A -21% move was considered unreasonable and impossible...until it happened. That's exactly the point - neither you or I can sit here and define what can reasonably happen. If you're saying that it's such a low probability that you're willing to risk your entire account on it, then fine. However...
The second point was that it doesn't take anywhere close to an unprecedented scenario to wipe you out. As mentioned in the previous post, there's a decent chance a 5% gap could take you out and 10% almost certainly will.
I can't post links or images yet, but I used SPY as a proxy for the 9/11 return. Closed at 110.05 and re-opened at 101.00 (-8.2%) with a low of 100.00 (-9.1%). Doesn't matter...the differences are rounding errors and the larger point stands.
Again, limiting risk assessment (and position sizing) to historical prices fails to consider an entire world of unknowns that we just haven't seen (yet). Even if that were sufficient, the sizing being used here almost certainly would not have survived the IV explosion.
Not to take anything from Ron, but this is a differing opinion that I think is essential for a healthy discussion to let new traders (last two years) know the risk involved. Ron strategy works great in low IV markets in the last two years as his data has proved. But you are hitting on some key points about IV pop that would send option premiums through the roof, I've seen it happen in 08-09 and during the S&P downgrade in 2012, (not referring to gvt shutdown).
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It seems highly unlikely that a 21% drop (1987) will occur in a modern electronic market. These types of gaps were possible back when there was no overnight trading.
Also, ES options are open nearly 24 hours so this whole discussion is moot since you can always get out (admittedly with some slippage in the overnight hours) unless the exchange is shut down such as 9/11. Unless you think a 21% drop is possible between when the markets close 4:15pm and open 6pm EST.
Alternatively, long before we experience a 444 point drop in the market (a 21% drop) I would be buying VXX calls to offset the IV skew and you could simply purchase the equivalent underlying ES futures to offset the delta (once you start approaching ATM). These are both strong offsets to the short options with low (and stable) margin requirements.
Of course there are always wipe out risks even considering these options. I could be hit by a bus tomorrow, WWIII could erupt from Iran or N Korea and nuke us all, zombie apocalypse. Nothing is 100% safe. The question is are the probabilities of wipe out sufficiently low enough to justify the risk?
The way I gear my account, the only no win scenario is a market shut down such as 9/11 where there is a >15% drop and a VIX increase of >12% (upon market re-open). This has never occurred in my lifetime but it certainly could. That being said this lower gearing ratio would allow for an average of a 20% APR (much less than Ron's returns) even including losing years (such as 2008). Therefore, as long as this wipe-out event does not occur more than 1 time out of every 5 years (and I set aside sufficient funds to refund a wiped out account) this is a winning expectancy system.
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If there's a major terror attack, natural disaster, etc. that occurs while the market is open, do you really think there is going to be someone there to willingly sell you puts (or vix calls)? That's if the market doesn't close immediately (most likely). During the flash crash (on no news) some stocks went .01 bid. You're kidding yourself if you think any kind of orderly market will be there for you to cover your risk.
In most cases, yes. I traded around 9/11, during Katrina, all during 2008, and the day of the flash crash. Prices were wild but you could get filled (maybe not at great prices but still). You could cover your risk.
Indexes and futures are not nearly the same thing as individual stocks in terms of liquidity.
You also didn't say anything about my last point. If you have returns that fund an account within a few years you only need to avoid wiping out every few years. Anything over that is positive expectancy. The scenarios you are discussing might happen once a lifetime if they happen at all.
In general, I agree with you that we should manage wipe-out risk (even the unknowns) and always be cognizant of it. On the other hand, being afraid to go to work tomorrow morning because a meteor might strike me down seems like a prohibitive way to live.
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