In this post I’d like to discuss rolling your trade. The term rolling is an option trading term meaning to move your position from its current expiration date to an expiration date in the future. This requires you to unwind the trade by reversing your actions which created the trade and then buying the two legs of the new trade. For example if we had purchased a call option in Apple at 220 expiration date November 27 and we sold a call option in Apple same expiration Date and strike price slightly lower at 215. So the premium on the strike price at 215 is going to be higher than the premium we spend to buy the strike at 220. For example the premium for the 220 strike is $100 and the premium at the 215 strike is $300 so we have a profit of $200 but the distance between the strikes is five dollars times 100 units in the contract so that’s $500 that we’re at risk on the spread. So we’re risking $500 to make $200 and we would choose straight prices around 80th percentile so that our chance of success is around 80% and our chance of failure is around 20%.
Now if the price of Apple moved against us for example if there was a favorable earnings call and Apple move from the market price of 200 to 210 the first week we had to setup this spread, then the probability of success on our spread might drop from 85 to 70, so we still have 20 or more days left in the life of the spread with our expiration date, but since our probability of success is now around 70% that means our chance of failure is around 30%. So from our statistical standpoint we should consider closing for a loss or rolling the spread at this time.
I prefer not to close for a loss because I can roll this spread from the expiration date it currently has to a date 10 days or more later, which gives me more time to be right. Additionally because the price of Apple just increased I should be able to get enough premium for the spread that’s at a later expiration date and a strike price that’s farther out of the money that I don’t have to lose any money on the spread.
This is an important thing to understand because when people first start trading options and they buy and sell two positions and set up the spread they feel like there’s nothing else to make it on its own but that’s not the case at all options are very fluid you can roll options backwards and forwards. Because options are very fluid. Later when we talk about iron condors when we have both a position below the market and above the market we will talk about how are you sometimes will roll one position out and you’ll roll one position in two to make more money because options are very fluid. Later when we talk about iron condors when we have both a position below the market and above the market we will talk about how are you sometimes will roll one position out and you’ll roll one position in two to make more money.
So in this example our strike price of 215 and 220 have encroached by the rising Mark price of Apple and they are no longer in the 80th percentile there in the 70%. So we will roll our strike prices out to 225 and 230 respectively and we will choose an expiration date about 10 days later if we wanna be conservative or 30 days later if we feel like we need more time. Because the strike the market price of Apple has increased there should be enough Premium When we sell the 225 that we can buy the 230 and still have a profit of around $200 with our risk still being $500, and will move our strike prices to the new 80th to 85th percentile so we have a good chance 85% of success and we still have a small chance 15% of failure.
In my previous Blog when I talked about Karen the Super Trader, I mentioned that she purchases correction she sells naked puts in the 95th percentile both calls and puts so that she has a 95% probability of that option expiring out of the money and she gets to keep all of the premiums. However she also will roll those positions further out of the money should there be an unexpected rise in the market to about the 70% off where she will roll those positions back out to the 95th percentile. And because premiums are frequently based on volatility if there has A big move in the price of the stock that increases volatility which translates into increased premiums so she is frequently able to roll that stock out to the 90th her 95th percentile and still make enough premium to make this worth her while. Now I should add that she’s rolling naked positions which means that she selling a position but she’s not buying a protective position so her premium is not reduced by that cost of the protective position. When I sell a vertical spread I’m selling one option and I’m buying another option which serves as a protection to me against the downside of Of the market and makes this what’s called a defined risk trade with defined risk meaning I know how much money I can lose on this trade as well as I know how much money I can make on the trade.
So that’s rolling a trade in brief and that is another way that we manage vertical spread traits without closing them. Now I have been asked in the past how many times can I roll the trade and in fact you can almost roll the trade in definitely as long as there’s enough premium in the future strike dates to make it reasonable although some people would say that if you were wrong with the first tree just close it move onto another entity because you’re tying up your capital but technically when you roll the tree you are creating a brand new occurrence this trade is unrelated to the previous trade in terms of it’s a separate trade all together so it either stands or falls on its own accord.
✍🏼 Written by shortsegments.
