Defending Option Trades

How are we defending option tradesThe market goes up for years. we sell naked options when we are directional in our assumptions, what can you do if your strike is breached? How are we defending option trades? How can you adjust your naked position in such a way that you can close the position without a loss.

Now, we will look at how to defend a Naked Short Call when the strike of the naked call is breached. We does this by selling the ATM Put which has the same strike as the short call. By doing this we create a Straddle.

Study of defending option Trades

All information on this blogged is backed up with research. How is the research conducted by tastytrade:

  • We look at the SPY, from 2005 to today
  • Sold 45 DTE Call (30 delta = nearest OTM)
  • Compared defensive tactics if the short call was breached with 30 days or less left in trade:
    • Holding trade and managing at 50% if possible
    • Adding ATM Short Put to make Straddle

Set up naked options

If you have the assumption that a stock will go down, what does she do? She sells the nearest out of the money call. We sell options to receive option premium with the aim to keep it. This call is approximately 30 delta when trading stock options. The naked call has a probability of 70% being in the money.

 

Adjustment of the trade

If the underlying goes against you, turn your naked call into a straddle by selling a put. You will collect more premium for the put you sell.

This means for your position that you lover your probability of profit from 70% for a naked call to a 50% for a straddle. While doing this you neutralize the delta and in 70% of the cases you can scratch the position.

Defending naked call

 

 

 

 

 

 

 

 

 

Market Measures: Defending Naked Option Positions via @tastytrade

 

Result of the adjustment

If you look at all occurrences that the strike was breached, You will discover that selling the Put turned average profits positive and kept the win rate the same. Doing this it helped minimize the losses on large losers.

 

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