Why I’m Using Credit Spreads to Profit in This Market

by Options Sensei |

Over the past few weeks, I’ve espoused how I don’t think the recent 10% garden variety ‘correction’ represents the worst of the selling and expect larger declines in the coming weeks.

Well, I got thrown for a loop last Friday and Monday as both the “SPDR S&P 500 (SPY)” and the “Nasdaq 100 (QQQ)” rallied some 3% between the two days — leaving me to scratch my head, pondering whether this was just another dip to be bought. The charts certainly pointed to double-bottom formations and that we’d soon be back to races with new highs in sight.  But, as I’ve been discussing, I’ve shifted my approach to rely on credit spreads to help turn the odds back in my favor.

The most recent Option360 Service trade is a good example; it’s a bear vertical QQQ call spread. I sold the October 277 (10/09) call and purchased the October(10/09)  280 call, for a $1.10 net credit. I collected a total of $1.10 premium which we would keep should the QQQ’s be below $277 on the 10.09 expiration.

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This means the maximum gain is the $1.10 I collected (57% Return on Risk).  The maximum risk is $1.90, for a potential 57% Return on Risk over the 12-day holding period. Add delta to the equation and the position has a 78% probability of turning a profit. I like those odds. The original trade recommendation was posted to members on 9/22.

qqq invesco trust chart

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As you can see, the timing was right with the QQQs dropping over 2% the following day.  I followed up with an alert to sell a bull put spread to create an iron condor (essentially locking in gains). But, the market rallied too far too fast. Now, we stand where we began.

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However, two items have moved in our favor:

  1. From a technical standpoint, the QQQ’s have been rejected at the line of resistance I highlighted — the 277ish level.
  2. A week of time decay (theta) has now passed. This provides our credit spread with a solid tailwind as it’s value will continue to diminish. This is good. Remember, we sold this spread for credit, and we’re looking to close it at a lower price. Sell High, Buy Low.

One of the many things I love about the Option360 Service is it’s “unconstrained” approach.”  Meaning, choosing the option strategy that best aligns with your thesis and trading environment. Currently, we’re in a wide-ranging, high volatility phase that’s made credit spreads, both bullish and bearish. This is my go-to option strategy of late.

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