Iron Condor Example - SPX

The iron condor examples shown depict one of the best option trading strategies available, but only when used in the right way.  If someone pressed me for for the best stock option advice I could give, trading iron condors would be on the short list. 

This option trading strategy is well known to have winners an overwhelming majority of the time, but  -- when it doesn't, you need to be sure you aren't hurt and get out with a minimal loss. 

Here is an iron condor example using SPX to put on a position in the monthly options with about one month to expiration. An iron condor consists of two vertical option spreads - a call spread option and a put spread option. In this index option trade, on ten contracts each leg, 5 points wide, there will be a $550 profit if SPX stays between 1700 and 2005 by expiration in 30 days. This trade required $4450 in margin.

Can you make a living trading iron condors?

For one simple iron condor example, recently I did a test in the Thinkorswim thinkBack function to find out what would have happened if an iron condor was placed on SPX each month and held to expiration, going back to the beginning of 2014.

This iron condor example was to determine what it would take to make between $3000 and $5000 per month.  The iron condor was set with the short calls and puts at around 8 to 10 delta and 10 points wide on each leg, using 50 contracts for each leg (200 total).  It would have taken an estimated $30,000 to put this trade on each month, and that can vary significantly.

Here are the results so far:

August, 2014:  +$3375
July, 2014:  +$5323
June, 2014:  +$5625
May, 2014:  +$4125
April, 2014:  +$3250
March, 2014:  +$3500
February, 2014: +$3375
January, 2014:  +$4125

So, all we have to do is put on an iron condor every month to say goodbye to corporate slavery, right?

Well, maybe, but don't quit that day job just yet.  There's a little more to consider in this particular iron condor example.

There were several months where the SPX got uncomfortably close, within 15 points or so of the short strike on the call side. In these months the trade was down between $5000 and $6000 temporarily. You could easily wake up and find the market has gapped up or down those 15 points.

It was still a winner at expiration, but how would it have felt to hold through that drawdown, not knowing if it would go to max loss? Most traders would close it out for a loss rather than risk an even greater loss, and that would be the conservative thing to do, unless adjusting. But about as much fun as smashing your face on a sidewalk to take that kind of loss.

So you need to be careful and consider closing out a trade before it reaches a significant loss, if it is going against you.

The good news

There are things we can do to minimize the effect of the market moving against us toward the short strike of either side, making it a lot less stressful and reducing risk

One approach can be to "leg in", putting on one vertical option spread at a time, depending on whether the technicals indicate the market moving up or down. With only one vertical option spread, the market can move the other way an unlimited amount, until you leg in with the other vertical option spread. 

Another iron condor example on NFLX

Here is an iron condor example on a stock, NFLX. This is an actual trade, and we can see the power of the iron condor whether price stays between the short strikes, in this case 325 and 352.50.

As shown, this iron condor has an open profit of $1120, depicted by where the vertical line intersects the white line. The white line gradually moves to meet the red line, which is the value at expiration.

If price continues to chop around for another trading day and stays below 352.50 and expires worthless, total profit will be $1459 within a week. This trade required approximately $6000 to establish.

At the time of the screen shot, you can see that under "Theta", the chart estimates that for every day that passes in this iron condor example, the position gains $209.50, a great example of time decay of the options, or "CollectingTheta".   

Update: This trade went to full profit of approximately $1459. NFLX opened up slightly on the next trading day but remained well within where it needed to stay to remain profitable. An excellent return on around $6000 within a week.