Iron Condor Position, Protected by a Kite Spreads II

Last time, we began the discussion of how to work with a 20-lot iron condor position that was protected by three kite spreads.

We owned 3 RUT Apr 650 calls and were short 29 Apr 670/680 call spreads and the discussion now moves towards the need to make an adjustment.

The risk graph doesn't look bad.  There's not much to lose – as things stand today.  But as the days pass, risk increases when RUT is near, and especially above, 670.  See Part I for a more detailed discussion.

Adjustments

When working with kite spreads, there is the temptation to do nothing because the risk graph looks so reasonable.  The passage of time changes the picture drastically, and the prudent kite user adjusts in advance.

I like to use several different adjustment types, and I've decided to combine three of them for  consideration.  These are not specifically recommended, but may give you an idea that you had not previously considered.

1a) Sell your long options.  They are probably costly options and they served their purpose.

1b) Replace those calls.  My most common play is to roll them by one strike.  That means buy 660s and sell 650s.  My idea of the right time to do this is when I can collect between $6 and $6.50 for the spread.  This play is not as good when you still hold this position very near expiration.

1c) In today's example, I went further.  The first adjustment is to sell 3 RUT Apr 650s and buy 6 Apr 670s.  One reason is that I prefer to own the three extra options.  The second is that it's time to begin to exit the 670/680 call spread.  And this is a start.

2) More kite spreads to provide better upside.  Buy 3 Apr 670 calls and sell 9 Apr 690/700 spreads.  These kites cost roughly $500 apiece. 

If spending that $1,500 makes you uncomfortable, you have an alternative.  Choose 1b above, instead of 1c.  Use that $1,800 to $1,900 to pay for the kites.  You may even decide to splurge and buy a fourth kite instead of only three.

3) I avoid increasing position size as a general rule.  But when I now own 6 extra long calls (instead of 3), I believe the risk/reward allows for owning a larger position.

Buy back 10 Apr 670/680 call spreads and sell 20 Apr 690/700 call spreads.  At current prices, this should cost about $80 per spread.

If you choose all three trades, the risk plot looks like this:

6_x_3;_10_x_20;_3_x_9
Dark blue = today

Light blue = 1 day before expiration

It's important to do your own graphs and consider any adjustments you want to make.

To me, I can live with the position more easily than the unadjusted position.   Please remember, these three trade ideas are not all-or-none.  But they should provide food for thought.   Draw those graphs and analyze alternatives.

633


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10 Responses to Iron Condor Position, Protected by a Kite Spreads II

  1. james 03/08/2010 at 8:16 AM #

    Mark
    You could simplify the adjustment [and consequently any further adjustments] by trading
    -3c 650/ +9c 700 backspread
    +29c 670/680/690/700 condor
    Would leave you with -29c 690/+38c 700 backspread and similar payoff to your suggested trade.
    Cheers
    James

  2. Mark Wolfinger 03/08/2010 at 8:34 AM #

    There are many alternatives, but a premium seller does not want to own a backspread.
    A trader who wants + theta and negative gamma does not want the opposite.
    I have traded many backspreads over the years, and loved them as a market maker. I do not recommend them for individual investors.

  3. james 03/08/2010 at 9:00 AM #

    Mark
    If I have got it right, after your adjustment, you end up with the following position;
    -10c 670/+19c 680/-29c 690/+29c 700
    In effect you have:
    -10c 670/+19c 680 backspread
    -29c 690/+29c 700 vertical
    I thought you didn’t want to own the backspread .. or have I missed something in translation?
    Cheers
    James

  4. Mark Wolfinger 03/08/2010 at 9:21 AM #

    1) You know you did not miss anything. Why are you asking?
    2) I stated this is not specifically the position I wanted to own. Instead what I did is illustrate that there are always a significant number of alternative trades than can be made.
    I decided to use three different trades as examples, rather than choose one trade that I would make if this were a real position. In fact the position was given to me by a reader.
    3) I truthfully did not pay attention to the exact nature of the final position because it was not a recommended trade. It was merely the result of adding three – almost randomly selected – adjustments. I consider each of them to be a reasonable choice – and that’s why each was chosen.
    But part of the adjustment process is to analyze the final position prior to making the trades. I did not do that because it was not necessary to this exercise.
    4) I believe the more examples I can provide, the better.
    5) The final position does contain a backspread within it’s structure. But it is NOT a backspread by itself. Your suggested trade is 100% backspread. A poor choice for individual investors, in my opinion.
    My final position – although not planned in advance – has the backspread, but it is also short other call spreads.
    You can break a position into a bunch of alternative equivalent positions.
    For example, you could describe this position as short 39 call spreads and naked long 9 calls. Then you could reprimand me for owning long calls when I have stated that I don’t buy calls or puts for any reason other than to adjust a trade.
    6) This spread is what it is. A conglomeration of trades, lumped together for educational purposes. It is not a trade put together as a strategy. It is not an adjusted position that was tested to be certain it’s one I want to own.
    In the real world, I would never make three different simultaneous adjustments to a position. I’d choose the one most suitable for my comfort zone, and most likely to produce a profit.
    This is just a sample trade. You may comment on it all you want, but I am not going to defend it because it is indefensible. It is what it is. It’s the result of making a bunch of trades – to help readers understand that a variety of adjustments are possible.
    I assume that no one in is right mind would assume this is a recommended trade and attempt to own that position.
    Cheers to you.

  5. james 03/08/2010 at 9:46 AM #

    Mark
    In your original post you said “I like to use
    several different adjustment types, and I've decided to combine three of them
    for consideration.  These are not specifically recommended, but may
    give you an idea that you had not previously considered.”

    I understand
    that these are for illustration purposes only, and as you suggest I was only
    trying to consider / discuss what the result was from your combined adjustment
    and the risk graph you posted.
    It
    is not unusual in the options world for traders to end up with a position that
    is inconsistent with their objectives and I was just trying to understand what
    your objectives were for this trade.
    It
    is clear from the analysis and the risk graph that you end up with a backspread
    / slingshot type position to the upside, which as you say you do not recommend to
    individual investors.
    Please
    ignore this if you do not want to discuss further.
    Cheers
    James

  6. Mark Wolfinger 03/08/2010 at 10:24 AM #

    1) My objectives for this trade were:
    a) To provide examples of possible adjustments
    b) To provide examples of possible adjustments
    c) And finally, to provide examples of possible adjustments
    2) I took the time-saving shortcut of not performing a complete analysis of the final position.
    Why? Because the idea was to generate a safer position with less risk. I did that.
    The idea was not to generate the best possible position.
    3) I was saving my time. Obviously that time has been lost with this discussion.
    I love that you criticize the trade. I respect other points of view. I want other points of view. But just say what’s on your mind. Don’t hide behind the ‘did I miss something’ sarcasm.
    You know you missed nothing.
    4) To me this is not a pure backspread. Nothing further to discuss about my definition of the term.
    5) Any position that includes extra longs (that are not the top strike price) is going to contain an embedded backspread.
    That does not turn the whole position into a backspread.
    6) I said no such thing. What I said was that I do not recommend the backspread to individual investors. That is not the same as favoring a position that is NOT a backspread, but which has an embedded backspread AS A PORTION of the position.

  7. james 03/08/2010 at 10:49 AM #

    Mark
     
    There was no intended sarcasm; I wanted to
    check that I was on the same page before discussing the concepts you
    illustrated further.
    I thoroughly enjoy your blog postings and
    along with many others appreciate the time and effort you put into this.
    As ‘option trades’ can be
    perceived differently by each trader, maybe we can agree to disagree on whether
    the position should be dissected into its component parts or not.
    Cheers
    James

  8. Mark Wolfinger 03/08/2010 at 11:39 AM #

    Positions should be examined and broken down for simplicity. That makes it better to understand the positions. i deem that NECESSARY.
    But
    1) When you call it a backspread when it is not, I am going to quibble
    2) When it’s not a real position AND THREE trades are added to single position – perhaps a little slack is in order. I specifically said I would never make the trades simultaneously. But you want to dissect the position anyway. I do not see the purpose in doing that.
    But, be my guest.
    Mark

  9. George 03/08/2010 at 2:55 PM #

    Sorry for the offtopic,
    but please answer me if IB Risk Navigator is able to show expire graph (or 1 day before expire as you write) or you did that with another software.
    I see the plot today and I’m trying to do it, but with no success.
    Thank you!

  10. Mark Wolfinger 03/08/2010 at 3:02 PM #

    George,
    Download the beta version of TWS.
    Then on the right hand side of Risk Navigator, you will find a place to EDIT the date
    Mark