Most traders follow the S&P 500 Index closely, but few equity or futures traders are able to structure trades that are profitable based solely on the passage of time. Option traders use a variety of trade structures, called credit spreads to actually make the passage of time a profitable endeavor. Unfortunately there is one catch . . . the price of the underlying asset has to cooperate.

What many readers may find interesting is that I structure my option portfolio around being positive Theta. This essentially means that the portfolio collects option premium as time passes which will be converted into profits if prices cooperate. I attempt to consistently capture close to 1% of my account value per day in positive time decay.

Inquiring minds might ask how I accomplish this task.
The answer:
multiple iron condor spreads. An iron condor spread is a credit spread where a trader takes a call credit spread and a put credit spread simultaneously. In many cases, the trader expects the underlying asset to consolidate or trade in a specific range.

I have several high probability iron condor spreads in my portfolio all the time. I trade the same trade structure using the same underlying assets over and over again. In many cases, I will have more than one iron condor spread on the same underlying asset on my books at the same time. The underlying assets that I focus my iron condor strategy around are primarily index options and index etf’s.

I trade the S&P 500 cash index (SPX), the Russell 2000 cash index (RUT), the Nasdaq 100 ETF QQQ, and the Dow Jones Industrial Average ETF which is DIA. These are just a few of the underlying assets that I trade using the iron condor strategy. I traditionally enter the trades at about 50 days to expiration using a probability of success of around 80%. Most of the time, the broader index would have to move roughly 2 standard deviations from the current price at entry to create losses in my portfolio.

Back in early July I entered an August SPX Iron Condor Spread which presently is boasting profits of around 10% on maximum potential risk. However, I wanted to show readers that recently I entered a September SPX Iron Condor Spread with about 50 days to expiration. The probability of success was around 80% for the trade to be profitable. The following chart of the S&P 500 demonstrates the price range where the new September SPX Iron Condor Spread will be profitable if held to expiration.

Chart1 (1)

As can be seen above, the new September SPX Iron Condor Spread is profitable as long as the SPX price stays between 1,785 – 2,050. The trade was entered on July 22nd in addition to the August SPX Iron Condor Spread that I was holding at the time. The chart below shows the price range in the S&P 500 Cash Index (SPX) which will be profitable if both SPX iron condor spreads are held to expiration.

Chart2 (1)

If both SPX spreads are held to expiration, the profitability range for both trades held simultaneously is 1,820 – 2,020. The probabilities are quite favorable that one if not both trades will be profitable at the August and September expirations.

The combined strategy offers a probability of close to 80% to make a positive return. Based on maximum possible risk, the typical return is between 10% – 15% depending on implied volatility changes during the holding period of the trade. At first glance, many traders write this strategy off as a poor strategy based on risk / reward. However, what other strategy offers nearly a 10% – 15% return on maximum risk with a near 80% probability of success at the time of entry?

When paired with other directional trades, having multiple, high-probability iron condor spreads on the books at the same time builds a high level of positive theta that helps support consistent portfolio profits. So far, the recently launched Technical Traders’ option service is boasting two closed trades thus far. Both trades that have been closed were quite profitable.

The first winning trade was in Facebook which was directional biased to the upside and a call diagonal spread was the trade structure chosen to use. The trade had a maximum risk of $493 per spread and produced a gross gain of $111, or 22.51% per spread. The other big winner was a FXE Put Butterfly Spread which was designed to profit partially from the passage of time and from lower FXE prices. The trade was entered with a maximum risk of $141 per spread and produced a gross gain of $53, or 37.59% per spread.

Overall, the new option service is off to a great start and currently has several additional trades which are profitable at this time. For more information, click the following link to check out the new cheaper, upgraded options service at:

Chris Vermeulen

One of the hallmarks of an options trader is the ability to reach into his trading tool bag and pull out different trading vehicles in order to accommodate the current market situation.

With few exceptions, a major component of any strategy our trader would select includes selling option premium. Premium sales usually are selected in out-of-the-money strikes where the time (extrinsic) premium constitutes 100% of the price received.

Examples of pure premium sales would include being short naked puts or calls. Another version of option premium sales would include credit spreads and iron condors wherein premium sales are combined with selling options.

It is important to remember that the time, or extrinsic premium of an option is directly related to time to expiration and implied volatility in the current 0% interest rate environment.

This current week of the options cycle is particularly difficult for two reasons. The first reason is the result of the fact that the September monthly expiration is one of four annual five week monthly options cycles. Remember that there are twelve monthly option expiration cycles, a clearly obvious fact for those possessing a calendar. What is not immediately obvious is that since there are 52 weeks in a year, four monthly cycles must contain five instead of four weeks.

Now remember from our previous discussions that the time decay of option premium is not linear. As illustrated below, time premium decay accelerates relentlessly into the closing bell at an ever accelerating pace.

Implied Volatility Option Trading

Implied Volatility Option Trading

From a practical level, the extra week of time in our five week cycle gives us an extra week of relatively sluggish decay before the accelerating decay begins to erode time premium significantly. Each week of the option cycle has particular characteristics; living in the fifth week of a five week cycle is like watching paint dry for traders depending on theta decay to benefit their positions.

The next factor that exists in our current cycle is the unusually low implied volatility that is routinely encountered across a wide variety of underlying assets. Let us look at the measure of implied volatility of the Russell 2000 index, the RVX. This measure is similar to the more frequently encountered measure of volatility for the SPX, the VIX.

As can be seen in the weekly candle chart of this volatility measure, implied volatility is at multi-year lows.

Option Trader Newsletter

Option Trader Newsletter

I consider the implied volatility to be the “stealth” component of options trading. It has impacts far greater than expected for traders and for this reason must be carefully analyzed in both a historic and current time frame for each trade considered.

In order to provide a practical example of the impact of the variable of implied volatility, let us consider how it affects a common “bread and butter” trade for most option traders. The trade is a “high probability” iron condor and consists of the combination of an out-of-the-money call credit spread and an out-of-the-money put credit spread.

The trade under discussion will be opened today and has fifty seven days to expiration. The high probability of its success derives from selecting the short options for the spread having a current delta below 10. This essentially means that these short options have a greater than 90% probability of expiring out-of-the-money. The trade therefore has a probability of being profitable in excess of 80%.

For purposes of illustration, I want to allow the magic of trade modeling to look at this trade under two different implied volatility scenarios. Displayed below is the comparison between the actual available trade today and the trade that would be possible if the volatility of the calls alone were at recent historic mean levels. I have purposely not used extreme values for the implied volatility in order to emphasize the impact of this routinely underestimated factor.


Implied Volatility P&L Graph

Implied Volatility P&L Graph

The curves above represent the expiration P&L graphs of the same trade taken at more normal volatility levels (the higher curve) and current volatility levels (the lower curve). The benchmark for comparison I have used is the annualized yield. The seemingly small modification of increasing implied volatility of the calls alone doubles the annualized trade yield from 80% to 160%!

I am a realist and understand that if we wish to trade, we must live in the world we are presented. The point of today’s missive is to call attention to the fact that what seem to be minor factors of trivial impact can have huge results on overall trading results.

Happy Trading!

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JW Jones

This material should not be considered investment advice. J.W. Jones is not a registered investment advisor. Under no circumstances should any content from this article or the website be used or interpreted as a recommendation to buy or sell any type of security or commodity contract. This material is not a solicitation for a trading approach to financial markets. Any investment decisions must in all cases be made by the reader or by his or her registered investment advisor. This information is for educational purposes only.