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Adjustment Headaches II

To Mark,

Hi John (Addendum: MDW response in blue)


Here's what I do when trading iron condors (IC)

  1. I initiate positions
    without any market bias, which means I do not know whether the stock is
    going to rise or fall or remain in a narrow range.
  2. When the
    stock swings to one direction, not a lot, probably a few points, then I
    will rollover the spread on that side to further strikes.

    How far OTM are your current strikes when you 'rollover'?  Are you adjusting too late or too early?  Most important of all:  Are you rolling just because that's what you always do?  That is not a good idea.  Please be certain
    that the new position is a 'good' one.

    Another thought:  If trading stocks, perhaps the strike prices are simply not very far OTM.  You may be more comfortable with higher priced stocks or index options.  You find rollovers to be unprofitable, yet you do them when the stock moves 'a few points.'  If you are rolling when the stock moves only 5%, perhaps your options are too near the stock price.  Can you move more OTM and still get a reasonable premium?

  3. Doing so allows me to have a good position, but only for the
    moment.
    I still do not know whether the stock will continue in that direction,
    stay there, or retrace.

    That's true for most traders.  If a trader had a market opinion when opening the trade, that opinion has been proven to be incorrect – when the adjustment was made.

  4. This adjustment gives me an unrealized
    loss. My observation is this happens in every adjustment, and the
    reason for this is fairly straightforward. Calling it deferred loss is
    only a matter of opinion. Regardless of how I call it, the unrealized
    loss is real. 

    Yes, it is real.  But it seems to be a 'realized' loss to me. What is your method for the
    'rollover'?  Farther OTM strikes in same month?  Next month? 'Rollover' is
    not the only type of adjustment available.  This is obviously not working for
    you.  Have you considered alternatives?  a) buy back 20% of the short
    spreads and hold the remainder until you feel it's time to repurchase
    more.  This is adjusting in stages, rather than all at once.  b) Buy one
    or two of your short calls.  c) etc.  There are other alternatives.

  5. Since I do not have market bias, I will never know whether my
    new positions will be profitable going forward.

    True.  But if you don't expect them to be profitable; if
    you don't 'feel' good about owning these positions, then don't own them.  Perhaps
    there is a different strategy that you can adopt?  

    The new position is
    just less risky compared to the old one, again, for the moment. Less risky is good, but it's not good enough.  The risk/reward potential must be acceptable. 

  6. On
    the other hand, if I exit the trade, then it will result in an
    immediate loss.

    To me that is not
    important.  If you don't want to own the current position and if the
    rollover doesn't appeal to you, then exiting is a good idea.  Holding onto a trade just to avoid taking a loss means you are going to own bad positions frequently.  When you do that, you are gambling.

    Exiting
    doesn't
    look like a good choice to me because of 3
    reasons: i) if I adjust immediately, theta decay can still come to my
    rescue;

    I don't like this rationale.  If
    you open a brand new position, theta is also on your side 

    ii)
    Exit
    gives no benefit because without market bias, I do not
    know when to initiate a new IC;

    I see
    your point, but without a market bias, isn't it safer to own a new,
    market-neutral, IC than the current position?  Don't forget that 'neutral' is a market bias.

    iii) if
    i exit and stay around hoping
    to roll with better strikes, then I am just guessing the stock will
    continue in the same direction, but I may be wrong.

    The basic decision remains:  Do you feel comfortable
    with the current trade, or would you prefer another?   Maybe you should consider an alternative strategy:  Less volatile stocks; selling options
    that are farther OTM and have a lower delta.  I don't have a specific suggestion, but I sense the
    frustration. I understand that you feel helpless doing what you believe is
    'right' and losing money.  Keep in mind that IC are not suitable for
    all markets.  They only work part of the time.

  7. My opinion is when I adjust, one side of the spread has
    already gone bad. Adjustment prevents it from getting worse. I don't
    see why I would adjust if the stock price stays at the middle of the
    range enclosed by IC.

    When you do that 'unnecessary' trade, it's the purchase of insurance. 

    In other words, I adjust to prevent the bad side
    from getting worse

    Yes, that's one reason.

    As a
    consequence, there will also be deferred
    losses.

  8. Here lies the problem of deferred losses. If the stock
    heads in
    one
    direction suddenly and quickly, the deferred losses are quite big. If
    that stock do this for few days in a row…well you get the idea.
    Although still unrealized, that unrealized loss gives you the shivers.

    I look at risk.  If it's too risky, I get out of the
    trade – either by adjusting or exiting.  Perhaps you don't look at
    adjusting the way I do.  It is not just a risk-reducing trade.  It is
    not just a 'reduce the position size' trade.  It is a trade that gives
    you a good position – a position you want to own.  It does not give you
    a position you are forced to own.  Adjusting is voluntary.  If you don't
    like the trade, don't make the trade.  As mentioned in yesterday's response, adjusting affords profit opportunities.  If you don't find that to be true, then you are not making the best adjustments.

  9. I believe this is the nightmare of IC, apart from a big gap
    that put the trader ITM without a chance for adjustment.

    Yes.  That is one argument for owning insurance in the
    form of extra options.  It doesn't always help enough, but it helps. 
    The problem is that the extra options must be closer to the money than
    your short options, and that makes them expensive.

  10. I
    do not have any solution for this, and market making seems like the
    only valid strategy to me. Everything else has a market bias built in.

    There is nothing wrong with a market bias – if your
    track record shows you have good judgment.  You and I trade with a neutral bias.


The points you mentioned seem to suggest that you know the
stock
will stay range-bound after adjustment.

I
know nothing about the future market.  What I do with an adjustment is
reduce risk, and maintain a position I like.  I suspect your options are
very near to being ITM when you adjust, and that means it's probably
too late to salvage the position.  


Judging from this
phrase:
'believe the position will be profitable going forward'. That is having
a market bias in my opinion.

I
understand how you feel.  When I open an IC position, I feel the
position will be profitable going forward.  If I didn't, I would not
make the trade.  Sure, that assumes a market bias.   IC assumes a
range-bound market.  Every trade has some bias – bullish, bearish, or
neutral.  Not knowing which to choose, I choose neutral.  But that's not
'better' than bullish, it just more comfortable for me  – and 'neutral' has been drummed into my head by risk managers for more than 25 years.  Now I'm the risk manager.

Despite
coming
from a technical analysis
background, I find that market bias is only guessing and consistency
can never be measured.

Well, thanks for reading my rather long details. If you have
something to add, correct, or alternative theory… please
reply. 

I sense your frustration.  I'm  offering advice based on my opinion as to what I believe is
sound.  In the final analysis, it's up to you.

662


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