By Derek Moore
New HiPOS Short Put Spread Explained
Today ZEGA capitalized on the move higher in volatility finding a short put spread that qualified under our strict rules for entry.
This position at the time of entry was about 16% out of the money. This is the distance between the S&P 500 Index price and the short put strike of 3200. The expiration date utilized is Feb 3rd which is 22 trading days. This includes the market holiday January 16th.
This trade has a targeted return of about 1%.
The thing that makes this a “HiPOS” trade is its high probability of expiring worthless.
As a seller of premium or volatility, we take in a credit and look for the value of the positions to eventually expire worthless at zero. When we placed the trade, the probability of the S&P 500 Index price expiring right below the 3200 strike was less than 1%.
Off course probability does not equal certainty but is one of the inputs in our calculus.
Explaining The Graph Above
All the normal ingredients such as the chart of the S&P 500 Index, expiration date, and short strike are noted within the chart.
The purple curved line is a guide to see, beyond the short strike price level, how the trade is progressing. You’ll notice it slopes down and to the right. As time ticks by, and more time decay premium erodes, trades have more room to breathe. This line represents areas should the market move below ZEGA may take a more defensive posture to further manage risk.
With HiPOS trades, we like to see markets remain somewhat stable early in the trade to get past its seasoning point.
What You Are Rooting For
We touched on early in trades we’d like markets, in this case, to settle or move higher.
We want time to tick by so that time decay, an asset for volatility sellers, starts to kick in as we march closer to expiration day. With HiPOS trades, we don’t need the market to go higher to potentially realize full profits. We simply do not want the market to move too far too fast down towards the 3200-strike price.
So, for now a little down is fine. Sideways is fine and up is more than fine.
As always reach out to a ZEGA team member with any questions!
Now for the Particulars:
- Index: S&P 500 Index
- Position type: Short Put Spread
- Short put strike: 3200
- Long put strike: 3150
- Put Spread Risk (prob. ITM): < 1% at time of entry
- Targeted total return: ~1%
- Distance Put Strike OTM: ~16% at time of entry
- Expiration: February 3rd, or 22 trading days until expiration