The Best Option Strategies: A “Hands On” Guide to Making Money with Options Volume 2 Iron Condors Mark D Wolfinger Options for Rookies Books Iron Condors Mark D Wolfinger Published by Mark D Wolfinger Copyright 2014 Mark D Wolfinger All Rights Reserved Options for Rookies Books This is Book THREE in a series of educational and informative books for option traders. Requests to the publisher should be addressed to Mark D Wolfinger; 1717 Dobson Street; Evanston, IL 60202 This eBook is licensed for your personal enjoyment and may not be re-sold or given away to other people. To share this book, please purchase an additional copy for each recipient. If you are reading this book and did not purchase it, please return to your favorite eBook retailer and purchase your own copy. Thank you for respecting the hard work of this author ASIN: B00M7A3HXI Disclaimer: Although strategies involving credit spreads/iron condors can generate profits more often than traditional investment strategies, as with all stock market investments, the possibility of losing money is ever present. The successful trader understands the importance of proper risk management. Neither the publisher nor author shall be liable for any loss of profit incurred as a consequence of the use and application, directly or indirectly, of any information presented in this book. If legal advice, tax advice or other expert assistance is required; seek the services of a professional. The Purpose of this Series of Books These e-books are each designed to introduce the reader to one specific option strategy. This is Volume 2: Iron Condors. This book contains information for the novice as well as for the more experienced trader. Each volume contains a thorough discussion of one, low-risk option strategy. There are no get rich quick schemes, nor promises of enormous profits. These books represent the ‘nuts and bolts’ of using options in strategies that work. The efficient trader has more than one strategy in his/her arsenal of trade ideas and chooses an appropriate method that depends on current market conditions. Don’t fall in love with one strategy, forsaking all others. Volume 2 is for the reader who has a neutral market bias and wants to earn money from the passage of time. This strategy works best when the stock market trades within a range, and should be avoided when the market is in a steady unidirectional trend. Extremely volatile markets are difficult for the iron condor trader, but the experienced and successful trader should be able to handle most situations. If you are encountering options for the first time, this book is not (yet) for you. Begin your basic options education with my classic primer: The Rookie’s Guide to Options, 2nd edition, 2013. This is VOLUME 2: Iron Condors Volume 0: Introduction to Options: The Basics Volume 1: Writing Naked Puts Table of Contents Introduction Part I. Background Information Chapter 1 Some of the Finer Points Chapter 2 The Iron Condor Chapter 3 The Winning Iron Condor Mindset Chapter 4 Iron Condor Theory & One Trading Rule Chapter 5 Steady Monthly Income Chapter 6 Iron Condors in a Rising Volatility Environment Part II. Nuts & Bolts of Trading Iron Condors Introduction to Part II Chapter 7 Navigating the Bid/Ask Spreads Chapter 8 Trading Screens Chapter 9 Items to Consider when Trading Chapter 10 The Put Spread Chapter 11 The Call Spread Chapter 12 Choosing the Underlying Asset Chapter 13 Choosing Strike Prices Chapter 14 Choosing the Spread Width Chapter 15 Choosing the Expiration Chapter 16 Deciding when to Exit Part III. Risk Management Chapter 17 Basic Risk Management Chapter 18 Advanced Risk Management Chapter 19 Advanced Risk Management: Examples Afterword Appendix A: Probability of Touching Author’s Books About the Author Introduction Iron Condors is the third book in a series that offers a hands-on education for some of the most useful option strategies. It is intended to be quite different from all other books you may have read that discuss this versatile option strategy. One popular idea is that iron condors can be used to generate a steady monthly income stream. Although there is truth to that idea, it is a vast oversimplification. Iron condors do provide an income stream for disciplined traders who understand (a) the importance of risk management and (b) how and when to trade iron condors. If you have been led to believe that iron condors are a ‘set it and forget it’ strategy, I will try to get that idea out of your head. These positions require careful monitoring, and the frequency depends on the specific options that comprise the iron condor. It is never a position to initiate and then ignore. Most iron condors – at least the type that I recommend as suitable for the majority of traders – require some active decision making as long as the position remains in your portfolio. Sometimes that decision requires action to reduce risk. At other times, the decision will be to do nothing and continue to hold. But make no mistake, deciding to hold is a real decision – not to be made lightly. Another decision involves a pre-planned (I encourage the preparation of a trade plan for each trade) exit to lock in the profit. As the trade progresses, and when the position is working and profits accumulate, it becomes a daily decision: hold or exit. It is important to avoid being greedy; it is important to recognize when there is just too little remaining profit potential in the trade to warrant holding. That is where the trade plan, and the target profit, can help you become a disciplined trader. Closing the position may be easy and pleasurable, such as when you earn the target profit before expiration arrives. However, it could also be a gut-wrenching decision that locks in a loss and is made because it is essential to take some risk- reducing action for a position that has not worked as planned. Expect to learn the basic concepts of trading iron condors: --How to decide which options are suitable for your iron condor. There is no single ‘best’ position that suits all traders. --Ideas on how to manage risk. --Figuring out when to exit. We’ll discuss the pros and cons of locking in profits quickly (not a good idea) vs. holding longer (but not too long). There is more that makes this book so special. It is not just a “how to” book. I share lessons that I’ve learned from a lifetime of trading options (starting in 1977 when I became a CBOE market maker). I share my philosophy on iron condor trading and ideas on how a winning trader thinks. The goal is to offer guidance that allows you to develop good trade habits and to avoid falling into easy-to-adopt poor habits. We all learn more about trading as we gain experience, but some mindsets are dangerous to your longevity as a trader and it is best to avoid developing those mindsets because they are so difficult to break. To you, the reader This book was prepared for an audience that already understands the most basic concepts about options. Although some of the material is suitable for rookies, if you do not understand the difference between a put and call or lack any experience trading options, I encourage you begin with the most basic concepts about options before continuing. There are numerous sources of information, but I recommend my recently updated (2013) “The Rookie’s Guide to Options, 2nd edition.” My basic tenets The following points represent the foundation of my beliefs, and the book is written accordingly: --The ability to manage risk is the most important skill for any trader. Those who close their eyes hoping for a good outcome are destined to fail. --If you have no knowledge of the ‘Greeks,’ you can still get much out of this book. However, it is mandatory for your long-term success as an option trader that you take time to undertake at least an elementary study of the Greeks. Understanding the Greeks is not difficult, despite what you probably believe, and it allows you to recognize the risk (and reward) potential for any position. But most of all, it ensures that you avoid owning a position (or portfolio) that could — in a worst case scenario — result in losing more money than you can afford to lose. --Trading without knowledge of how the Greeks work places a trader at a tremendous disadvantage. --Discipline is necessary when managing risk. It is one thing to say that you understand what risk management is all about, but it is another to put it into practice. It is emotionally difficult to pull the trigger on necessary trades (that reduce risk) because most of the time such action involves locking in a loss. --Let another trader earn the last nickel or dime on the position. Be willing to pay a small sum to exit the position, lock in profits, and eliminate all risk. Other thoughts on iron condors --There is often disagreement among traders and brokerage firms about what it means to ‘buy’ or ‘sell’ an iron condor. There is a solid rationale for using either term when making the trade, and there is no need to rehash the arguments here. I prefer the term ‘buy’ but will avoid using either term when discussing the trades. However, you must know what “buy (or sell) an iron condor” means to your broker so that you can enter orders correctly. -- The iron condor is most often traded as a single transaction, consisting of four legs. That is how I encourage you to enter your orders because it is more efficient. However, it is reasonable for the more experienced trader to build the position with two separate trades (sale of call or put spread; followed by sale of the other spread). NOTE that selling the call and spreads separately is more difficulty than it appears, and I recommend against trading this way. --The iron condor is managed as if it were two positions. This is not a contradiction. An adjustment is made