SteadyOptions is an options trading forum where you can find solutions from top options traders. Join Us!

We’ve all been there… researching options strategies and unable to find the answers we’re looking for. SteadyOptions has your solution.

Revisiting Anchor Part 2


Last month we posted some updates to the Anchor strategy that were obtained using an in-depth back testing of the strategy and variations of it using the ORATS Wheel software.  We adopted three conclusions last month:

  1. Selling calls for a credit to help offset the cost of the hedge is, more often than not, a losing strategy over time in the Anchor strategy.  It tends to hurt performance more than help it;
  2. About a month is the ideal period for selling short puts over both in bull and bear markets.  This tends to be the ideal trade off between decay, being able to hold through minor price fluctuations, and available extrinsic value.  Since options come out weekly, we’ll be using a 28-day period;
  3. Rolling on a set day like Friday is not the most efficient method of rolling the short puts.  Rather having a profit target of between 35% to 50%, and rolling when that target is hit, leads to vastly improved outcomes.  Waiting until profits get above 50% tends to start negatively impacting the trade on average.

 

This month we’re going to look at another technique which has the possibility of increasing Anchor’s performance over time – namely reducing the hedge.

Reducing the Hedge

The single biggest cost to Anchor is the hedge.  Depending on when the hedge is purchased, it can cost anywhere from 5% to 15% of the value of the entire portfolio.  In large bull markets, which result in having to roll the hedge up several times in a year, we have seen this cost eat a substantial part of the gains in the underlying stocks and/or ETFs. 

 

There is also the issue of not being “fully” invested and this resulting in lagging the market.  If the cost of the hedge is 8%, then we are only 92% long.  In other words if our ETFs go up 100 points, our portfolio would only go up 92 points.

 

A large hedge cost also has a negative impact at the start of a bear market as well due to the losses on the short puts.  If the market drops a mild amount, particularly soon after purchasing the hedge, the losses on the short puts will exceed the gains on the long puts, negatively impacting performance.  This loss is less noticeable as the long hedge gets nearer to expiration and/or market losses increase as delta of the long hedge and the short puts both end up about the same.  However, as was seen a few years ago, if the market drops slightly, then rebounds, those losses on the short puts are realized and any gains on the long puts are lost when the market rebounds.

 

If there was a way to reduce the cost of the hedge, without dramatically increasing risk, the entire strategy would benefit.  A possible solution comes from slightly “under hedging.”  Testing over the periods from 2012 to the present and from 2007 to the present has revealed if we only hedged 95% of the portfolio, returns would be significantly improved.

 

Let’s take a look at the data from the close of market on September 14, 2018, when SPY was at 290.88.  If we were to enter the hedge, we would have bought the September 20, 2019 290 Puts for $14.96.  If we have a theoretical $90,000 portfolio, it would take 3.1 puts to hedge (we can’t have 3.1puts so we’ll round down to 3).  At that price, three puts would cost $4,488 or 5% of the portfolio (almost historically low). 

 

However, if we were to say “I am not upset if I lose five percent of my portfolio value due to market movements; I am just really worried about large losses,” we could buy the 275 puts instead of the 290.  The 275 puts are trading at $10.61 – a discount of thirty percent. 

 

This means we need less short puts to pay for the position, paying for the position is a simpler process, and rolling up in a large bull market is cheaper.

 

Yes it comes at a cost – risking the first five percent – but given the stock markets trend positive over time, this pays off in spades over longer investment horizons.  Even if you are near retirement, any planning you do should not be largely impacted by a five percent loss, but the gains which can come from (a) having a larger portion of your portfolio invested in long positions instead of the hedge (meaning less lag in market gains), (b) having less risk on the short puts in minor market fluctuations, and (c) paying for the hedge in full more frequently more than offset that over time.

 

We will implement this in the official Anchor portfolios by simply delaying a roll up from gains.  The official portfolio is in the January 19, 2019 280 puts.  We’d normally roll around a 7% or 10% gain (or around SPY 300), instead we’ll just hold until we get to our five percent margin.  OR when we roll the long puts around the start of December, we’ll then roll out and down to hit our target.

 

Note – if you do want to continue to be “fully” hedged, you can do so.  There’s nothing wrong with this, you just sacrifice significant upside potential and will be continuing to perform as Anchor has recently.  If we had implemented this change in 2012, Anchor’s performance would have been more than five percent per year higher.  This is not an insignificant difference. 

Related articles:

 

What Is SteadyOptions?

Full Trading Plan

Complete Portfolio Approach

Real-time trade sharing: entry, exit, and adjustments

Diversified Options Strategies

Exclusive Community Forum

Steady And Consistent Gains

High Quality Education

Risk Management, Portfolio Size

Performance based on real fills

Subscribe to SteadyOptions now and experience the full power of options trading!
Subscribe

Non-directional Options Strategies

10-15 trade Ideas Per Month

Targets 5-7% Monthly Net Return

Visit our Education Center

Recent Articles

Articles

  • SPX Options vs. SPY Options: Which Should I Trade?

    Trading options on the S&P 500 is a popular way to make money on the index. There are several ways traders use this index, but two of the most popular are to trade options on SPX or SPY. One key difference between the two is that SPX options are based on the index, while SPY options are based on an exchange-traded fund (ETF) that tracks the index.

    By Mark Wolfinger,

    • 0 comments
    • 257 views
  • Yes, We Are Playing Not to Lose!

    There are many trading quotes from different traders/investors, but this one is one of my favorites: “In trading/investing it's not about how much you make, but how much you don't lose" - Bernard Baruch. At SteadyOptions, this has been one of our major goals in the last 12 years.

    By Kim,

    • 0 comments
    • 653 views
  • The Impact of Implied Volatility (IV) on Popular Options Trades

    You’ll often read that a given option trade is either vega positive (meaning that IV rising will help it and IV falling will hurt it) or vega negative (meaning IV falling will help and IV rising will hurt).   However, in fact many popular options spreads can be either vega positive or vega negative depending where where the stock price is relative to the spread strikes.  

    By Yowster,

    • 0 comments
    • 483 views
  • Please Follow Me Inside The Insiders

    The greatest joy in investing in options is when you are right on direction. It’s really hard to beat any return that is based on a correct options bet on the direction of a stock, which is why we spend much of our time poring over charts, historical analysis, Elliot waves, RSI and what not.

    By TrustyJules,

    • 0 comments
    • 308 views
  • Trading Earnings With Ratio Spread

    A 1x2 ratio spread with call options is created by selling one lower-strike call and buying two higher-strike calls. This strategy can be established for either a net credit or for a net debit, depending on the time to expiration, the percentage distance between the strike prices and the level of volatility.

    By TrustyJules,

    • 0 comments
    • 1,347 views
  • SteadyOptions 2023 - Year In Review

    2023 marks our 12th year as a public trading service. We closed 192 winners out of 282 trades (68.1% winning ratio). Our model portfolio produced 112.2% compounded gain on the whole account based on 10% allocation per trade. We had only one losing month and one essentially breakeven in 2023. 

    By Kim,

    • 0 comments
    • 5,716 views
  • Call And Put Backspreads Options Strategies

    A backspread is very bullish or very bearish strategy used to trade direction; ie a trader is betting that a stock will move quickly in one direction. Call Backspreads are used for trading up moves; put backspreads for down moves.

    By Chris Young,

    • 0 comments
    • 9,310 views
  • Long Put Option Strategy

    A long put option strategy is the purchase of a put option in the expectation of the underlying stock falling. It is Delta negative, Vega positive and Theta negative strategy. A long put is a single-leg, risk-defined, bearish options strategy. Buying a put option is a levered alternative to selling shares of stock short.

    By Chris Young,

    • 0 comments
    • 10,951 views
  • Long Call Option Strategy

    A long call option strategy is the purchase of a call option in the expectation of the underlying stock rising. It is Delta positive, Vega positive and Theta negative strategy. A long call is a single-leg, risk-defined, bullish options strategy. Buying a call option is a levered alternative to buying shares of stock.

    By Chris Young,

    • 0 comments
    • 11,318 views
  • What Is Delta Hedging?

    Delta hedging is an investing strategy that combines the purchase or sale of an option as well as an offsetting transaction in the underlying asset to reduce the risk of a directional move in the price of the option. When a position is delta-neutral, it will not rise or fall in value when the value of the underlying asset stays within certain bounds. 

    By Kim,

    • 0 comments
    • 9,487 views

  Report Article

We want to hear from you!


Regarding the management of the short put Reel Ken favors going one week out while "holding the strike" in this recent article: 

 

What´s your opinion on this? Obviously theta is higher while having the same benefit in riding smaller pullbacks. At first glance this approach may work better than going 28-days out at first place.

Share this comment


Link to comment
Share on other sites

That doesn't work as well.  We've back tested it, thoroughly.  Using every weekly holding from one week to three months, rolling up, keeping the same (e.g. rolling out to same strike as current) or rolling down.  

 

We used Orats and tested two periods 2007 through the present (as far back as the data goes) and 2012 to the present (from the advent of weeklies to the present). To verify our results we had multiple starting dates (Jan 1, Feb 1, June 1).  We then wanted to make sure it wasn't local to SPY, so tested IWM as well and got the same results.

 

When I originally started Anchor, we started with 1 week puts - it doesn't work as well, whether it rolling down or keeping the same strike.  In down markets you get just CRUSHED and rolling out to the same strike eventually becomes infeasible.  (E.g. if the market dropped 10%, you can't roll to the same strike, you'd only get .01).

Share this comment


Link to comment
Share on other sites

It is not surprising that a reduced hedge would have improved performance in the period since 2012, as this was a bull market. Have you backtested the results to include the 2008 bear?

Share this comment


Link to comment
Share on other sites
4 hours ago, ykotowitz said:

It is not surprising that a reduced hedge would have improved performance in the period since 2012, as this was a bull market. Have you backtested the results to include the 2008 bear?

Yes, starting in 2007.  What was interesting, other than if you ONLY had this from mid-2008 through mid-2009, reducing the hedge was always better.  So unless you just have a very short term time frame, or we enter a very extended bear market (which could occur), a 5% reduction is typically worth it.  Though that can vary depending on risk preferences.  

Share this comment


Link to comment
Share on other sites


Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account. It's easy and free!


Register a new account

Sign in

Already have an account? Sign in here.


Sign In Now

Options Trading Blogs