Q & A. Adjusting An Iron Condor Position

Based on your suggestion, I
have started to paper trade iron condors. I have a question for you on
something that I found interesting on the behavior of my RUT iron condor.

On June 30th I sold a 10 RUT
Aug 08 IC's 670/680/720/730. RUT was around $700 at the time.

This morning when I checked I
found that that RUT had fallen to 668 (below both my Put strikes). I was
expecting that I would be losing money on the trade at this point but to my
surprise I was still positive by $300 for the trade (not considering
commissions).

What do you make of this? Was
this because IV increased in the last week? Does this mean that it may be OK to
wait until the the stock breaks the long put/call strike price before
adjusting?

TR

Reply:

I'm pleased that you began
paper trading, but more than one comment in your post concerns me:

1) I know it's just paper
trading, but it's difficult to have these iron condor positions and 'check'
only occasionally. Although it's
wonderful when you can leave positions alone, adjustments are often required to
keep risk in line. Please check more
frequently. Daily, if possible.

2) One thing you never want
to allow is for a position to reach the maximum possible loss. And that can occur only when the index moves
through both strikes of the call or put spread. In this case, both puts were in the money and you have not yet made an
adjustment. That is not a good way to
manage risk.

3) When discussing P/L always
write or speak in terms of 'per spread,' not in terms of your position, If you are $300 ahead and have 10 iron
condors, then you are $30 ahead, not $300. Otherwise it's far too difficult to discuss a trade.

4) No, it's not okay to wait
so long before adjusting. This is some
sort of fluke. I don't see how you can
still be profitable when the index has moved so far against you. As you will see as you gain experience, it's
best for your long-term survival to adjust positions much sooner.

Why is your position
profitable?  Probably because both your put options are ITM and IV has increased. You were short vega (volatility) when you opening the trade, but you are now long vega.  Otherwise this iron condor would be losing money.

When you buy an IC, an IV
increase works against you, so an increase in IV is the reason your
position is showing a profit this time – is because your long put is much closer to the money than your short put.  A very uncomfortable position.

As far as adjusting goes,
here are some truths:

a) You will not make the
winning decision all the time

b) Any method – such as not
adjusting at all – will work some of the time.

c) Make the best decision you
can at the time you must make a decision. If it's a losing decision, c'est la vie. Win some, lose some, but do not get crushed.

d) Your goal is to make money
month after month and year after year. To do that you must avoid going broke. To me that means avoiding large losses, and that translates into
adjusting positions gone bad. When the
short option goes ITM, it's time (or past time for many) to make an
adjustment. You can buy in some or all
of the current position, buy protection etc. There is no 'best' way to adjust. But, ignoring the trade, IMHO, is not the way to go.

Mark

23

Comments are closed.