Answer:   In a very rare occasion that we get stuck with ITM credit spreads, we will usually roll them and keep them alive….and eventually get 50% to 70% of our money back.   Unfortunately, and fortunately, I’ve become an expert on rolling because some of my spreads went ITM during the Oct 2008 crash, and after rolling them I got back 65% of my maintenance.   Not bad for a total melt-down.  (Just as a side note, most credit spread traders, including editor-in–chief’s from other credit spread newsletters don’t have experience in rolling because most just throw in the towel and let their subscribers take a total loss.  I personally hate to lose money and will fight to the end to get back at least some of my money) 

Answering your question specifically, if some of our spreads went ITM and we didn’t want to roll them but just let them expire, the credit spread on the RUT and SPX (classified as broad based indexes) are cash settled, so cash would be withdrawn from our account.   If the spread went completely ITM and we let it expire, we would lose all of our risk capital, which is the required maintenance less the premium collected.

Per options on the SPY and IWM (which are ETFs that track at 1/10^th the value of the S&P 500 and Russell 2000 indexes, respectively) the ETF shares would be PUT to us where we have to buy the shares at the strike price and the shares would be deposited into our account.

Again, in general with this situation, and this is only for the emergency case where the stock market crashes 12% or more in just a few days and we get stuck with ITM bull put spreads, we will roll our spreads month to month and there is a very good chance we’ll get back at least half of our money, and more like 60% to 70%.

back to just below its upward sloping channel and its 50 day SMA, and with today’s rally it’s back above the 50 day line and has moved back inside the channel.  This also is bullish and is demonstrating strength.    The RUT, on the other hand, overreacted and dropped below its upward sloping channel and its 50 day SMA, but it did, so far, hold above its 100 day SMA near 565.   With the DOW showing considerable strength, and the S&P 500 index successfully back inside its channel and above its 50 day line, there is a good chance that the small cap investors will want to “catch up” and possibly take this big pull-back in the RUT as a buying opportunity.   We believe that the RUT will meander upward over the next few days giving us a better opportunity to open our top November bear call spreads.   Therefore, let’s be patient and wait a few more days.  The bear call spread strike prices that we show in Sunday’s advisory are no longer valid and we’ll have to reset them in the next few days.   And per the bottom bull put spread, we most likely will wait until after the employment numbers come out next Friday.

Here are the events over the next week that could move the markets and that we need to monitor:

1) Earnings  -  However, half of the S&P 500 earnings are already in, 80% have met or exceeded expectations, about 60% exceeded top-line revenue growth expectations, which is good, but investors are not impressed.  Therefore, earnings information is already priced into the market and investors are back to watching, and reacting to, economic data.

2) Chicago PMI comes out tomorrow, Friday.  So as long as this is OK, the DOW and SPY should continue to hold steady or gently climb and the RUT might climb a little faster.   Refer to Sunday’s advisory for details on the economic calendar.

3) The ISM manufacturing index comes out on Monday the 2nd and if it’s OK the market should hold steady or climb, and the RUT might/should climb a little faster to catch up to the strength that is exhibited by the DOW.

4) Unemployment comes out on Friday the 6th and most likely this number will be bad, economists are expecting the unemployment rate to hit 9.9%, and most likely it will.  When this happens, this will put a damper on the overall market and our short lived bounce rally will be over for a few weeks.  Thus, we need to open our top bear call spreads before the unemployment number comes out on Friday the 6th.  Right after this number comes out, and if we have a strong DOWN day as we are expecting, this is when we’ll start to open our bottom November bull put spreads.

As soon as we set our new options strike prices we’ll send out an email advisory to all MCTO subscribers.