Today's Market Moves

October 9, 2017

Today the worst thing that could happen did happen for my imperiled position in $SMH. I was hoping for a gap down or at least a reversal today, but instead the stock gapped up and ran into the mid 95's. Since the short call strike at 95 was breached, I decided to make an adjustment to the position.

 

The $SMH position is the Nov17 79/84/95/100 iron condor, sold for 1.05. Iron condors are Delta neutral trades and profit solely from time decay and declining implied volatility unless the stock moves decidedly in one direction, as $SMH has done. Because the stock has relentlessly risen over the past two weeks, that iron condor has become Delta short or Delta negative, meaning it now benefits from falling stock price. What that means is that now I am effectively short a stock that has been rising at a strong clip - not ideal. When this happens, you can adjust an iron condor back to a more neutral Delta positioning by "rolling up" the put vertical half of the position.

 

Generally speaking, by the time the short call strike is breached on an iron condor, the put vertical half of the position is nearly 100% profitable. So, what you can do is close that vertical and simultaneously open a new one with closer to the money strikes to take in more net credit or premium and hedge the Delta positioning. Doing it this way will decrease maximum loss potential and will not add margin. However in my case, the put vertical still had some money left on the table so-to-speak, and so instead of closing that and opening a new put vertical, I kept it on while still opening a new put vertical at-the-money. This will increase max loss potential and margin requirement on the position, but in my eyes it was worth it as that 79/84 put spread is extremely far out-of-the-money and there's about 0.20 left to profit.

 

Before the adjustment, my 79/84/95/100 iron condor has a Delta of -0.32 or so, meaning that a one point increase in the underlying stock would mean an increase in price of the option position by 0.32 - which is bad because in a credit position you want the price of the spread to decrease. That is quite Delta negative, and so by going in and selling the Nov17 90/95 put vertical with a positive Delta of 0.25 or so, I've effectively reduced the Delta on the entire position to -0.07 and increase the net credit taken in by a large amount. I've basically created an Iron Butterfly, but technically it's not because of the OTM 79/84 puts that I still have open.

 

What this does for my position is extends the breakeven range to the upside by over a dollar and brings the downside breakeven closer to the underlying stock price, creating a tight window for the stock to trade in to remain profitable over time. This adjustment is akin to applying a tourniquet to a bleeding wound; unrealized losses will be relatively unchanged as long as $SMH does not rise or fall in price significantly over the short term. In return, if over the next 3-4 weeks the stock stays between about 93 and about 97, time decay and implied volatility contraction will cause unrealized losses in the position to be cut in half. If it remains in that range until ~1 week to expiration, the position could even be quite profitable. Of course the probability of that occurring is quite low. But this adjustment has "bought us more time" for the stock to take a breather and settle in this 93-97 range, and if it does, this medium sized loser can turn into a small loser and perhaps a scratch or small winner. It will take a move of more than 2.5 points to markedly increase unrealized losses, and that bridge will be crossed at that time. 

 

I talked about this adjustment before making it in this past Saturday Portfolio Analysis, although the new position has different strikes than the one talked about in that video.

 

For now this position is the least of my worries. Now I have to keep an eye on $WMT and perhaps $FB as they're on the rise and threatening the profitability of my options positions in those stocks.

 

 

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