Portfolio set-up and adjustments

The income trader strategy is based on taking in premium (credits) and then relying on time (theta decay) to work for us. As indicated in one our postings, we set up positions approximately one week before the expiration of the current option cycle. The positions are set up based on our analysis of the Greeks; specifically we look to sell at a delta o f.08 for both the call and the put sides of the trade. To be successful at this strategy, you need a platform which will enable you see the delta's of the positions that you intend to put up.

The following is a summary of the thought process that we follow in setting and adjusting our trades.

1. Our preferred instrument of choice is the RUT Index.

2. Trades are set up one week before the expiration of the current option cycle.

3. For our short options, we look to sell at a delta of .08 for a credit of not less than $1. Depending on the volatility of the market, we may get a lower credit but we prefer a credit greater than $1.

4. When we sell at a delta of .08, on a normal distribution curve, this gives us a confidence interval of approximately 84%. This means that, there is an 84% (100% - 2*8) probability of success in the trade.

5. For all positions that we put up, we tend to buy some insurance against the trade going bad. For every 10 contracts, we will at least buy 1 or 2 contracts for protection.

6. As the trade evolves and time decay sets in, the delta of the short positions will change. We will always adjust our trades, when our short delta moves from .08 to .21. As soon as our short delta gets to .21, for risk management purposes, we will roll our short positions to a lower delta, preferably back to a delta of .08. We may intend increase our contracts (but not more than half of what we already have on) to help pay for some of the roll.

7. We will close our trades when we can get out of the position for a debit of 10 cents. There is no need to be greedy.

 

This is not a mechanical process but we follow laid down rules to enable us have capital to trade another day. You will appreciate the process better when you follow our trades.