Hey there guys, Woodman here from the research team! This is our Market Measures Notebook, where we talk a little about putting together some of our favorite Market Measures segments for Tom and Tony on tastylive live.
Today: some research that got me to reconsider my default strategy.
One of the biggest thing we all consider when we trade is return on capital. Right? Since we all have limited capital – or at least I do! – everybody wants strategies that provide the best returns.
Now, as you probably know, around here we’re premium sellers, and without a directional assumption we tend to default to the short strangle as our strategy of choice.
But I started thinking, could there be an alternative undefined risk trade? We know that being more aggressive with strike selection can be effective, so I decided to take a look at the short ATM straddle.
Then it was time to do what we do best! That’s right, a study!
The research team and I analyzed over 300 short ATM straddles and one standard deviation strangles over the past 10 years on a few market ETFs. Not surprisingly, the straddle had a 19% lower win rate at expiration. But from a return on capital standpoint, the short straddle more than doubled the returns of the strangle! And that’s not even factoring in IV Rank!
The larger margin requirement and lower win rate on the straddle were clearly offset by the substantially higher returns. So next time you’re thinking strategy, don’t get so fixated on win-rate that you overlook the return on capital.
If you want to take a much deeper dive into this research, check out the full episode here. And you will not believe how many more amazing pieces are in the tastylive archives.
OK, I’m Alan Wood, on behalf of the research team. Thanks for watching my Market Measures Notebook! See you next time.
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