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Calendars will have a little bit less favorable Theta decay. It also has a much lower risk. With iron condors, your maximum loss is actually close to the same as your maximum profit. It also is limited. It’s extremely limited.
In this case, we have $45 of potential profit. The maximum loss is $55. It doesn’t matter how high this particular position goes. Prices could go into the stratosphere. We would still have maximum losses of only $55 on this position.
Iron condors can be very safe to put on. In order to achieve a maximum profit, you really need to understand the art of adjustments. That’s what this course is all about. Adjustments are the ways that we defend positions and protect positions, but also because of the way that we can rescue positions from being unprofitable, to being profitable.
This is the iron condor. What is the difference between an iron condor and a calendar? A calendar, instead of all of your positions in the same month, a calendar is just what the name says. What you’re doing is selling an option in one month, and instead of buying an option in the same month, to protect it, you’re buying an option in a different month to protect the sale of that option.
Let’s take a look, and see exactly what that means. Let’s go back to our trade tab. If we go back into our trade tab here, we will take a look at extrinsic value. Whenever you change these, it will bring up different bits of data for you to analyze.
There’s lots of different things that you can analyze here. Bid size, ask size, open interest on an option, its Delta, its Gamma, its Theta. If we were going to determine the Theta of these different positions, you can see that the most Theta is derived from those options right around the “in the money”. As we get farther and farther out, the Theta decreases, the farther we go out.
In the last example, we were going to be selling the 142 call. It had a Theta of 4 cents. We were buying the 143 to protect it. If you subtract those two, we had a 1 cent Theta on that one. We probably had close to the same Theta on the downside, here. I think we were doing this one here; the 132 puts. We had a 5 cent Theta on that one, and a 4 cent Theta on the one we were buying. It came up to about a 1.3 cent Theta, that we were achieving on that position.
Theta is strongest at right around the “in the money” options. That’s where you achieve the majority of your Theta. But it also has a very low probability of being successful.
There’s a lot of different variables and information that we can receive from this position. Right now, what we want to do is take a look at the extrinsic value. This is the actual amount of time value left in these options.
We’re going to do a very simple calendar. Remember, all the positions that we put on, are based around the basic concept of vertical spreads. The vertical spread I showed you already. You’re buying one option; you’re selling another. In this case, what we’re going to be doing, is in order to create an opportunity in which we achieve our goal of increasing Theta, we are going to be selling an option that is “at the money”.
Why would we do that? Because we want the most extrinsic value as possible. In this case, we have $2.61 of extrinsic value at the 138 strike price, on the call side. We want to sell one of those, to capture the $2.59 in credit.
What happens is, when you enter an order like this, you don’t actually buy this option. What you do is you use margin. In other words, the brokerage company determines what your risk is in this position, if you were to sell this one option. They would margin your account accordingly. They would eliminate that amount of money from your account, so that you can’t spend it – just in case this position goes against you, and you need to have the available cash to buy this option back.
The further this gets away from you, and the more money you lose on this position, the more money they’re going to take from your account, and not make it available to you for further purchases of calls or puts. Remember, the sale of an option is called “naked” selling of an option, and it’s extremely risky. So we don’t do it.
However, we do like to protect our positions. We do like to sell options, of course. But we don’t like to do it naked, or with unlimited risk.