So by now you probably know that I like to close out credit positions when they have reached 70-80% of their maximum potential profit. I figure it is almost always better to take money when it is on the table rather than risk the last few pennies and have the whole trade blow up in my face.

But sometimes funny things happen. I checked on my April Correct Condor position, and with all the choppiness in the markets over the last few days, the ask on my options has dropped to zero.

In other words, there are on sellers for me to buy from and I can’t close the position. So I am being forced to keep 100% of the potential profit!

I guess worse things could happen .

My iron condor positions were getting pretty close to the 100% down point, where I would have to roll the positions to higher strikes. Then came the news out of Cyprus. Markets are down, and my positions are back into safe territory.

Trading rules are important because they take the fear and greed out of making decisions. If the positions had gone a little higher (which they still might in the future), I would roll them. If not, then I will take my profits as planned.

In case you haven’t heard, and given the lack of media coverage you might not have, the news from Cyprus is that the government has frozen all bank accounts in the country. The current plan is that the government is going to take about 10% of all the money from accounts that are over 100,000 euros and 6.75% from accounts that are under 100,000 euros.

It’s still unclear whether the Cypriot parliament will end up passing this or not.

As far as the markets are concerned, it doesn’t really matter whether the proposal passes in this form or not. The intent to steal right out of people’s bank accounts is set. Fiat accounts can not be trusted.

So what does this mean for us?

To my mind, the most important result will be a strengthening in support for gold and silver. I’m not completely convinced that gold prices will race to the moon on this news, but I am pretty sure the floor is in.

I will be selling puts on gold under $1500 and selling puts on silver under $25.

I love it when a plan comes together.

Today I closed my March iron condor position for a $0.70 debit. I actually missed the same opportunity about a week ago, but c’est la vie.

The Numbers

The position was opened for $3.10.

I just closed the position for $0.70

Net profit: $2.20

Margin Required: $30

Return on Margin: 7.3%

Annualized Return: 44%

Not too shabby.

Why Close the Position?

I get this question a lot. Why close the position? Why not just let it expire worthless?

It goes back to that old saying:

Bulls make money.

Bears make money.

Pigs get slaughtered.

In other words, take the money when the money is good. The added risk for holding all the way to expiration just isn’t worth it in my opinion. I’d rather take the majority of my position’s potential profits and move on to the next trade.

It’s less stressful than wondering what’s going on with the market and wondering if theta will outmatch delta while hoping vega doesn’t stop by in the Greek play that is options trading.

How this Trade Could be Better

I’ll be honest with you. This trade could be improved. It could be a naked strangle instead of a condor. The problem arises in the options trading level of my particular account. My broker is being a pain about raising my permissions.

Overall though, selling out of the money index options are a great way to make sizable, 44% returns without having to devote too much time to the market. There were entire weeks during which I didn’t look at the market once (mainly because I was very busy with my job).

Selling theta (time) is much easier than selling vega (volatility) or delta (price movement).

Recently, in my Choosing Correct Condors series, I went through the entry and exit rules for the trade. Today’s market action shows how important it is to have pre-defined rules for your trading.

To recap, the exit rules are:

• Close/roll the position at 20-30% of the premium if things go as expected or…
• Close/roll the position at 200% of the premium if things go badly.

The March RUT position that I opened had been doing very nicely until the last few days. The RUT began to rise, and my position went slightly into loss territory.

RUT advances, causing the call side of the condor to go into loss territory

A trader with a weak hand and no rules probably would have been shaken out. That trader would have sold for a small profit or a small loss.

That sounds OK until you realize that you can’t make a living from small profits and small losses. You need to have consistent income. That’s what Selling Puts For Income is all about.

By having rules to follow that are known before ever entering the trade, it relieves you as the trader from having to worry if this high enough, too high, or too low. Trading decisions simplify down to a yes/no.

Of course, nothing goes up in a straight line, so the RUT has pulled back today and my trade is back into profitability.

Last Friday was the 3rd Friday in January. Which means it was options expiration Friday.

Which means today is the first day of the February options month! Huzzah!

So it’s time to open a new Iron Condor on the Russell 2000 (RUT).

The RUT is currently trading around 891. Here is the options chain as of a few moments ago:

The highlighted numbers are the deltas of the options.

On the put side (right side of the chart) our put with a delta just under 0.08 is the 755 strike. So our put wing will have a buy to open (BTO) at 725 and a sell to open (STO) at 755.

On the call side, we have a bit of a conundrum. The rule is to sell to open a call that has a delta of 0.12, but we have a .1373 and a .0999. Neither one is ideal. So you can go aggressive at 960 or conservative at 970. I’m decided to go with the 970. So the call wing is STO 970 and BTO 1000.

I opened the trade for a credit of $3.20, and a margin requirement of $30. On a contract basis, my income is $320 and my margin required is $3,000. So that’s a 10.67% return if held to expiration in a couple months. Of course, that’s not the plan.

The rules for exit are:

1. If things go bad, close the position if the cost to close hits 2x our credit. In this case, if the Iron Condor costs $6.40, I’ll roll the position.
2. If things go well, close the position when you can lock in 70-80% of the credit. So I’ll close the Condor around a $0.80 net debit.

Update on March Condor

The March Condor I opened in my last Choosing Correct Condors post is progressing nicely. The net debit to close is about $2 right now. So I’m still waiting for the time value to decay some more.

Out of the available retirement plans, there is a trend for the self-employed to lean toward investing in self-directed plans.

What is a Self-Directed 401k?

A self-directed plan is a do-it-yourself investment vehicle where the individual manages his or her own funding while still carrying the same pre-tax savings as the other retirement plans. In a self-directed 401k, you make all the investment decisions instead of paying some mutual fund manager.

I’m a big fan since most mutual funds are complete wastes of money. If you want your retirement funds to track the market, then just buy a broad market ETF inside your self-directed 401k.

How Much Can You Put In a Self-Directed 401k?

The contribution limits for a self-directed 401k are the same as a regular 401k. In 2013, the limit is $17,500 for an individual plan and $49,000 for a group plan. You can kick in a little more if you are nearing retirement.

And remember, these are pre-tax deductions. So the money you set aside from your paycheck doesn’t decrease your take home pay by the same amount. Let’s run through a quick example to help make that clear. Remember, tax situations are based on your individual circumstances, so just take this as a guide.

How Does a Self-Directed 401k Affect My Taxes?

Let’s say you make $50,000 a year and get paid every 2 weeks. For simplicity, I am going to assume that you aren’t married and don’t have any kids.

Before a paycheck looked like this:

Gross pay – $1923.07
Federal tax – $331.96
SS/Medicare – $147.12

Take home pay – $1443.99

Now let’s say that you decided to divert $600 out of your paycheck to your self-direct 401k:

Gross pay – $1923.07
401k – $600
Taxable pay – $1323.07
Federal tax – $181.96
SS/Medicare – $147.12 (Sadly, you still get SS/Medicare tax based on your gross pay)

Take home pay – $993.99

Difference – $450

Essentially, $150 of your $600 401k contribution is government subsidized until you start pulling it out in retirement. That extra $150 you have in investing power compounds dramatically over time as we’ll see in a minute.

What Are the Risks?

The account itself is not any different from a regular 401k. The risk you bear will depend on how good an investor or trader you are. If you stick around Selling Puts For Income for very long, you’ll be light years ahead of most people when it comes to risk management.

What Are the Advantages?

The advantages of having your investment funds being given tax-preferred treatment are enormous over time. Let’s say you learn how to use options to boost your returns. You average 20% returns over the next 20 years. Let’s see how your $600 every two weeks comes out:

Final Value = $15,600*(1.2)^20 + $15,600*(1.2)^19 + $15,600*(1.2)^18 + … + $15,600*(1.2)^0

Final Value = $3,510,399.35

That’s three and a half million bucks. Not to shabby for taking control of your own money!

Just for kicks, if we run the same calculation on just the $150 that you get tax free in the beginning, it comes out to…

Final Value = $877,599.84

So, by doing this you get a gift from the feds of just under $900k.

Yes, you will most likely have to pay taxes on all this when you start withdrawing it (but who knows what the future holds). But that’s going to be true regardless. I’d rather have a big income than a small income

Maybe that’s just me though.

How Can I Set Up a Self-Directed 401k?

Talk to your payroll department. Working with them, you can set up an account at any brokerage. Of course, you are going to want one that has its head on straight when it comes to options.

I hope that now you can understand how powerful having control over your own money can be. And why wouldn’t you want to have control over your investment decisions? It’s your money!

By using the techniques we talk about on this site, you can bump up your returns significantly while reducing your risk. In investment-speak, that’s called having a high Sharpe ratio.

Every percentage point you increase your returns compounds over time. So your new money builds on your old money faster and faster. It’s the snowball-into-avalanche effect. Start your avalanche right now!

Here at SellingPutsForIncome.com, we are all about selling options to create income. Of course, there are a variety of strategies that you can use to create that income. Each one has its own particular advantages and disadvantages.

One of the most common decisions you have to make if you are selling puts is whether to sell a naked put or to sell a bull put spread. Here I will go over what each one involves and the advantages and disadvantages of each.

Read the rest of this entry »

If you are new to options trading, you might not have heard of the iron condor. The iron condor is an options trading strategy that utilizes four different positions. The strategy is call an condor because it has a very wide, relatively low region of profitability and then two lower wings of losses going away from the stock price.

So let’s look a little bit at how an iron condor is constructed. Like I said before, it’s composed of four positions: two puts and two calls. The lowest strike put is bought to open. The inner strike put is sold to open. The inner strike call is also sold to open. And then the highest strike call is bought to open.

You might recognize this as being two vertical spreads at the same time.

These are credit spreads. The best outcome is if the stock stays between the inner call and the inner put through expiration.

So that’s a typical iron condor. The key factors that will differentiate success and failure is your choice of dates and your choice of strikes. Most traders are far too aggressive in this area. This causes them to lose money. This guide is your step-by-step method to minimize losses as much is possible. And that means your gains should be consistent and predictable. After all, this is SellingPutsforIncome.com

Without further ado, here’s the CCC Method (Choosing Correct Condors):

Step One: Choose the Appropriate Security to Trade

For a condor, we want a security that has a little bit of volatility to it, but not too much. The small indices like the Russell 2000 are perfect. The 2000 stocks averaged together mitigate the higher volatility of the small stocks. So we end up with a nice middle ground of volatility. This gives us a nice bit of premium without going overboard on the risk.

Step Two: Choose the Correct Date

While it is true that time value decays fastest the closer you are to expiration, for these positions the risk reward trade-off just isn’t there. We want to go out farther in time, usually about three months. So if you are looking to open a trade in July, then you would be looking at the October options.

Step Three: Choose the Proper Short Put Strike

We want to choose a put that has a delta of about .08 or .09. Any higher than that, and you’ll be risking too much to volatility.

Step Four: Choose the Proper Short Call Strike

Because of the different natures of puts and calls, we can be a little bit more aggressive on the call side. Look for a call that has a delta of about .12.

Step Five: Choose the Width of Your Spreads

On the Russell 2000, typically I choose $30 spreads. The wider the spread, the fewer contracts you have to use. But on the other hand, the wider the spread, the lower your percentage premium. Like everything else, it’s a balancing act. I like the $30 spreads for the Russell, but if you’re using something else you will have to figure out that sweet spot yourself. Once you know the width of the spread, you can then select the proper long call and long put.

Step Six: Enter the Order

Because these positions have four different elements to them, the spread between the overall bid and the overall ask is usually going to be pretty wide. So you want to enter the order as a net credit with the credit premium a little bit past halfway between the bid and the ask. It should be slightly closer to the bid in order to get a quick trade execution.

Step Seven: Monitor Your Position

There are two different exit rules for an iron condor to follow. The first exit rule is if everything goes as planned. The security doesn’t go up too much, and it doesn’t go down too much. You will then buy to close the condor position when you have captured 70% to 80% of the premium. So if you sold a $4.00 credit, then you would buy it back at a $.80 to $1.00 debit.

If things do not go as planned and the volatility of the security spikes for whatever reason, then you want to close your position. If the total debit is twice as much as the credit you receive. In other words, if you sold a four dollar credit and the option spike to eight dollars, then you would close the position. After you close the position on the loss, you have the option of reentering it with new strikes following the original rules. That’s called rolling. Rolling can often turn a loss into a small profit, but watch out for transaction costs!

If you follow these seven steps, you will be able to create regular and consistent income from the stock market. And that’s really the name of the game. Swinging for the fences by buying calls is typically a losing game. In order to be successful at it, you have to be a very good chart reader and know exactly when and how far stocks are going to move.

Let’s look at an example trade that I just entered on the Russell 2000.

The Russell is currently trading at $874. I open the position using the March options with the following strikes and costs:

• $720 put, cost $2.53
• $750 put, premium $3.94
• $950 call, premium $2.27
• $980 call, cost $.58

Bid x Ask when position was entered: $2.25 x $4.05
Overall premium: $3.10 (Initially entered $3.20, but didn’t get filled)
Margin used: $30
ROI: 10.3%

So I will be monitoring this position over time. If the cost to close approaches six dollars, I will be looking to roll the position. On the other hand, if it falls to $.60, then I will be looking to close the position and take my profits.

You might be saying to yourself that losing three dollars is a lot more than gaining $2.50. And you’d be right. The beauty of selecting such far out strikes is that the probability of success is very high. Over time I do much better than two wins for each loss. Typically, it’s more on the order of five wins for one loss or six wins for one loss.

Knowing ahead of time exactly what my exit plans are is what allows me to rest comfortably and sleep at night. I’m not in the markets to get a rush. I am simply using them as a tool to make money. If you want excitement, go to the amusement park.

* Side note: You can do a non-iron condor with all calls, but the premiums are better by using puts on the downside rather than calls.

If you are new to options trading, you might be confused when you sign up at your favorite brokerage about the Options Clearing Corp. When you get options trading permissions at your brokerage, you will probably some mumbo-jumbo legalese about allowing the Options Clearing Corp to act as custodian. What does this mean?

Let’s take it step by step…

What is the Options Clearing Corp?

In a nutshell, the Options Clearing Corp is the company that settles options contracts and guarantees their value. They are standing in the marketplace and telling everyone that the options contract you trade will remain valid. In other words, they are promising you that you won’t get scammed.

If you want to see the nitty-gritty details about which markets they operate in and a bit about their history, check out their What is OCC page.

What does this have to do with your account?

Fundamentally, not much. Since options have been traded in the early 1970′s, there have been no retail-level defaults. So the OCC is doing a pretty good job. Of course, the vast majority of options expire worthless, so they don’t have a whole lot to guarantee when you get down to it.

It’s the same fact that most options expire worthless that makes selling them so appealing to generate income.

What is counter-party risk?

Counter-party risk is the risk you take on when you enter a trade that the other side might default. Let’s say you and your friend John bet on the SuperBowl. You bet that the NFC team will win, and John bets that the AFC team will prevail. The payoff is $50. What are the chances that John will stiff you for your 50 bucks when you win? That’s counter-party risk.

The Options Clearing Corp has made a whole business out of trying to eliminate counter-party risk in the options market. You pay for this business of theirs in your options commissions.

To date, they’ve done an excellent job.

Should you be worried?

While past performance is no guarantee of the future, I sleep easy at night with the OCC’s promises. Especially since we are net sellers of options, and those options expire worthless when we are holding them, there isn’t much to worry about.

So rest easy. Your investment funds are not going to evaporate because some option seller runs off with your money.

I hope this clears up some of that legalese that brokers throw at you when you open new accounts or upgrade to options trading.