Partially executed HD calendar (-Feb17 +Mar17 $140 call)

[blackice 5]

Hi everyone,

 

I'm in an interesting situation: last Friday (2/17) I bought 4 HD calendar (short Feb17 140 call & long Mar17 140 call) to keep it post earning. At end of Friday, HD price was $143, and my short Feb17 call was executed. Therefore right now I'm holding short 400 HD stocks and long 4 Mar17 calls, as shown here:

 

I never met this before, and here is my analysis to this interesting situation:

1. Max loss is still the same as no execution happened: the premium I paid for calendar. Reason: I can execute my Mar17 call options anytime, as a result I have zero P/L from the actual stock transactions. If I do this, the only loss is the value of my call options, minus the premium collected from selling Feb17 calls, which is equal to the total premium I paid for the calendar
2. Unlike holding both calendar legs, the potential profit is huge, because if HD stock drops a lot (much below $140), my Mar17 call options' value drops to $0, but I earn much more from 400 short stocks
3. Be more realistic, what if HD price is moderately above or below $140? Delta will help. The stock position's delta is plain 1, while Mar17 call's delta is currently -0.32. This means if stock price increases $1, my short stock position loses $1 but call gains $0.32, total loss = $0.68. While if stock price drops $1, short stock gains $1 and call loses $0.32, total gain = $0.68. This $0.68 gain/loss per $1 stock change is only true when stock price is around $140, since otherwise call option delta will change significantly
4. The whole game was changed. If I hold both legs, I'd expect stock price sticks to $140, where the calendar shows max profit. Now with my short leg executed, I'd expect stock price drops as much as possible, where my potential max profit would be higher than calendar max profit
5. A more interesting question: what stock price in current situation (one leg executed) will make me the same max profit in complete calendar? Probably need to resolve some equations. Welcome any ideas
6. Lastly, the most piratical question from me: how to close this position (short stocks + long call options) properly? I guess I can just open two separate limit orders. Please let me know if there's better idea

 

@Kim to comment on above thoughts. I'd imagine this situation could happen to other forum members some day, if they play this post earning calendars. So Kim's education is much appreciated here.

 

Thanks.

 

 

[greenspan76 302]

@blackice Just out of curiosity, why did you open short calls expiring same day when the stock was already in the money at that point and earnings wasn't until after the short calls expired? I guess maybe you were just making a directional bet on HD's earnings, but I'm not sure I understand why a calendar would be the right play in that case. Why not just buy straight out of the money calls? You would have needed a big move anyway to overcome volatility crush of your longs. Or did you mean you were short Feb24 calls and were assigned?

Edited February 20, 2017 by greenspan76

[Kim 7,513]

First, it is important to understand that when you are short call that are ITM at the expiration date, you are GUARANTEED to be assigned. So I'm not what what the purpose of the trade and why it was structured this way. If you wanted to play volatility crash, the short leg should have been with this week expiration (after earnings).

 

To close, it is best to build one custom order. If you close separately, you are exposed to directional risk.

I'm not sure about the current P/L. 

Going forward, if you consider a trade and want a feedback, it is usually better to post before you make the trade, not after. 

[blackice 5]

9 hours ago, greenspan76 said:

@blackice Just out of curiosity, why did you open short calls expiring same day when the stock was already in the money at that point and earnings wasn't until after the short calls expired? I guess maybe you were just making a directional bet on HD's earnings, but I'm not sure I understand why a calendar would be the right play in that case. Why not just buy straight out of the money calls? You would have needed a big move anyway to overcome volatility crush of your longs. Or did you mean you were short Feb24 calls and were assigned?

Thanks for the reply!

You're right, I opened the wrong option. My intention was to hold it through earning, but chose wrong option exp date.

For the strike price, when I bought it, HD was around $140 and the option was ATM. Later in the day it went to $143.

 

[blackice 5]

7 hours ago, Kim said:

First, it is important to understand that when you are short call that are ITM at the expiration date, you are GUARANTEED to be assigned. So I'm not what what the purpose of the trade and why it was structured this way. If you wanted to play volatility crash, the short leg should have been with this week expiration (after earnings).

 

To close, it is best to build one custom order. If you close separately, you are exposed to directional risk.

I'm not sure about the current P/L. 

Going forward, if you consider a trade and want a feedback, it is usually better to post before you make the trade, not after. 

 

Thanks for the advice, yes, I chose the wrong option exp date..

 

And by your advice of "one custom order", can I combine stock position with option position in one order in IB?