# 2013 Avrex $100,000 Options Challenge



## avrex (Nov 14, 2010)

2013 Avrex $100,000 Options Challenge spreadsheet

*Purpose:* The purpose of the above portfolio spreadsheet is to generate income by selling call/put options.
For the portfolio in this Money Diary, I will be sharing the options transactions of my non-registered account.
This portfolio is almost exclusively short call and put options.

*Goal: *A 10% return would be great. i.e. $10,000.
*Possible range of outcomes:* -$30,000 to $30,000

*What is my options strategy?*

_"I'm a one-legged naked guy."_ 

Ok, that didn't sound too good. 
Let me rephrase that strategy as follows.

*1. Premium Gain. Sell Volatility. * My ratio of selling short (puts and calls) vs. buying long (puts and calls) is about 2.5 or 3 to 1. Therefore overall, I hope to gain premium dollars.
In this thread/spreadsheet, I will be sharing my transactions of selling calls and puts, in my non-registered portfolio. (I do buy long calls and puts in my RRSP. However, that won't be covered here. My goal is to demonstrate profits by short selling.)
I will sell this *volatility* and hope to profit.
*2. Duration. *When I open a short position, the contract length is anywhere from 1-6 months out. (I also occasionally dabble in the weeklys.)
*3. Directional bias. *I select options in which I have a directional bias in the underlying. With such a short contract duration, I can't necessarily expect the underlying to move in the expected direction in that time frame. However, this is still important, as I'm still playing a probability that it might move in that direction.
*4. No hedge. *I typically don't utilize spreads and haven't used multiple legs. 


*Why do I call this a challenge?*
Options are a zero-sum universe. 
Somebody wins and somebody loses. For every transaction, there are an equal number of dollars won and dollars lost.
The theoretical return on options is zero. (To take this further, the return is actually negative, due to commissions.)

The second reason that this is a 'challenge' is because I'm openly posting this here for all to see. 
This is not a paper account. This is a real $100,000 account.
If my postions crash and burn and I lose $30,000 this year, you will see it documented here.

*No margin used.*
Even though I'll be selling calls and puts, I will not utilize margin.
These are all cash-secured transactions. If I lose, I lose cash. I will not take on any debt.

*Risk.* 
There is substantial risk here.
As I mentioned above, I do not typically employ spreads. Therefore, I do not have downside protection on each individual position.
Each individual option position contains a fair amount of risk and will fluctuate wildly. i.e. I could have some big winners and some big losers.

Does this worry me? Not overly. I look at this like stock diversification (or in this case, options diversification).
By holding many (different) options, in aggregate, I believe that my risk is reduced.

Here's what I expect my individual returns will look like:
small win, small win, BIG LOSS, small win, small win, BIG LOSS, small win, BIG LOSS, small win, etc.
Aggregated, I expect to have a positive result.

*Did I mention that this was risky?* 
I did a stress test on my opening account positions.
If the stock market crashes by 30%, my portfolio would drop by -28,000. A 28% loss.
I did purchase one long SPY put, to 'somewhat' restrict the potential loss. But, it would still be a substantial loss.
The risk on this portfolio is still no worse than having an all stock portfolio. (i.e., it's not too leveraged)

If a short term major event happens, that unhinges the market, there's nothing I can do about it. I accept it.
I've calculated the probabilities and believe that over the long term (years), I have a positive Expected Value.

*If Options are a zero-sum universe, why do you bother?* 
I believe that options are like insurance.
There are many investors that are willing to pay an insurance premium, in the form of an option, to ensure a minimum return on their associated stock position.
I believe that option buyers are paying a higher premium to protect their underlying position, than the expected value.
Therefore, I believe I can be profitable, long-term, by net selling option premium / extrinsic value / volatility / time decay." 

*Disclaimer.* 
By no means am I recommending that you do what I'm doing here.
Everyone has their own method of investing.
The risk profile of my option subset has a particular fit in my overall portfolio.
The method of this subset suits my style and I understand the risks involved.

*Diary updates:* 
I will update this diary and associated webpage, as events warrant.

2013 Avrex $100,000 Options Challenge spreadsheet


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## avrex (Nov 14, 2010)

*Day 1.* Fri Jan 04, 2013.

I initiated 12 positions, utilizing almost all of my cash margin.
After one-day, I'm down.
*2013 YTD = -$380.50*

Now it's time to sit back and watch for a month or so.


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## humble_pie (Jun 7, 2009)

ottomh tns (totally non sequitur) one very nice aspect of all this is that you can probably keep taxable capital gains down to zero.

at the end of the year one buys back enough losing option positions to take capital gains down to zero. I just did this. 100k disappeared in just a phffew days. This exercise always makes xmas-new year's such a stressful week for me.

then as soon as the new year starts, phhhhtt one sells em. Not the identical options of course, but 100k-150k worth in closely related companies. This exercise always makes january such a stressful month for me.

bref it's like having an extra 100k-150k almost all year without having to borrow it from anybody.

by march or april, everything is back to normal each:


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## andrewf (Mar 1, 2010)

My ridiculously risky $100k option strategy?

Buy 163 contracts of Jun 13 UVXY Puts, $16 strike, currently at 6.10

Cost $99,430 + commission. Call it 99,500.

Decent chance of becoming $200k or $0k...


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## avrex (Nov 14, 2010)

@andrewf I guess in comparision, my portfolio is as safe as Canada Savings Bonds.


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## avrex (Nov 14, 2010)

humble_pie said:


> at the end of the year one buys back enough losing option positions to take capital gains down to zero. I just did this. 100k disappeared in just a phffew days. This exercise always makes xmas-new year's such a stressful week for me.


@humble_pie. Yes, taxation considerations, is something that I need to get better at. I had ignored these in the past. 
As you mentioned above, your method gives you a lot of flexibility at the end of the year in how you structure your taxes. 
I'm slowly learning this. thanks.


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## lonewolf (Jun 12, 2012)

Avrex

I wish you the best in your endeavor. The long term put could really help protect you in the event of a market crash.


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## avrex (Nov 14, 2010)

thank you, lonewolf.


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## 1sImage (Jan 2, 2013)

andrewf said:


> My ridiculously risky $100k option strategy?
> 
> Buy 163 contracts of Jun 13 UVXY Puts, $16 strike, currently at 6.10
> 
> ...


Following.... go big or... go back to the bank, I guess.


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## CanadianCapitalist (Mar 31, 2009)

Avrex: I'm interested in studies that show that option sellers in general make profits. If you have references, could you please post them? Thank you.


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## avrex (Nov 14, 2010)

Re-reading that line now, I realize that I do not have enough broad evidence to support the notion that option sellers are more profitable than option buyers. My apologies for stating it as if it was a fact. I should have wrote it more as a personal belief. I have removed this quote from my original post.



avrex said:


> Studies have shown that, in general, option sellers make profits (versus option buyers, who don't).


I did find one study (The Cash-secured PutWrite Strategy and Performance of Related Benchmark Indexes) which shows the potential of selling puts to obtain a return greater than the S&P500. But, I did not find many additional academic studies.

In my original thinking, I may have been recalling option studies that showed winning expiration rates. Here is one study.
Sellers vs Buyers: Who Wins? A Study of CME Options Expiration Patterns
This study showed that 76.5% of options expired worthless (i.e. option seller 'winners')

However, even with these odds, that still doesn't necessarily mean that the option sellers will be profitable.
For example, in my original post, I cited that my trades (i.e. as a seller of options) may look something like this:
small win, small win, BIG LOSS, small win, small win, BIG LOSS, small win, BIG LOSS, small win, etc.
They follow this pattern because an option buyer has unlimited reward potential and an option seller has unlimited loss potential.
So, even though an option seller has more 'wins' than 'losses', he still may not be profitable, in aggregate.

In other words, "there is no free lunch".

I think a better statement, on my part, to explain my personal strategy, would be that,

"I have found a ratio of selling versus buying options that fits into the risk / reward objectives of my portfolio.
I believe that option buyers are paying a higher premium to protect their underlying position, than the expected value.
Therefore, I believe I can be profitable, long-term, by net selling option premium / extrinsic value / volatility / time decay."


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## andrewf (Mar 1, 2010)

andrewf said:


> My ridiculously risky $100k option strategy?
> 
> Buy 163 contracts of Jun 13 UVXY Puts, $16 strike, currently at 6.10
> 
> ...


The bid-ask midpoint today was 6.70, so up about 10% so far.

$109,210.


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## lonewolf (Jun 12, 2012)

Avrex

I wish you the best but I did make a mistake the long term spy put protection may not (most likely wont) offer you protection in the event of a market crash if you are short a bunch of shorter term puts. The shorter term puts can explode in value. Be carefull this is a verry dangerous game.


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## avrex (Nov 14, 2010)

Yes, thank you for the warning. I did calculate my losses in the initial post of this thread.



avrex said:


> I did a stress test on my opening account positions.
> If the stock market crashes by 30%, my portfolio would drop by -28,000. A 28% loss.
> I did purchase one long SPY put, to 'somewhat' restrict the potential loss. But, it would still be a substantial loss.


So, yes, I'm going in with my head up, and accept the risk.


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## CanadianCapitalist (Mar 31, 2009)

avrex said:


> I have found a ratio of selling versus buying options that fits into the risk / reward objectives of my portfolio.
> I believe that option buyers are paying a higher premium to protect their underlying position, than the expected value.
> Therefore, I believe I can be profitable, long-term, by net selling option premium / intrinsic value / volatility / time decay.


Fair enough. I only asked because in my limited experience I find option studies hard to come by. It does make logical sense to me that option sellers expect to profit due to (a) lottery ticket effect -- the tendency to overpay for small bets with large payoffs or (b) providing insurance. I just wanted to see if there are studies that confirm this.


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## andrewf (Mar 1, 2010)

From what I recall, that study essentially said that cash-covered put writing performs wells for the same reason low beta stocks outperform high beta stocks.


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## andrewf (Mar 1, 2010)

andrewf said:


> The bid-ask midpoint today was 6.70, so up about 10% so far.
> 
> $109,210.



Now bid-ask midpoint is 7.10, up 16%.

$115,730.



1sImage said:


> Following.... go big or... go back to the bank, I guess.



Maybe to clarify, this is just a toy example. I am not doing this particular trade, nor would I. The risk is way too high. Essentially a coin flip with asymmetric payoffs. There's about 33% chance of -100%, 66% chance of avg 100%+ return.


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## andrewf (Mar 1, 2010)

Bid-ask midpoint is 7.60.

+24.6%


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## andrewf (Mar 1, 2010)

Bid-ask midpoint is 8.00, for a gain of 31.1%

Portfolio at $130,900...

Not bad for 1 month.


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## humble_pie (Jun 7, 2009)

why don't you open your own thread w a real option position andrewf


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## andrewf (Mar 1, 2010)

It's been two months and the Jun 2013 16 put options have a bid-ask midpoint of 9.30. I think it would be prudent to sell at this junction.

163 contracts * 9.30 = proceeds of $151,590.

To keep it going, we could roll down and out to the September $7 puts, with a bid/ask midpoint of 2.55. $100k bet again, so make it 392 contracts. We'll keep the other $51k in cash to live to fight another day if this trade goes south.


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## andrewf (Mar 1, 2010)

Nearly forgot about this.

So we had 392 x September 2013 $7 puts (pre reverse split) bought at $2.55, as well as $51k cash. Today they are trading at a bid/ask midpoint of $3.35. We're getting close to expiry so I think it's time to roll again.

Sell 392 * $3.35 * 100 = $131,320, to make a cash total of $182,000 roughly.

Let's keep $82,000 in reserve and use the $100k to roll out to Jan 2014. Buy $37 UVXY puts, currently trading at B/A midpoint of 12.60. That makes 79 contracts for a total of $99,540.

Summary: 

79 x Jan 2014 $37 puts @ 12.60
$82,500 cash

I calculate an expected account value in January of about $280k (error bars of $180k to $320k-ish, barring a VIX apocalypse), form our start of $100k in Jan 2013.


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## andrewf (Mar 1, 2010)

It's been a couple of months and there has been some crazy volatility with VIX futures and UVXY with the debt ceiling showdown.

The Jan 37 puts are now trading at a bid-ask midpoint of 14.55. Thus, the puts are worth $114,945 today, which along with the cash balance of $82,500 gives a total of $197,445.


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## andrewf (Mar 1, 2010)

It's been a year. 

The Jan 37 puts are trading at a bid-ask midpoint of 20.175, giving the 79 options a value of 159.382.5. Add the cash of 82,500 and the result is 241,900 for an XIRR of about 142%. 

My actual 'volatility' portfolio had an XIRR of 173% this year, though with a much more cautious (relatively speaking) version of this strategy (ie, not all in on one strike/expiry, and keeping ~35% cash). Also, I haven't been modelling slippage due to not being able to trade exactly at the midpoint. To be honest, it performed better than I expected in 2013.

I can post a bit more of an explanation of my strategy if people are interested. The reason I don't post my actual trades in real time is that I don't want the fact that I'm doing it publicly influence my decision-making. So instead I maintained this thread with trades that were somewhat illustrative of what I was doing, as some evidence that what I was doing seems to work without being accused of back-testing with hindsight.


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