By Brad Reinard, Editor-in-Chief, monthlycashthruoptions.com
Last Update August 19, 2009

1) Ninety % Probability Index Iron Condor Options are popular because the are easy to learn, understand, and visualize without the need for complicated and expensive options analysis software.  For more on what these trades look like, please go to Credit Spread and  Iron Condor.

2) Ninety % probability Index iron condors & credit spreads are popular with professional derivatives traders and hedge fund managers because they produce an excellent return of 6% to 10% per month, or 45% to 65% return per year.  The Monthly Cash Thru Options advisory newsletter that teaches how to trade these derivatives achieved a 69% YTD return in 2009 (as of August), 33% return in 2008, 63% in 2007, 42% in 2006, and a 50% return in 2005.  For more details on our returns please visit the ROI Track Record page.   

3) Getting on the “other side” of the trade and selling (writing) index credit spreads & iron condors derivatives to speculators & amateurs can truly change your life financially.  It’s one of the few investment strategies available today where you can truly quit your day job after building up a few years of experience.  As you probably have heard, 80% of derivative traders who buy calls and puts speculatively lose the premium that they paid to purchase the options;  i.e. the options expired worthless.  In contrast, by getting on the other side of the trade and selling these calls and puts to the speculators & amateurs, like being the “house” in a casino, 80% of our trades are profitable.  And we actually take a more conservative approach where close to 90% of our trades are profitable. This is why the strategy around selling options can generate a consistent 6% to 10% return monthly and truly change your life financially.

4) Index Iron Condors & Credit Spreads derivatives represent a non-directional, income generating strategy that makes money when the market trades sideways, is choppy, or moderately trends upward or downward.  Thus, you can make money in all market conditions.  History has shown us that the stock market usually makes big upward or downward moves of greater than +/- 10% in 45 days or less about once per year, and then the market usually remains pseudo range-bound, choppy and/or gradually trends upward or downward for the remaining 10 months of the year.  As a result, this strategy is profitable the majority of the year requiring very little effort.

5) Ninety % probability iron condors have fewer losing months/year, about 2 to 3, as compared to 70% probability trades.  During the 2 to 3 “difficult months” of the year when the markets move quickly and where we’ll most likely have a losing month, because we trade the more conservative 90% probability trades, we have a good track record of typically keeping our losses below 10%.

6) You’ll sleep better at night knowing that your Iron Condor has a very wide “safe zone”.  When the markets get volatile, 90% probability iron condors give us more time to react and make adjustments if necessary.

7) The Index Iron Condor & Credit Spread derivatives strategy only takes a few hours each week as compared to other trading systems that take significantly more time and effort.  The “traditional” option strategy speculatively buys directional calls, puts and/or debit spreads on individual stocks and bets that the stock or index moves in the correct direction.  A big negative for purely focusing on directional option trades is that they take a lot more time & effort in identifying the trades, placing the trades and the stop losses, managing the stops and then exiting the trades; also about 50% of the time directional trades go the wrong way and stop-out, thus requiring the trader to handle the stress of taking a loss and needing to continually replenish the trades.  In contrast, the non-directional strategy of being on the “other side” of the trade by selling calls and puts to the speculators & amateurs takes less effort and only requires a few hours per week.

8) You’ll pay less taxes on your gains.  Why?  Because we place at least half of our trades on broad-based indexes such as the RUT (Russell 2000 Small-Cap Index) and MID (S&P 400 Mid-Cap Index) which are taxed per the 60/40 tax rule.  Section 1256(a)(3) in the IRS tax code states that gains from option trades on broad-based, cash settled indexes can take advantage of the 60/40 rule which states that 60% of gains are taxed as long term capital gains and 40% of gains are taxed as short-term capital gains, i.e. ordinary income.   Overall, the 60/40 tax treatment is very generous and gives option traders who trade cash settled, broad-based indexes a tax advantage and the opportunity to make higher returns than option traders who focus on other financial instruments such as stocks or ETFs.  We also trade a few ETFs such as the SPY that tracks at 1/10th of the S&P500 index, and the gains on ETF options are taxed at one’s ordinary income level.  Please make sure to talk to a tax professional on this topic as we’re not licensed tax professionals and we are not authorized to give tax advice.

9) For investors with at least 2 years of experience in trading 90% probability index iron condors & credit spreads, they have the option to allocate up to 75% of their portfolio, holding 25% in cash, into just a few monthly trades.  As a result, the investor doesn’t need to trade any other stock or options strategies if they don’t desire or don’t have the time. 

About The Author
Brad Reinard is Editor-in-Chief of Monthly Cash Thru Options LLC, a leading index credit spread & iron condor options advisory newsletter, which has the following track record:   69% YTD 2009 (thru Aug); 33% 2008; 63% 2007; 42% 2006; 50% 2005.  For more information on the technical analysis that we perform on the S&P 500 and Russell 2000 (RUT) indexes, along with how to trade trading tips on iron condors and credit spreads please visit www.monthlycashthruoptions.com or call Brad directly toll-free at 877-248-7455.  Monthly Cash Thru Options LLC is located in San Jose, California, the heart of Silicon Valley.

By Brad Reinard, Editor-in-Chief, monthlycashthruoptions.com
Last Update August 19, 2009

There are many newsletters on the market today that teach investors how to trade index iron condor & credit spreads, where many open derivative trades on the S&P 500 and Russell 2000 (RUT) indexes.  Iron condor options are popular because they are relatively easy to understand, they don’t require options technical analysis software to visualize, and they generate an excellent monthly income of 6% to 10% ROI per month.   Most newsletters that teach how to invest in index iron condor & credit spreads fall into two camps, either recommending 70% probability trades or 90% probability trades.   Monthly Cash Thru Options primarily focuses on 90% probability trades because we believe they represent the best balance between risk and reward, require the least amount of work, and provide an excellent 45% to 65% annual ROI.  Many competing  newsletters that teach how to trade 70% probability iron condors will lead you to believe that their derivative strategy is superior and they usually simplify their argument by only focusing on the amount of risk capital per trade.  Our competitors also state that 90% probability iron condors and credit spreads represent a “high-risk, low-credit”  type of strategy.  Reality is that both 70% trades and 90% trades will work, but one needs to dig deeper into the analysis of both approaches.  This article proposes a more thorough methodology to analyze the risk associated with 70% probability iron condors versus 90% probability iron condors, discusses the pros and cons of each approach, attempts to dispel possible misinformation in the derivatives marketplace, and makes a case that 90% trades offers the best risk/reward tradeoff with the least amount of stress and work.

When defining “risk” for credit spreads and iron condors options, most experienced credit spread traders will agree that risk comprises many components.  Two of the more important components are…1) Probability of the credit spread derivative going in-the-money (ITM), and 2) The risk versus potential reward of the trade. Additional risk related factors that should be included and that many times are omitted are the following: 3) The amount of time and effort required to monitor and manage the trades; 4) The amount of time available to react to a fast moving underlying security giving the trader sufficient time to make adjustments if needed;  5) The average number of times per year the trades get into moderate danger, that is they get close to going ITM, causing stress and uncertainty for the trader; 6) The average number of times per year that the spreads get into high danger requiring the trader to close out the spread or make adjustments, causing a losing month; and 7) The average % loss for each of the losing months per year.

Using an example of a 10 point spread, and doing an apples-to-apples comparison by analyzing a single credit spread, let’s look at both a 70% probability trade and a 90% probability trade in more detail. The 1.3 standard deviation, or 90% probability credit spread has a 9 to 1 ratio where the trade risks $9 to make $1, it shoots for an approximate 11% return, it has a 90% probability of expiring OTM and profitable, and has a 10% probability of getting into trouble and going ITM. The 1.0 standard deviation, or approximate 70% probability credit spread has an 8 to 2 ratio where the trade risks $8 to make $2, it shoots for an approximate 25% return, it has a 70% probability of expiring OTM and profitable, and has a 30% probability of getting into trouble and going ITM.

In order to analyze these two derivative scenarios in more detail, we need to take into account the additional risk related components that we discussed above. From data that we’ve extracted from several iron condor services, and through our own experiences of trading both types of iron condors, we’ve observed the following:

90% probability credit spread derivatives tend to have on average 9 to 10 profitable months/year, and 2 to 3 losing months/year with typical losses of 10% or less. Per the level of workload and stress involved, 90% probability trades tend to have 6 months of low stress where they make easy money, 3 to 4 months of moderate stress where no adjustments are required but some of the spreads get under pressure and have to be watched closely, and 2 to 3 months of higher stress and workload where they will have a loss and adjustments are required to keep the loss below 10%.

70% probability credit spread derivatives tend to have on average 7 to 8 profitable months/year, and 4 to 5 losing months/year with losses usually 10% or less. Per the level of workload and stress involved, 70% probability trades tend to have 3 months of low stress where they make easy money, 4 to 5 months of moderate stress where no adjustments are required but some of the spreads get under pressure and have to be watch closely, and 4 to 5 months of high stress and workload where they will have a loss, and adjustments are required to keep the loss below 10%.

Below is a grid that summarizes the characteristics of each approach, and one might come to the conclusion that both derivatives strategies can work. In actuality, both strategies can work and each strategy returns about the same annual returns, over the long run, but the big difference is that the 70% trades come with higher volatility, stress, required work, and risk of getting hit with a big loss if the underlying security moves quickly.

Looking at the chart above, some traders prefer the 70% probability iron condors, that comprise both a bear call spread and bull put spread, that shoot for a 25% to 40% return in 30 to 45 days and they accept the fact that: 1) There is about a 40% probability, or about 4 to 5 months/year that their iron condor will get under pressure causing a moderate level of stress and requiring additional time to watch the trade closely; 2) They accept the fact that there is a 30% probability, or about 4 to 5 months/year that their iron condor will get into high danger by a quick moving underlying index resulting in a high level of stress and a higher work load to make adjustments to minimize the loss for the month; 3) And investors that embrace 70% probability iron condors are ok with the fact that because of the higher probability of the iron condor going ITM causing a large loss, they should allocate no more than 5% of their portfolio to any single trade. As a result, the trader will need to spend time researching and opening additional, non-related trades to put their available capital to work.

In contrast, some traders prefer the 90% probability iron condors that shoot for a 10 to 15% return in 30 to 45 days and they like the fact that: 1) There is a high, 90% probability that the iron condor will expire OTM and profitable, and as a result there is less work & time involved, it’s more hands-off, the trader sleeps better at night when the market gets volatile, and it’s a good fit for people with a day job; 2) There is low stress about 6 months per year when the 90% probability trades generate “easy money”; 3) Traders that embrace 90% probability iron condors accept the fact that there is about a 20% probability, or about 3 to 4 months/year that their iron condor will get under pressure causing a moderate level of stress and requiring additional time to watch the trade closely;  4) There is a 10% probability, or about 2 to 3 months/year that the iron condor will get into high danger by a quick moving underlying index resulting in a higher level of stress and workload to make adjustments to minimize the loss for the month; and finally… 5) The experienced traders that have 2+ years of experience with index credit spreads & iron condors can leverage 90% probability trades to allocate up to 75% of their portfolio into this single strategy where they don’t have to trade any other strategies if they don’t desire or have the time.

In summary, both strategies can work since they both return, at least over the long run, about the same ROI, but the 90% probability trades come with less volatility, stress, work, and less risk of taking a large loss if the underlying moves quickly. Moreover, 90% probability trades are more hands-off, the trader will sleep better at night when the markets get volatile, and it’s a perfect strategy for people with a day job. This is why Monthly Cash Thru Options primarily leverages 90% probability trades.

About The Author
Brad Reinard is Editor-in-Chief of Monthly Cash Thru Options LLC, a leading index credit spread & iron condor options advisory newsletter, which has the following track record:   69% YTD 2009 (thru Aug); 33% 2008; 63% 2007; 42% 2006; 50% 2005.  For more information on how to invest in S&P 500 and Russell 2000 (RUT) index derivatives, along with rules on how to trade these instruments, please visit www.monthlycashthruoptions.com or call Brad directly toll-free at 877-248-7455.  Monthly Cash Thru Options LLC is located in San Jose, California, the heart of Silicon Valley.