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Okay, in this video, we’re going to talk about building a portfolio of trades. That’s really what we want to do. We want to be able to build a portfolio of trades. If you do a single trade, yes, you can make some money, and you can adjust it, and so forth, but what we really want to do is build a portfolio. That spreads our risk a little bit, over the course of a number of different indexes.
Most of the trades that we are going to put on are, in fact, in the indexes. We don’t normally put on these types of trades on individual stocks, because there are a couple of different risks involved in individual stocks.
Number one is early assignment. If the option that you sold goes into the money, there could be a risk there, of early assignment. Generally, on the indexes, you may not get that. You might get it, but you may not get it. A lot of these indexes are also cash-settled, so it’s much easier on you. You don’t have to worry about being assigned early, on a stock.
What we want to do is take a look at building a portfolio. The picture that you have in front of you is our demo account that we’re using for all the videos. It shows you that we have four positions on. If you take a look at the bottom of the screen, we have a Diamonds position, we have an EEM, an IWM, and a SPY position.
The Diamonds are the ETF equivalent, tracking the Dow Jones Industrial Average. The EEM is the emerging market ETF. The IWM is the Russell 2000 ETF, and the SPY is the SMP 500 ETF. We generally build our portfolio between 30 and 40 days before our expiration.
Right now, we’re about 23 days to expiration. We’ve had these trades on for just a few days, about a week or so. Like I said, in the beginning, your position is not going to show a profit. Normally, what happens to an option, before it gets to expiration – the closer it gets to expiration, the less valuable it becomes. It declines in price, and that’s exactly what we want to see. We want to see a decay of the options that we have sold. That’s how we’ve collected the premium, and we want to be able to collect it. We want to keep that premium, and the only way we can is if those options decline in value.
The closer we get to expiration, there’s less probability that those will ever become valuable. That’s how we collect our money.
This is an aggregate portfolio position, that we have in our demo account. The white line that you can see here is our current profit and loss position. We have a small loss on the position overall, but that’s only because we have just entered into the position. The green line is our maximum profit potential, which we will experience on option expiration.
In our case, we’re selling the May options, which has a little more than 3 weeks to go, before expiration. The majority of your profits are going to come between now – about 3 weeks to expiration – and about 7 days to expiration. There’s a 2 week period in which this white line will gradually rise, up into this position up here, giving us a 50 – 70% profit potential on this position, of our maximum potential profit.
That’s where we want to start taking positions off. We normally do not hold these positions all the way to expiration, only because in the last few days of expiration, there’s more price risk with our position. But it depends. In the other videos on closing out positions, you can see exactly why we close out positions and when we did them.
Let’s talk about building your portfolio. We already have our portfolio on here, but I want to show you exactly how we entered into each one of these positions, and why it’s important to do a portfolio, rather than individual trades.
We’re going to take a look at IWM. There are 4 main – they are highly liquid ETFs, with highly liquid options. Those are the four that I mentioned before. Let’s take a look at how we actually enter into these trades.
There are two types of trades that we want to do. We want to do a double calendar, and we also want to do something called an iron condor. Those are the two main trades that we really use on a monthly basis, to generate the monthly income that we get on this program.
What we want to do is go to the Trade tab. Type in IWM. You can see that the description is that it is the Russell 2000 ETF. You can take a look at the options. Right over here, on the right side, when you open up this window – if you see a window like this, and it only has 4 strike prices in it, then you want to open this up, and type in “30,” here, so you can see a great many more strike prices than you would normally. You want to really open this up and see as many strike prices as possible.
I also want to mention that, yes, even though you do make most of your money within the two or three weeks before expiration, you still want to get your positions on 30 to 40 days before expiration, because it gives you an opportunity to adjust those trades, if necessary, before you get into that period where the majority of your profits are going to be made.
It’s very important. I mention this in other videos, as you go through. The majority of option traders will simply put a position on, and if it isn’t working out for them, they close out the position. That’s why they normally have losses on their trading, because they don’t know how to adjust.