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Psychology of Collecting Premium with Credit Spreads & Iron Condors

Here is the recommended approach for opening credit spreads & iron condors, also known as “collecting premium”. Let’s say we are recommending the RUT March 720/730 bull put spread for between 45 and 85 cents credit. If the market is DOWN on a particular day, this is when we would look at the options chain (because it’s not yet in your order history) to see if this credit spread might be filling for a credit of 45 cents or more. Let’s say that the bid/ask on this spread is .20/.85. By looking at the bid/ask prices, we can take a guess that the RUT March 720/730 bull put spread is probably filling for a credit of 40 cents, maybe a little less, so because this recommended credit spread is not filling within our recommended price range of 45 to 85 cents, we would check back later in the day to see if the market, and RUT, is DOWN more where it might be filling for more. If it's still not filling for at least 45 cents in the afternoon, we’re done for the day and we’ll check back the following day.

On the following day let’s say that the market is DOWN again and the bid/ask on this spread is .30/1.00. By looking at the bid/ask prices, we guess that the 720/730 bull put spread is probably filling for a credit of 50 cents, so because this recommended spread is most likely filling within our recommended price range of 45 to 85 cents, it’s time to bring in some premium. We would spend 5 minutes getting a fill using 10% to 15% of our cash, and then we’re done for the day. We talk about the process of getting the fill below.

Regarding the level of credit that we collect, it might be on the low side of our recommended price range, or it might be on the high side of the range; we try to not let it bother us too much where it lands, as our goal is to make sure we bring in some premium on the days that the recommended spreads are filling within each respective recommended price range, and then once we bring in some premium we’re done for the day. In the long run, everything averages out....sometimes we bring in high credits for the day, and sometimes we bring in low credits for the day.

Let’s say the next day the market is DOWN again and you see the bid/ask prices for the 720/730 bull put spread as .90/1.50 - and we are recommending to keep our credit between 55 and 85 cents. In this case you would not open any more of the 720/730s on this day but you would click down to the 710/720 to see if it’s filling within the 55 to 85 cents range. Let’s say the bid/ask on the 710/720 is .60/1.10; by looking at the bid/ask it’s probably filling for 77 cents, so we would open some of this spread and bring in some premium. You would take this action of “clicking down” and bringing in some premium regardless if you receive an advisory from MCTO or not. If you are not feeling comfortable with the market and how it’s moving you should still bring in some premium on the 710/720, but maybe use less cash - maybe just 10%.

The recommended procedure to open a spread is as follows: 1) calculate how much maintenance is required for the spread we want to open – in this case we are opening a 10 point wide spread on the RUT, which requires $1000 of maintenance per spread. (a 10 point wide spread has 10 points between the sell leg and buy leg and requires $1000 of maintenance per spread that is held by the broker; a 5 point wide spread requires $500 of maintenance and a 2 point wide spread requires $200 of maintenance per spread) Let’s say we have decided to invest $50k this month in credit spreads and we want to invest 20% of our cash in total each day that one or more spreads are filling. In this example we would open 10 RUT spreads requiring $10k in maintenance; 2) We fill in our order form for qty 10 for the RUT March 720/730 bull put spread (sell to open 10 RUT March 730 puts; buy to open 10 RUT March 720 puts) and set the “limit credit” to be higher than what it's most likely filling for; in this case we would set the limit credit to about 85 cents and then place the order. (in this example the bid/ask for the 720/730 bull put spread is .60/1.10, it's probably filling for 75 cents, so we start high with a limit credit of 85 cents) 3) The order is now pending for a limit credit of 85 cents, and most likely it won’t fill; we'll wait about 20 seconds and refresh our screen a few times to see if it fills; if it doesn’t fill after 20 to 30 seconds we would modify the order and adjust the limit credit down a nickel to 80 cents; after 20 seconds if it doesn’t fill we would move down the limit credit maybe 3 cents to 77 cents and try again; as we get closer to the price that we think it’s filling at, we would start adjusting the price in 2 cent increments until it fills. The process should take no more than 5 to 7 minutes. We are now done for the day and we’ll check back the following day to see if the market is DOWN again, possibly giving us another opportunity to use an additional 10% to 15% of our cash.

It's not recommended to use good until cancel limit orders. It's best to spend 10 minutes in the morning and 10 minutes in the afternoon to see if one or more recommended spreads are possibly filling within the recommended price range. If it looks like nothing is filling, we're done for the day and we'll repeat the process the following day. If it looks like a recommended spread is filling within our recommended price range, our goal is to "bring in some premium" using about 15% to 20% of our cash and complete the transaction within 5 to 10 minutes....and then we are done for the day.

Please also visit the FAQ page at http://www.monthlycashthruoptions.com/FAQ.htm and read entry #45; and visit the Learning Center at http://www.monthlycashthruoptions.com/LearningCenter.htm and read entry #11. This will provide some additional insight on how we allocate our cash each day that a particular recommended spread is filling within a recommended credit range.