Hey friends, welcome to part 2 of my simple strategy. If you are new to options selling or you are not familiar with put credit spreads be sure to read my part 1 or watch the video for a basic introduction to them. With that, let’s look at the strategy.
But before I begin, as always, I am not a financial advisor. I am sharing my journey and what has worked for me. I do not know your life situation or risk tolerance. I hope you find my content educational but seek out other traders and resources as well as a financial advisor who understands options. In the meantime, you can start paper trading this strategy right away and I do recommend that. Paper trading is extremely useful when adding a new trading strategy you are unfamiliar with.
This is a simple rules-based approach. It can be a great starter trade to dip your feet into option selling without having to learn too many options concepts at once. If anyone has heard of the Parking Trade created by Tim Pearson and Dave Thomas, this is heavily inspired by that. It was called the parking trade because Dave’s daughter used it to pay for her monthly parking. It’s a funny name, but no strategy guarantees a monthly profit.
The Layered Credit Spread Strategy
What to trade: SPY
SPY is a fund that contains all of the stocks in the S&P 500. This means it has built in diversification and that helps reduce our risk. It also has very actively traded options, making it perhaps the easiest underlying stock to trade options on with the least slippage. It’s OK if you don’t know what that means, just know that SPY is a fantastic options underlying.
When to trade: Every Week
We trade each week before the 4 PM close on the first down day (the first day SPY is closing below the previous day’s close). Leave at least enough time before 4pm to put in your orders and possibly adjust the price. If we haven’t traded by Wednesday, we enter on Wednesday near the 4pm close regardless if it is an up or down day.
Which expiration date to use: 45+ DTE
We pick the closest options that are 45 or more days to expiration.
Which options to buy and sell:
Find the put option priced around $1.50. Make the put credit spread order by selling that option and buying the strike $10 below it. Then move the strikes up and down, maintaining the $10 difference, to find where you collect at or just over $0.50 cents for the put credit spread.
When we enter the trade, we will use a limit order at the “mid-price”. This is halfway between the bid and ask for the spread order. If we can’t get filled at the mid, we slowly adjust the price until we are filled. SPY is extremely liquid so fills will come easily most of the time.
You may be wondering, if we are entering every week but we are trading options that expire in 6+ weeks, won’t we have multiple spreads on at the same time? That’s true, by design. Layering multiple spreads weekly helps smooth out our timing risk and provides an extra form of diversification. The trades still all are sensitive to a down move so it’s not perfect, but it helps.
When to Exit:
We exit for one of three reasons. We may take a profit, cut a loss, or we get out if we are getting close to expiration. For various reasons, it is better to not ride these positions all the way to actual expiration.
If you can close (buy back) the put credit spread for $0.10, exit the trade. You have made most of what is possible from the trade and it’s better not to be too greedy.
If closing the trade will cost $1.50 or more, we cut our losses. This means in a normal price move against us our risk per spread is only around $100. It is possible to lose much more or even the maximum, but normally our losing trades will be reasonable. Keep in mind we will have multiple spreads on most of the time and they tend to move in sync.
Close to Expiration:
If the spread has 7 days or less to expiration, we exit as we are getting too close to the expiration date. Also, although it would be extremely rare, if one of our short options is “assigned” and we now have 100 shares of SPY, sell the shares and then sell the remaining protective put.
These exit rules are evaluated independently on each of our active spreads. We do this every day near the close.
We could potentially have 6 overlapping spreads on at one time. Each spread will use close to $1000 in margin ($10 wide strikes x 100 shares). Trading just 1 pair of contracts for each position we would need at least $6000 in the account. I do not recommend trading all of your money in a single trading strategy, but that would be the minimum account size in your options account to trade this live.
So that is a simple strategy that’s great for beginner option sellers. I hope you found it interesting. If you have any questions, drop them in the comments and I’ll try and answer them there or in future posts and videos.
I used values like $10 or $0.50 based on the current SPY price in July 2023. If SPY is trading much higher or lower than 400 you should consider adjusting those values. In the next post, I’ll talk about ways you might choose to change this strategy to suit you. I’ll also share a way you can reduce your taxes so keep an eye out for that here or on my YouTube or Rumble channels.