On Monday I proposed an income-based options trade using the Russell 2000 proxy ETF ( IWM ) .
With IWM trading at $70.86 I placed the following credit spread:
- Sell to open IWM Sep11 78 call
- Buy to open IWM Sep11 80 call for a total net credit of $0.24
To briefly recap: a credit spread is when you perform two or more options transactions simultaneously and collect up front income - or a credit - for your account. A debit spread would be the opposite: two or more options transactions that you pay up front - or debit - your account.
My Monday trade allowed IWM to move lower, sideways or even 9.8 percent higher over the next 32 days (September 16 is options expiration).
As long as IWM closed below $78 at or before options expiration the trade will make approximately 12.0 percent.
The recent collapse has actually helped the trade to reap 10 percent of the 12 percent. With only 2 percent left of value in the trade it is time to lock in the 10 percent profit and move on to another trade.
I am always looking to lock in a profit and to take unneeded risk off the table especially, if better opportunities are available.
My intent is to buy back the trade by doing the following:
- Buy to close IWM Sep11 78 call
- Sell to close IWM Sep11 80 call for a limit price of $0.04
That means that I'm locking in 20 cents in profit on every $2 invested. That's a 10% gain in less than 5 days. Not too shabby.
Fear has increased dramatically since Monday's trade. And as a result, options prices have skyrocketed higher.
Look no further than the VIX (investor's fear gauge) to see that the fear is palpable.
On Monday, the VIX was trading at 35, now it is up almost 30 percent higher trading at 45.
What does this mean for those of us who sell options for income?
It means that we can sell options for far greater prices than we could just five days ago.
Because fear brings increased volatility. And increased volatility brings higher options premium. And higher options premium, means that options traders who sell options can bring in more income on a monthly basis.
As a result of the increased volatility and higher options prices I will place the following credit spread trade:
- Sell to open IWM Sep11 75 call
- Buy to open IWM Sep11 77 call for a total net credit of $0.27
The trade allows IWM to move lower, sideways or even 12.8 percent higher over the next 28 days (September 16 is options expiration). As long as IWM closed below $75 at or before options expiration the trade will make approximately 13.5 percent.
Again, credit spreads are a great strategy, because a highly liquid and large ETF like IWM almost never makes big moves and even if it does, increased volatility allows me to create a larger than normal cushion just in case I am wrong about the direction of the trade. So, selling and buying these two calls essentially gives you a high probability of success - because you're betting that IWM will not rise over roughly 13 percent over the next 28 days.
Again, my space is limited here so I will go into greater detail next week. The questions have been rolling in and please keep them coming! Email me at email@example.com .
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.