This segment, the fifth in a planned twelve part series on constructing and managing a portfolio for accounts of $250K to $2.5 million, builds on the previous segments and details how and when to use strategies for defined risk and undefined risk trades. There is something here for everyone.
Last week’s segment on allocating capital listed $30,000 for defined risk and undefined risk trades. What those trades were, how many, etc. was left unexplained. This segment builds on the previous segment and specifically addresses those trades. For those needing a reminder a table showed the capital allocations.
When placing the $30K to work in the undefined and defined risk strategies we look for a few things. We look for underlyings at price extremes, in highly liquid markets, including their options and perhaps most importantly high IVR. We are also looking for trades that offset directional risk. We will use October expiration as it is closest to 45 DTE.
A possible composition of undefined risk trades was displayed (all positions were placed in October expiration). The composition included the underlying, position, quantity, credit received and margin needed. The strategies included short calls, short puts and short strangles. The underlyings include such liquid names as WMT, AMZN, AAPL, NFLX, TSLA, FB, P, XLF, and DIS.
The same process should be repeated with defined risk strategies. Since these strategies generally require less buying power, we should be able to allocate $15,000 to 8-15 defined risk positions.
A second composition of defined risk trades was displayed (all positions were placed in October expiration). The composition included the underlying, position, quantity, credit received and margin needed. The strategies included short iron condors, short and long put spreads and short and long call spreads. The underlyings include such liquid names as GOOG, SBUX, GPRO, TLT, GLD, IBM, COST and XOM.
The IV should give us a general expectation of returns. That means that when managing undefined risk trades (eg. strangles) at 50% of potential profit an IV of 25% should translate to a return of somewhere around 13%. Defined risk trades would be about half of that..
Watch this segment of “Top Dogs” with Tom Sosnoff and Tony Battista to see the details of how disciplined capital allocation including defined and undefined risk trades combined with what we have learned in the previous four segments can give you a greater chance of success, especially when compared to what the typical advisor would recommend.
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