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Selling Options on Futures?
Started:July 19th, 2011 (06:16 PM) by ron99 Views / Replies:569,025 / 5,728
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Selling Options on Futures?

Old September 2nd, 2015, 07:11 PM   #4961 (permalink)
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I have been playing around with different combinations of spreads for ES to try and minimize black swan damage and came to the following conclusion:

- Less risk means less profits.
- Minimizing risk can be achieved through proper position sizing.
- Complex multi-leg spreads are difficult to execute (and unwind) and I will inevitably screw something up royally (which is another type of risk).
- Can't eliminate risk completely. We are getting paid to take risk.


So with these new revelations, I have decided that I am going to use the following:

- Dynamic position sizing of 3xIM when market is in an uptrend and VIX at calm levels (< 20). Reducing position by half when in sideways mode. Staying out when in downtrend (like right now). This thinking is in the same lines of pressing bets when it's safer and reducing risk when it's not so safe. By uptrend I mean higher highs and higher lows, sideways is where it's not clear, and downtrend lower highs and lower lows.
- During downtrend when I am not selling ES options, I am going to look at other markets that are calmer to conduct business until things settle down.

I understand that this adds a different kind of complexity to the strategy, such as being able to interpret the daily chart correctly. But my thoughts are that using a mutually exclusive element to this strategy could provide a dimension and insight that can't be gained from just looking at the numbers. Of course this is all easier said than done and I have no way to backtest or provide quantitative numbers to back this kind of thinking, but @ron99 has contributed so much by sharing his strategy and want to contribute as much as I can... even if this strategy has glaring holes.

Please feel free to provide feedback as brutal as it may be.

Nothing in life is to be feared, it is only to be understood. Now is the time that we understand more, so that we may fear less. - Marie Curie

Last edited by fminus; September 2nd, 2015 at 07:19 PM. Reason: typo
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Old September 2nd, 2015, 08:08 PM   #4962 (permalink)
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fminus View Post
- Dynamic position sizing of 3xIM when market is in an uptrend and VIX at calm levels (< 20). Reducing position by half when in sideways mode. Staying out when in downtrend (like right now). This thinking is in the same lines of pressing bets when it's safer and reducing risk when it's not so safe. By uptrend I mean higher highs and higher lows, sideways is where it's not clear, and downtrend lower highs and lower lows.
- During downtrend when I am not selling ES options, I am going to look at other markets that are calmer to conduct business until things settle down.

Question is how accurately can you guage when you are in an up-trending/sideways and down-trending market? On Aug 19th I think you would have considered us to be in a sideways market but just 3 days later we traded almost 11% lower and the VIX went from 15 to over 40. Also while I understand that there is a reason the VIX is called the 'Fear Index' and that high levels often indicate uncertainty, but selling options in higher volatility environments means a lot more premium, which means a lot more protection from both a break-even price and 3xIM standpoint. Prices screamed last Monday more due to vol than price.

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Old September 2nd, 2015, 08:34 PM   #4963 (permalink)
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fminus View Post
I have been playing around with different combinations of spreads for ES to try and minimize black swan damage and came to the following conclusion:

- Less risk means less profits.

Not always. Preventing one 30+% loss can make up for slightly less profit per trade.

- Minimizing risk can be achieved through proper position sizing.

Position sizing would not have prevented major losses last week.

- Complex multi-leg spreads are difficult to execute (and unwind) and I will inevitably screw something up royally (which is another type of risk).

Buying 2 longs for each short isn't that complex.

- Can't eliminate risk completely. We are getting paid to take risk.

Agree

So with these new revelations, I have decided that I am going to use the following:

- Dynamic position sizing of 3xIM when market is in an uptrend and VIX at calm levels (< 20). Reducing position by half when in sideways mode. Staying out when in downtrend (like right now). This thinking is in the same lines of pressing bets when it's safer and reducing risk when it's not so safe. By uptrend I mean higher highs and higher lows, sideways is where it's not clear, and downtrend lower highs and lower lows.

Do a backtest and pretend it was 8/17/15. What positions would you have had on based on the information of that day? Where would those positions be 7 days later.

- During downtrend when I am not selling ES options, I am going to look at other markets that are calmer to conduct business until things settle down.

I understand that this adds a different kind of complexity to the strategy, such as being able to interpret the daily chart correctly. But my thoughts are that using a mutually exclusive element to this strategy could provide a dimension and insight that can't be gained from just looking at the numbers. Of course this is all easier said than done and I have no way to backtest or provide quantitative numbers to back this kind of thinking, but @ron99 has contributed so much by sharing his strategy and want to contribute as much as I can... even if this strategy has glaring holes.

Please feel free to provide feedback as brutal as it may be.

.

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Old September 2nd, 2015, 09:02 PM   #4964 (permalink)
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SMCJB View Post
Question is how accurately can you guage when you are in an up-trending/sideways and down-trending market? On Aug 19th I think you would have considered us to be in a sideways market but just 3 days later we traded almost 11% lower and the VIX went from 15 to over 40. Also while I understand that there is a reason the VIX is called the 'Fear Index' and that high levels often indicate uncertainty, but selling options in higher volatility environments means a lot more premium, which means a lot more protection from both a break-even price and 3xIM standpoint. Prices screamed last Monday more due to vol than price.

I agree that selling options in high volatility environments means more premium, but times like these aren't constant and I'd be wary of selling 3xIM in this environment with this kind of volatility. I sold some puts with the volatility increase but it was a super small position. The norm is that VIX is pretty low (below 20) which is generally indicative of a sideways, uptrend, or even temporary pullback. I think Ron's method works best during low "fear" times hence the inclusion of VIX into the mix. I think the biggest risk to his method is the sudden "fear" explosion and perhaps some criteria of VIX increasing too much too fast is an exit criteria. Then again, this could be the new norm...


Quoting 
Do a backtest and pretend it was 8/17/15. What positions would you have had on based on the information of that day? Where would those positions be 7 days later.

I will have to go home and try to create some kind of backtest and I will report back, but essentially what I am proposing is using IMx3 criteria with IMx3 exit when there's low fear and uptrend, IMx6 with IMx3 exit when there's moderate fear and sideways market, and something like a IMx10 with IMx3 exit (or no trade at all) when there's a significant amount of fear and downtrend.

Just throwing stuff out there since it seems like everyone out there is just waiting for Ron to give them an answer on what to do next.

Nothing in life is to be feared, it is only to be understood. Now is the time that we understand more, so that we may fear less. - Marie Curie
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Old September 2nd, 2015, 09:32 PM   #4965 (permalink)
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I sold some puts with the volatility increase but it was a super small position.

How'd they do?

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Old September 2nd, 2015, 09:42 PM   #4966 (permalink)
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Fminus -

I think you should also look beyond VIX to the at-the-money implied volatility (and skew) of the contract months you're interested in selling. You will almost always find a somewhat different picture. Same goes for looking at $OVX or $OIV for crude oil, which also use the VIX methodology. At a glance you can tell if IV is high or low relative to a year ago or five years ago, but these "VIX" indices tell you nothing about the month you might be interested in. Term structure and skew can help you make a better R:R trade, or perhaps keep you out of a dangerous market altogether.

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Old September 2nd, 2015, 09:53 PM   #4967 (permalink)
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SMCJB View Post
How'd they do?

They're doing fine so far. I sold the OESZ5 P1100 for 4.00 on 8/25 which was about a .03 delta-ish at the time. It settled at 2.20 today.


Quoting 
Term structure and skew can help you make a better R:R trade, or perhaps keep you out of a dangerous market altogether.

@CafeGrande What do you mean by term structure? I've never heard of that term before and I would appreciate it if you could expand on your comment.

Nothing in life is to be feared, it is only to be understood. Now is the time that we understand more, so that we may fear less. - Marie Curie
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Old September 2nd, 2015, 10:22 PM   #4968 (permalink)
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Term (time) structure of the market. Because a lot of the big money speculation takes place in the front months you'll often see a steeper IV nearby than in the deferred months (this may change depending on product, seasonality and sentiment). If I remember correctly, the VIX method captures 8 to 30 day options and you're quite likely selling farther out than that. Thus, it pays to look at what you're actually going to be selling, its history, and what the structure might mean. Is it out of whack?

Here are two examples.
1. Gray and white background. Standard and serial ES options (no weekly, no end of month)

2. Tan background. "Constant maturity" options comparing the term structure on Mon 8/24 with Tue 9/1. Note the very steep structure for 1 week and 1 month options on Mon the 24th (and this was at settlement, after most of the craziness) compared to the Tue 9/1 close.

Attached Thumbnails
Selling Options on Futures?-term-bm.png   Selling Options on Futures?-term-2-bm.png  

Last edited by CafeGrande; September 2nd, 2015 at 10:41 PM. Reason: Add attachment
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Old September 2nd, 2015, 11:32 PM   #4969 (permalink)
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fminus View Post
They're doing fine so far. I sold the OESZ5 P1100 for 4.00 on 8/25 which was about a .03 delta-ish at the time. It settled at 2.20 today.

That was sort of my point. Your up 50% in a week and I'm pretty sure they were even lower last week. A lot of your gain is the drop in the vol, rather than the price rally.



fminus View Post
@CafeGrande What do you mean by term structure? I've never heard of that term before and I would appreciate it if you could expand on your comment.


CafeGrande View Post
Term (time) structure of the market. Because a lot of the big money speculation takes place in the front months you'll often see a steeper IV nearby than in the deferred months (this may change depending on product, seasonality and sentiment). If I remember correctly, the VIX method captures 8 to 30 day options and you're quite likely selling farther out than that. Thus, it pays to look at what you're actually going to be selling, its history, and what the structure might mean. Is it out of whack?

Here are two examples.
1. Gray and white background. Standard and serial ES options (no weekly, no end of month)

2. Tan background. "Constant maturity" options comparing the term structure on Mon 8/24 with Tue 9/1. Note the very steep structure for 1 week and 1 month options on Mon the 24th (and this was at settlement, after most of the craziness) compared to the Tue 9/1 close.

You can actually go a step further and model term structure as a 3D surface -adding in Strike so then you are also modelling volatility skew as well as volatility relative to expiry. A lot of the commercial option software packages will do it for you but it's pretty easy to do yourself in excel.

Re the VIX, apologies if this is obvious but there are actually 3 different S&P500 Volatility Index's.
- VXST is the CBOE Short-Term Volatility Index based upon expectations of 9-day volatility.
- VIX is the CBOE Volatility Index and reflects 30-day future volatility and
- VXV is the CBOE 3-Month Volatility Index and is designed to be a constant measure of 3-month implied volatility of the S&P 500 (SPX) Index options.
There's actually dozens of different Volatility Index's for each Equity Index/CountryCommodity etc. There's even VVIX which is the Volatility of the VIX itself!
Volatility Indexes (VIX, VXD, VXN, RVX, VXO, VXV, VPD, VPN, GVZ, OVX, VXAPL, VXTH, LOVOL)

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Old September 3rd, 2015, 01:24 AM   #4970 (permalink)
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SMCJB View Post
You can actually go a step further and model term structure as a 3D surface -adding in Strike so then you are also modelling volatility skew as well as volatility relative to expiry. A lot of the commercial option software packages will do it for you but it's pretty easy to do yourself in excel.

Thanks for fleshing that out a bit and for the reminder about the VIX being 30 days, sandwiched by shorter and longer measures. I believe the VIX methodology is 8 to 30 days on the physical products like oil plus corn, soy and wheat CIV/CIX, SIV/SIX, WIX/WIV, but I'd have to double check.

One thing's for sure, it's a lot easier to obtain option volatility data now than it was just a couple of years ago. The CBOE link you provided is a good resource as is the CME options page (some daily ES studies plus the free version of Quikstrike).

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