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Low Premium Iron Condors: Follow-up; A Real World Story

Adding my 2 cents to Tom's comment about the low credit, high probability newsletter
condor service: I traded these based on newsletters advice for
over a year and did great. Few adjustments, "easy" money, and I had big
plans.

Every month I did well, I allocated a little more of my capital,
and a little more, etc. That all ended in March when the market
crept and crept up to my strikes with low volatility and I found almost no
way out.

The newsletters were of no help and I found out first hand how
quickly a 5% gain can turn into a 50% loss. Then add to the fact that an unlucky
settlement took away another 10%.

Couldn't sleep, slaved over the ticker,
kept putting on additional credit spreads as the newsletters suggested
to help lower some of the loss which only made things worse.
Lost $50,000 in a matter of a week. Had almost an 85% gain up to that
point, but a 50%-60% loss of my account (built up with earlier profits) hurt.

Came out negative after everything.
Look at ALL those newsletters results for March. I know many that changed the way they show results to hide their 50% – 100%
loss.
Its not worth the sleepless nights, biting nails, upset stomach when
that 10% of the time you lose money comes along.


I believe in condors, but I go much longer term with farther out
strikes, higher credit, and wider spreads and just adjust casually when
needed – which is not much. I will NEVER go back to front month, low
credit condors again and would warn others to do the same … IMHO

Jason

***

Jason,
I'm very sorry to hear of your experience. Thanks for sharing. Do remember that we each have our own comfort zones, but I'm in agreement with your preferences.

One item in your note deserves special mention.  It is common practice to 'protect' the call (or put) half of an iron condor by selling extra put (call) spreads and bringing in additional cash.  This idea is unsound, in my opinion, and is at the very bottom of my list of possible adjustments. 

First, the cash collected is never enough to make a significant difference.  In other words, as the problem situation gets worse, the cash collected is dwarfed by the ongoing losses.  But that's not the worst part.  If the market suddenly reverses direction, there is a string of newly opened spreads than can turn what was a truly horrible situation into a catastrophe.  I'm not suggesting that traders shouldn't open new spreads in an attempt to move the position back towards delta neutral, but three conditions must apply:

  • Collect enough cash to make the trade worthwhile
  • Cover farther OTM spreads to avoid the humongous loss
  • Only make the trade when it creates a position you want to own.  It is not mandatory to be delta neutral


As mentioned, I am not a fan of these low-credit iron condors (or credit spreads).  There is no doubt about it, winning often is fun.  Boasting of a 90% win/loss ratio attracts attention.  Newsletter writers boast of their fantastic results.

However, being a winner over the longer term is even more fun. One piece is missing from the boastful stories, and that's a description of what happens the other 10% of the time – when there is no profit. 

There are really only two methods that the newsletter writers can follow.  They can manage risk – by whatever method they choose – or they can close their eyes and accept a very high % win rate over the longer term.

Let's assume a service recommends selling a five-point credit spread and collecting $0.25 when the delta of the short option is five.  This is referred to as a 95% probability trade (definition: The spread will finish out of the money 95% of the time). 

a) No adjustments

If the trader wins 19 times and collects $25 each time, the gain is $475.  If the maximum loss occurs one time in 20 trades, the loss is $475.  [Yes, it is possible that the loss is less than the maximum]

Conclusion: This is not a statistically viable strategy.

b) Adjustments

How about the writer who adjusts?  This trader no longer has 19 winners.  How many wins are recorded depends on the adjustment method.

The good news is that there are no $475 losses.  There will be fewer wins and more losses, but no disasters.  Unless we know the adjustment point for the trader, this is just a guess, but let's assume three losses of $100 and 17 wins at $25 each for a net profit of $125.  Over 20 trades, that's $6.25 per trade, or a 1.3% return on the $475 margin requirement for the trade. 

That's not a bad result.  But it's not sexy, it is not hype material.  It's not the type of returns that a newsletter wants to publicize. 

If I thought I could manage other people's money and earn a steady 15% year after year, I'd advertise it.  But, that's not my business.  I'd rather teach others how to manage risk and trade options.

757

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