BTW, these investment numbers above (10K starting, 2K/month investing) are pretty damn conservative for a physician. Physicians should easily be able to do 4K/month. And you can do this in your IRA too and not pay taxes until you take it out.


BTW #2 the amounts above if you are investing 4K a month and not 2K:

6% = ~ $2,479,000
8% = ~ $3,268,000
10% = ~$4,346,000
12% = ~$5,823,000

Drastic differences! You could have 3.268M in a set it and forget it approach, or have 4.346M if you spend maybe 15-20 hrs/month researching and trading options.




I do agree with you that you could probably amass a nice savings too if you work hard, live within your means, and save money.

 

[thegenius]

Man it's interesting what medicine does to people.

Ten years ago, as doe-eyed undergrads, we applied to medical school excited to 'make a difference' or 'help people'. Now we're just trying to extract a few bucks on the margins of an increasingly corrupt system.

Not so different from a locums agency recruiter or cmg scumbag when you think about it.

Couldn't have said it better myself. LOLZ

 

[BoardingDoc]

Scenario 2: Invest 90% of your money in VTI, and set aside 10% of your money to do conservative monthly option trading. I think a VERY CONSERVATIVE estimate is that one can make 1%/month trading options with an extremely high chance of probability. Like > 95%. So you are getting 8% / year return on 90% of your money, and getting 12% / year on 10% of your money. This will probably be close to an effective total yield of 10% although I didn't do the math.

You sound very appealing with your earlier posts, but your math error above raises concerns. I'm not saying your options strategy is flawed. I don't know enough to comment. I do, however, know that the above scenario gives an annual return of 8.4%. That's a far cry from your "close to 10%"

Math:
90% at 8% return = 0.9 * 1.08 = 0.972
+
10% at 12% return = 0.1 * 1.12 = .112
0.972 + .112 = 1.084 = 8.4% ROR.

I personally think all of this is very interesting and plan to read up on it some more (would love some links you found useful if you feel like posting them/PMing me) but I felt obligated to post this as a caveat emptor for all the impressionable young attendings out there who see a quick easy buck.

 

[BoardingDoc]

Stock Price XYZ: 50
Sell Put 44 Strike: 0.45
Buy Put 40 Strike: 0.10
Net Credit: 0.35 (0.45 - 0.1)
Max Loss: 3.65 (44 - 40 - 0.2)
Probability of Profit: 87%
Return on Capital: 0.35 / 3.65 = 9.5%

Maybe I'm missing something here, but doesn't this yield a negative expected return?

87% prob of profit I assume to mean 13% prob of lost money.
Loss = $365
Win = $35

Expected return = 0.87 * 35 - 0.13 * 365 = $-17

Granted, your losses aren't guaranteed to be at max level, but how do we calculate this out then?

You can really only afford a routine loss of $234 (math: .87 * 35/.13) in order to have an expected rate of return of 0% over time.

Maybe this was just a bad example, but this looks like a very enticing way to lose money in the long run.

If I'm wrong, please let me know. Digging into the math though just seems to push me deeper into Jack Bogle's camp. It also raises the question of "if this is so easy, why do indexes routinely outperform the vast majority of managed funds?"

 

[thegenius]

You sound very appealing with your earlier posts, but your math error above raises concerns. I'm not saying your options strategy is flawed. I don't know enough to comment. I do, however, know that the above scenario gives an annual return of 8.4%. That's a far cry from your "close to 10%"

Math:
90% at 8% return = 0.9 * 1.08 = 0.972
+
10% at 12% return = 0.1 * 1.12 = .112
0.972 + .112 = 1.084 = 8.4% ROR.

I personally think all of this is very interesting and plan to read up on it some more (would love some links you found useful if you feel like posting them/PMing me) but I felt obligated to post this as a caveat emptor for all the impressionable young attendings out there who see a quick easy buck.

Fair enough! Thank for the math answer. I think the ultimate point is that you can drive your own speed, when you want, how fast you want, and we all have our risk tolerances. I think people can make some minor adjustments to the numbers to get to 10%.

What is also obviously false....are these claims that people can turn 2K into 1M over several years that that is just next to impossible. It doesn't work like that. For every person that that happens to....there are probably hundreds of thousands who fail doing it.

 

[thegenius]

Maybe I'm missing something here, but doesn't this yield a negative expected return?

87% prob of profit I assume to mean 13% prob of lost money.
Loss = $365
Win = $35

Expected return = 0.87 * 35 - 0.13 * 365 = $-17

Granted, your losses aren't guaranteed to be at max level, but how do we calculate this out then?

You can really only afford a routine loss of $234 (math: .87 * 35/.13) in order to have an expected rate of return of 0% over time.

Maybe this was just a bad example, but this looks like a very enticing way to lose money in the long run.

If I'm wrong, please let me know. Digging into the math though just seems to push me deeper into Jack Bogle's camp. It also raises the question of "if this is so easy, why do indexes routinely outperform the vast majority of managed funds?"

First, the actual numbers are made up so it may have been a bad example. My apologies

Second, 87% probability of profit is a calculated number that websites and option screeners derive. Some of the ways that is calculated are highly complex mathematical that include nothing about the fundamentals of a company. I do not understand them and I generally don't look at those specific numbers:

******************************
Probability Calculation
We take the underlying stock price, the break even point (target price), the days to expiration, and the 52-week historical volatility, and then use those figures in this formula. Depending on the strategy, we use the above or below probability (i.e., the probability the price crosses the break even point).

Pabove = N(d)
Pbelow = 1 - N(d)
where
N(d)= x if d > 0
= (1-x) if d < 0
and
d = 1n(b/l) / v√t,
y = 1/(1 + 0.2316419|d|),
z = 0.3989423e - (d*d)/2,
x = 1 - z(1.330274y⁵ - 1.821256y⁴ + 1.781478y³ - 0.356538y² + 0.3193815y)
and
b = break even point
l = last price
v = 52-week historical volatility
t = days to expiration
e = 2.71828
**********************************

For instance, GM has traded between 28-40 for the past 10 years and is basically a sideways company. It went bankrupt and bailed out by the government in 2009 and since then has . And it still stayed between 28-40. It has had ample opportunity to go beyond those bounds and it has only done that twice I think.

So if you decide to do a put credit spread (a neutral to bull position) against GM, and the stock price is 32, I would think the chance of it going below 28 in 1 month is close to zero. Not impossible...but very very low. Therefore the probability of profit would be closer to 100%. With that trade you are not going to make that much.


Third the result of the credit spread is not binary. It's not you profit 35 or lose 300. In reality it is a spectrum of winning and positions are often closed prior to expiration. I do admit that in my fake example I didn't choose great numbers.

Now lemme see if I can find some real world numbers here.....

 

[Shufflin]

Someone once tried to teach me Kanji. Very hard stuff. After reading this thread, I'll take Kanji.

 

[cyanide12345678]

I'm already on it! credit spreads are coming up. They will be useful for sure. I'm just trying to work on how to optimize the profit/loss for what I want to do, which is relatively conservative stuff. You know...deciding on the moneyness of the short put, how wide to make the spread (e.g. where to buy the long put), etc. I've read it's harder to manage credit spreads if they go bad than just regular ol' cash-secured puts. But it's just a matter of time before I try one.

It's like learning to ride a bike when you are young. I remember being terrified to even get on it and did everything I could to protect myself if I fell. Same thing with options. I'm not going to do anything crazy at first (and hopefully ever). Experienced option traders will do something like

Stock Price XYZ: 50
Sell Put 49 Strike: 1.60
Buy Put 47 Strike: 1.00
Net Credit: 0.60 (1.60 - 1.0)
Max Loss: 1.4 (49 - 47 - 0.6)
Probability of Profit: 57%
Return on Capital: 0.6 / 1.4 = 42%

Traders try to get a profit (or return on capital) of 33% or more of the credit spread. The problem I have with the trade above is that the stock very likely might go to 48 or around that and it's just more complicated in terms of how to manage this credit spread to limit risk than a similar cash-secured put (where you just sell the 49 Put strike and wait). You can roll down short put, just let the position go and see what happens, muck around with the long put, and there are other things one can do. But traders who watch the market continuously might be able to time things like this to make money, or they do hundreds of trades like above to squeeze out a moderate sized profit.

I will probably do something much more OTM like:

Stock Price XYZ: 50
Sell Put 44 Strike: 0.45
Buy Put 40 Strike: 0.10
Net Credit: 0.35 (0.45 - 0.1)
Max Loss: 3.65 (44 - 40 - 0.2)
Probability of Profit: 87%
Return on Capital: 0.35 / 3.65 = 9.5%

What makes this credit spread above so enticing is the distance between the stock price and the short put (50 - 44), which corresponds to a 12% drop in stock price, and the break even point of this trade would be 44 - 0.35 = 43.65, which is 12.7% drop in stock price. Assuming these options expire in 30 days...there are very few stocks that drop 12% in one month. There are literally thousands of companies that do not go up or down 12% in one month. And when they do it's usually around earnings, and all one has to do is simply not trade around earnings dates.

Who wouldn't be happy making 9.5% in one month?

There is a level of risk for all people when it comes to options. They really are unfairly vilified. You can construct spreads like the examples I gave above to make the prob of profit > 95%. You won't make that much, but you can do that. You might make 3%. That's fine! You can do whatever you want.

I like the analogy of learning to ride a bike and speeding. So appropriate. Most people drive on or just above the speed limit and they get to point B from A just fine. Almost never get caught speeding. Might get caught speeding once every 10 years. Some people ride bikes conservatively and never get into crashes. Some mountain bike on steep hills and occasionally break bones. Option trading is exactly like that. Another reason why I think people are fearful of it is that you always hear of people getting their savings "wiped out" from option trading. How often do you hear people getting "wiped out" with buying and holding stock? The reality is while people usually don't get wiped out buying stock unless they buy speculative ones...but they do lose money. If you have owned GM over the past 10 years...you have probably lost money depending on where you bought it. Literally it would have been better to buy a 10-yr treasury bond.

Just don't do stupid, risky stuff and option trading can very easily increase your general rate of return by 10-25% / year. (Maybe more?) That is...if you expect to make market returns of 8%/year, then you can increase that to 10-12% / year. All you have to do is go 5 mph over the speed limit, and never go 100 when you think nobody is looking.

I mean I'm essentially going 5 mph based on your analogy considering almost every option trade I've made is essentially 50-70% of the SP500 dropping. If all my options expire worthless, I think I'll be positive 11-12k over 2 years in an account with about 70k in there. So that's roughly an extra 8% return/yr from something as solid as the SP500. I've gone over my strategy extensively already, really it's probably hard to do something less risky compared to I'm doing. Literally doing market orders for SP500 is technically more risky because the unrealized losses can be greater than mine.

 

[cyanide12345678]

Someone once tried to teach me Kanji. Very hard stuff. After reading this thread, I'll take Kanji.

@thegenius started talking about complex things. But in reality, he's basically doing cash covered puts right now, which are extremely simple.

In fact so simple that one could learn them in 1-2 days. I learned the basics in about a day and was trading a couple days later with those strategies. All it took me was 3-5 hours of youtube videos to understand the basics.

Genius has only been doing this for a month too, he basically didn't have much knowledge on the topic 1 month ago either.

So this really isn't something that takes years and years to master.

 

[cyanide12345678]

I know I disagree....

I save/invest ~$75K/year through our pretax 401k combined employer/employee contributions along with our CBP, plus and an additional $100-200K/year (depending upon the year) posttax. Far more than $2K/month. That is how you reach FIRE. Save more than you spend. Invest in low fee index funds. You don’t need to maximize the margins. Just maximize the basics.

At least for me, my basics are covered. I put 57k into my solo 401k, then 6k each for the backdoor roth for both myself and my wife, then max my wife's retirement account. All this is essentially in a vanguard target retirement fund 2050 - doesn't get more unexciting than that. Then after that another 100-150k into a taxable account - Essentially a 3 fund portfolio between VTI, VXUS and VTEB (total municipal). About 1-2% of my total portfolio however is play money for MJ (The marijuana ETF). The industry has taken a beating recently, to me that's a good time to buy, which is what I'm doing.

AFTER covering my basics, I do options.

If very low risk money is on the table, then yes I'm going to take that money 🙂

I'm one year and 2 months out - My networth in that time span has taken a 400K swing; from neg 100k to positive 300k. So whatever I'm doing isn't that terrible lol. The argument I'm making isn't that this REPLACES normal 3 fund portfolio. It doesn't. But it optimizes and gives a little extra push to a normal 3 fund portfolio. I've read plenty of boglehead books and truly embrace the buy and hold 3 fund portfolio philosophy. And before you argue that it's not worth it, and all one needs is a 3 fund portfolio, remember that the difference of 1-2% return over a span of 30 years is millions of dollars. For some, it may be worth it which is essentially why I started this thread to point out a fairly safe investment strategy that can essentially improve returns over index investing.

 

[Groove]

I know I disagree....

I save/invest ~$75K/year through our pretax 401k combined employer/employee contributions along with our CBP, plus and an additional $100-200K/year (depending upon the year) posttax. Far more than $2K/month. That is how you reach FIRE. Save more than you spend. Invest in low fee index funds. You don’t need to maximize the margins. Just maximize the basics.

Am I reading that right? 175K-275K/yr (75K+100-200K)? That's incredible. How is that possible? Assuming that you make ~400K, your income tax alone would be 126K, leaving you only 273K take home (ignoring retirement contributions, etc.. for simplicity). So, you are investing almost your entire net income after taxes?

 

[Groove]

What platform and broker are you guys using for your options trading out of curiosity?

 

[cyanide12345678]

What platform and broker are you guys using for your options trading out of curiosity?

I'm using etrade

 

[thegenius]

I'm using etrade

Schwab....although i don’t think the tech is that good. I’ve heard good things about etrade and to ameritrade, but the latter is being bought out by schwab for 26B by the end of the year.

 

[thegenius]

Am I reading that right? 175K-275K/yr (75K+100-200K)? That's incredible. How is that possible? Assuming that you make ~400K, your income tax alone would be 126K, leaving you only 273K take home (ignoring retirement contributions, etc.. for simplicity). So, you are investing almost your entire net income after taxes?

It’s probably a two doctor household....or the income among both of them is 700K ish.

It’s hard to save 225/year if one makes 400/year.

 

[wamcp]

This is solely from my income. My spouse works, but is not a physician. I save/invest the vast majority of what I earn. There isn’t a lot I feel the need to spend money on at this point in my life. Student loans paid off. Put some money into my home. I enjoy a few nice things here and there. I don’t live all that differently though than I did as a resident. I make more than the average EP. I don’t want the focus of this turn into a competition in how much someone can make. It should be focused instead on reaching financial independence boiling down to a saving versus spending issue. You can spend now, or you can save it and spend it later. You just have to be very conscious of where your money goes and what time in your life it goes out.

completely agree. This is something very doable

You guys wanna see something crazy?

Me paying 176k into student loans over a 6 month period. April 1 was my final payment, became debt free since. All while investing max contributions 401k, 457b, IRA, HSA at the same time, and spouse only making residency pay. Would show more if my bank could display the transactions older than 2 years.

plus I ain’t even ER, I’m a hospitalist

 

[bravotwozero]

erm, maybe you need to change your status to 'attending', as that simply doesn't happen as a resident lol

 

[DoctwoB]

The other thing I don’t see discussed here is a risk of margin calls. The problem with selling safe puts on broad index funds is that if they’re ever in the money it means things are really going to ****. So say you have contracts out using your margin buying power on 500k of VTI at 80 (~60% decline). The economy tanks in unprecedented fashion and now VTI is worth 60 and stays there for a year or 2 so a lot of your options are in the money. Maybe in a vacuum you’re ok with buying 500k of VTI at 80. But Not only are you on the hook for finding 500k to buy those shares, now your margin buying power (based on your brokerage account, which is largely based on stocks, which also just tanked 70%) Is also down 70%. Which means if you were using more then 30% of your margin buying power, your brokerage is going to need you to write them a fat check or cover your margin positions and lock in the loss rather then just buy and hold like you had PlanneD

This is all occurring during the worst recession in recent history. Your salary is probably cut by your employer which is struggling to remain solvent. Your home value is tanking. Lending/home equity lines of credit have mostly dried up.

The likelihood of this happening is slim to hopefully none, but if you’re betting against catastrophe, If you lose it’s in the setting of a catastrophe and your normal bailouts (salary, lending, your brokerage account) may not apply.

 

[Groove]

completely agree. This is something very doable

You guys wanna see something crazy?

Me paying 176k into student loans over a 6 month period. April 1 was my final payment, became debt free since. All while investing max contributions 401k, 457b, IRA, HSA at the same time, and spouse only making residency pay. Would show more if my bank could display the transactions older than 2 years.

plus I ain’t even ER, I’m a hospitalist

Are you W2 or 1099? If you are W2, you are killing it as a hospitalist. If you're 1099, I hope you're paying your income tax before you write those fat checks to Uncle Sam. Regardless, congrats!

 

[cyanide12345678]

Are you W2 or 1099? If you are W2, you are killing it as a hospitalist. If you're 1099, I hope you're paying your income tax before you write those fat checks to Uncle Sam. Regardless, congrats!

It's really not that hard if you have a decent income to make massive debt payments. I paid $150k in 6 months to become debt free. I am 1099 and that was after putting aside money for taxes. As a hospitalist though a little more impressive since that person probably makes a little less than me.

 

[cyanide12345678]

The other thing I don’t see discussed here is a risk of margin calls. The problem with selling safe puts on broad index funds is that if they’re ever in the money it means things are really going to ****. So say you have contracts out using your margin buying power on 500k of VTI at 80 (~60% decline). The economy tanks in unprecedented fashion and now VTI is worth 60 and stays there for a year or 2 so a lot of your options are in the money. Maybe in a vacuum you’re ok with buying 500k of VTI at 80. But Not only are you on the hook for finding 500k to buy those shares, now your margin buying power (based on your brokerage account, which is largely based on stocks, which also just tanked 70%) Is also down 70%. Which means if you were using more then 30% of your margin buying power, your brokerage is going to need you to write them a fat check or cover your margin positions and lock in the loss rather then just buy and hold like you had PlanneD

This is all occurring during the worst recession in recent history. Your salary is probably cut by your employer which is struggling to remain solvent. Your home value is tanking. Lending/home equity lines of credit have mostly dried up.

The likelihood of this happening is slim to hopefully none, but if you’re betting against catastrophe, If you lose it’s in the setting of a catastrophe and your normal bailouts (salary, lending, your brokerage account) may not apply.

I'm betting on myself to still have decent income.

Market doesn't go from 100 to 40 in a month usually. It takes a while, the average recession lasts around 9-10 months, there are plenty of dead bounces in between when people think the bottom has arrived.

In a 9 month period, if i continue investing 10-20k/mo into vti, then all the new money adds to buying power and maintains the minimum 25 percent needed in an account. In fact, those might be some of the best buys of my life.

Also...500k of vti will be spread over several months, not just 1 month. Right now all my trades are such that i can't be on the hook for more than 30k of purchases any given month. This also makes it very comfortable to continue to cash flow any options that end up in the money. So let's say vti is 60 percent down for 4 months before it jumps up, then im on the hook for 120k over 4 months as an example, which really just requires 60k of new money and the rest can be margin to buy time.

With a current family income of 500k, and an expected family income around 600k one my wife starts as FM, I'm pretty sure i can cash flow that in a heart beat.

Other backups for cash flow: m1 finance account that provides 35% of portfolio at 2% margin. I invest 2k/mo there and have 53k there right now. Heloc also if necessary once i buy a home.

Also as the account gets bigger, i don't plan on using all my buying power at any time.

And lastly, don't forget, at any point in my life, i can always buy back and close a sold option contract which releases buying power immediately. If you cancel a few contracts, maybe take a couple thousand dollar loss, reduce your taxes with the loss, then you can basically avoid any catastrophe.

All those options buy you time to pay for those stock buys at a 60 percent discount. Those buys will ultimately mean significant wealth when the market eventually goes up.

 

[pkwraith]

I've certainly looked at options, but honestly it's way too much work and effort for me with a high downside to **** things up especially if I leverage. And that's for someone who already have a few different brokerage accounts and hold big chunks of individual stocks outside of my index funds. Yeah, you can get pretty good yields on options, but there are plenty of stocks (my TSLA stocks appears to be up 755.31% for example) with similar yields and way less potential downsides. But kudos for everyone that makes options work for them, and probably a lot more fun too.

 

[thegenius]

The other thing I don’t see discussed here is a risk of margin calls. The problem with selling safe puts on broad index funds is that if they’re ever in the money it means things are really going to ****. So say you have contracts out using your margin buying power on 500k of VTI at 80 (~60% decline). The economy tanks in unprecedented fashion and now VTI is worth 60 and stays there for a year or 2 so a lot of your options are in the money. Maybe in a vacuum you’re ok with buying 500k of VTI at 80. But Not only are you on the hook for finding 500k to buy those shares, now your margin buying power (based on your brokerage account, which is largely based on stocks, which also just tanked 70%) Is also down 70%. Which means if you were using more then 30% of your margin buying power, your brokerage is going to need you to write them a fat check or cover your margin positions and lock in the loss rather then just buy and hold like you had PlanneD

This is all occurring during the worst recession in recent history. Your salary is probably cut by your employer which is struggling to remain solvent. Your home value is tanking. Lending/home equity lines of credit have mostly dried up.

The likelihood of this happening is slim to hopefully none, but if you’re betting against catastrophe, If you lose it’s in the setting of a catastrophe and your normal bailouts (salary, lending, your brokerage account) may not apply.

Well this is a lot like saying "I don't see people talking about the risk of driving 125 in a 65 zone."

1. You don't have to use margin to trade options.
2. If you use margin there are rules about how much margin you can have. If your account has 20K cash, you usually get 2x in margin (e.g. 40K buying power) and NOT 200K or 400K buying power.
3. If you have a margin account you are not obligated to use any of it. You can dip into it when you want, you don't have to use all of it.
4. I don't see this as a big issue as on some level people have to take responsibility for their trading. It's not common, although I'm sure it has happened, that Joe Schmoe opens an account, with margin, and the first trade they do loses 5x their deposits.

While I personally agree with you that selling deep OTM puts, like really deep, on SPY or VTI is not a good use of capital and there are better, more safe ways to make similar ROI, people who drive 125 in a 65 zone know they are breaking the rules, and know they are at high risk of bad things happening.

 

[thegenius]

And lastly, don't forget, at any point in my life, i can always buy back and close a sold option contract which releases buying power immediately. If you cancel a few contracts, maybe take a couple thousand dollar loss, reduce your taxes with the loss, then you can basically avoid any catastrophe.

That's the key...you can close your positions for a much smaller loss than the max loss.