We believe in selling options when implied volatility (IV) is high because the probabilistic outcomes are in our favor. How do the number of occurrences come into play?
There are options that have a high probability of expiring in-the-money (ITM), and others that have a high probability of expiring out-of-the-money (OTM). As an example, three independent trades with a Probability Of Profit (POP) of 75% might all turn out to be losers. That doesn’t mean that the option prices and probabilities were mis-priced.
The number of occurrences is the key. Part of the tastylive philosophy says, "trade small and trade often." Flip a coin several times and it might come up tails every time. Flip a coin 1,000 times and it will be close to 50% heads and 50% tails. The greater the number of occurrences, the greater the chance that the probabilities will be closer to our expectations.
It’s important to note that the expected probabilities only tend to work over time for independent occurrences. This means that the occurrences do not overlap in any way. If the same strategy is placed in 100 different stocks, it’s possible that all could turn out to be losers in the event of a significant overall market event.
Watch this segment of “Options Jive” with Tom Sosnoff and Tony Battista for the valuable takeaways and a better understanding of why we trade small and often.
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