Benefits of Index Spread Trading

Benefits of Index Spread Trading

1) Credit spread trading is a simple, safe, and stress-free type of trade that does not require a great deal of monitoring. You just place the trade, collect the credit, and wait for the options premiums to decrease or expire worthless. Minimum time is required to process and track these credit spread trades.

2) You receive the proceeds of each credit spread trade immediately when your order is filled and you keep these proceeds no matter what happens.

3) The credit spread has two primary advantages as an income generating strategy. First, the position benefits from time decay. Since options decay in value with the passage of time, the value of the credit spread will in turn decay over time. By writing a credit spread, you are selling a decaying asset and receiving a credit or a premium up front. If the underlying market remains stable until expiration, the spread expires worthless, allowing you to keep the premium received. In a sense, you profit from the passage of time.

4) The credit spread also allows you to benefit from market movement. If one writes a bullish credit spread using puts, the value of the spread would rapidly decline as the market moves higher. The converse is true for bearish call spreads. With this flexibility you can inject an element of trend following into your trading program to increase your odds of success.

5) Gains on stock index spread trades are considered ITC Section 1256 contracts. This means any gains made in these trades are taxed under a 60/40 rule. This rule states that gains are treated as 60% long-term capital gain income and 40% short-term capital gain income (ordinary income) regardless of how long the investment was held. So when we hold a index spread trade for 30 days (our average holding period), 60% of the profit made from that trade is treated as long-term capital gain income and taxed at 15% or 5%.

6) Trading capital is only used to support margin requirements when trading credit spreads. Most option brokers allow you to invest your trading capital elsewhere to be used as collateral for spread trading. Trading capital can be invested in closed-end funds that pay dividends monthly and are diversified across munis, preferreds, REITs, corporate bonds, floating rate loans, convertible bonds and other fixed instruments. Between the dividend yield and capital appreciation you can earn 7%-10% annually. Most brokers allow you to margin 100% of cash amounts, 90-95% of t-bill amounts and 50% of the stock amounts like closed-end funds.

Update on Open Trades Expiring In June (15th)

With 21 days remaining to expiration all filled trades are safe and should be expiring worthless on Friday June 15th.

We are having trouble getting the RUT Bull Put Trades filled but the replacement 750/740 trade I emailed 5/24/07 still has the potential to be filled next week if the RUT has a down day. When this Bull Put trade is filled I will research a safe RUT Bear Call Spread trade to complete an Iron Condor.

I now have 2 very safe and financially rewarding NDX Iron Condor trades in play. The 25 spread trade has been filled and has a 5.5% return. The new 10 point NDX Iron Condor trade has an even better return of 6.4% and only requires $1,000 margin per contract. Each month I will research both the 25 and 10 NDX spread trades and more than likely trade both. In previous months the premiums offered on the 10 point NDX spreads were very low. For some reason the premiums this month are very good and with only 21 days remaining I expect this to be a very safe expiring trade.

Objectives of My Trading Strategy

• Investopedia defines a credit spread is defined as “An options strategy where a high premium option is sold and a low premium option is bought on the same underlying security.” The result of this transaction is to receive the difference in premium between to two options. Your goal would be to have both options expire worthless, allowing you to profit from the premium received.
  
  
• 1) Earn consistent cash profits month after month averaging a 3% (2%-5%) net return. Earn these profits in bull and bear markets.
  
  
• 2) Establish the appropriate stops to protect each spread trade from realizing a loss. When trades are in trouble close and roll to a new trade to offset any loss on closing the trade in trouble.
  
  
• 3) Enter Bull Put Credit spread trades on the SPX, NDX and RUT Indexes that have a very high probability of expiring worthless. This is a low risk options trading strategy.
  
  
• 4) Complete Iron Condor trades to double the return on the required margin capital that only covers one side of the Iron Condor.

All May Trades Expired on Friday the 18th!!!!!

All Bull Put and Bear Call Spread trades expired worthless on Friday May18th. All April trades expired and now now all the May trades expired. I want to continue this expiring trend the remaining months of 2007. My trades will always be conservative and safe and earn 3%-5% each. A 3% return for 30 days is not a bad return and is the average for a single Bull Put or Bear Call trade. When we complete an Iron Condor the return improves to 5%.

The total return this month was 4.3% ($190/$4,385). All credit premiums collected totaled $190 (30+40+75+45) and $4,385 (970+960+2455) margin was required per contract. If you traded 10 contracts per spread your credits totaled $1,900, 20 contracts $3,800. These are the returns and cash flows I expect to receive consistently each and every month. The return will be higher in months when additional Iron Condors can be completed on each Index. In May we had one Iron Condor completed on the NDX Index. This trade required margin for one side and generated a 4.9% return (75+45/2455).

New trades expiring in June will be emailed later this weekend. I will continue to focus on selecting very safe trades and I already have a few Bull Put trades identified. The NDX 16XX Bull Put and 19XX Bear Call 25 point spread trades have been very profitable and safe these past few months. The Bull Put RUT trades have also been very profitable.

Update on Open Trades Expiring Next Week

With only 4 trading days remaining to expiration all open trades are safe and will be expiring worthless on Friday May 18th. Even the new RUT Bull Put Trade filled last week is safe with only 4 days remaining. The market appears to be returning to a neutral trading pattern when is perfect for Iron Condor trading.

I really look forward to next weekend when I will be executing new trades expiring in June. The NDX 25 point spread trades are continuing expire month after month. The RUT 10 point Bull Put spreads are also expiring each month. My total return this month will be 4.3%. This is a slight improvement from April's 4.2% total return. My goal for the June trades will be to achieve a 5% or better return for the month by completed at least 2 Iron Condors.

What is truly amazing about this conservative trading strategy is that we can achieve a 30 day return that equals the annual (APR) return being advertised for savings accounts with a minimum balance of $50,000.

Update on Open Trades Expiring in 12 days (May 18th)

All open trades are very safe and should be expiring worthless on Friday May 18th. The RUT and new SPX Bull Put trades were not filled last week. The market continues to rise to record levels each week preventing these Put trades from  executing at their midpoints.

I am not comfortable executing any Bear Call Spreads this month unless the market starts dropping in the next 2-3 trading days. No one knows how high this overbought market is going to rise. Bull Put spreads are the only safe trades for this trading strategy at this time. We need just a few consecutive down days for our Bull Put spreads to be filled.