Can you explain how you came across this strategy? Where did you learn about options Howard?
I have, several times, but once more wont hurt too much.
Seven or so years ago I was working with a branch of AI (Artificial Intelligence) known as GA (Genetic Algorithms). I developed my own GA tool kit and posted questions and answered questions on some lists (the equivalent to forums today). I got a consulting gig from someone who wanted to use my package. I built a special interface for him and he did the rest. It turned out that he traded credit spreads and was using GA to refined the parameters of his rules. He never told me his results, but that renewed my interest in spreads.
It turned out that around 1975 I acquired a book titled "Planned Profit Through Hedging, a quick course in investment strategy" by Robert W. Brickel.
In neither of these experiences did I pursue things much further. Early this year a friend showed me what he was doing with respect to options trading. He was doing naked trades and after several years was about break even. I recalled my interest in spreads and had the time to pursue it.
I developed a concept similar to Probability of Touching and began exploring that as a way of better identifying the chances the short strike would be overtaken for a potential loss. During the development of the my estimator using Monte Carlo methods I read quite a few papers on options valuations and their insufficiencies. As I was experimenting with different probability distributions I opened an account with ThinkOrSwim and found they had a calculation that gave results close to my own. I abandoned mine because theirs was so much more convenient.
Bottom line, my knowledge of options is more theoretical than practical.
The breakthrough that made my methods reliably successful in back-testing was the techniques I brought to managing the spreads once entered. Up until then, I was getting results close to those predicted by Probability of Touching. But one bad month could wipe out several months of profit.
Once I added the management techniques, described in great detail in this thread, the wild draw-downs disappeared. I paper traded for 5 months to turn these rules into a practical form that took into account the challenges of actually making the trades necessary to enter and manage the spreads.
And now, here we are.
I dunno, I'm just confused by this. WTF? You showed that the premise for the price of an option being the costs to hedge it were incorrect?
Reread the entire post. There were several premises that, by observation, were simply not consistent with my portfolio. If the premises were not accurate, I could not rely on any conclusion based on these premises.
What?! Are you kidding me? How can you manage the risks if you can't even acknowledge them?!
I don't recall every denying there are risks. I have stated that I have several methods for managing them. How can I be any clearer here?
If you agree that you don't understand the risks, but don't believe that it is necessary and are satisfied to continue anyway... errr.. Good Luck.
Good luck is always a good thing. However, I've found that it takes a prepared mind to recognize an opportunity and exploit it. Many seem to confuse preparation with luck.
If I were you, Howard, I'd ditch everything you think you know about options and start from scratch on the basics of options from a textbook. There are plenty about. The "understanding" of options that you have now has some fundamental flaws to it and that is why you can't see things from our frame of reference.
I appreciate your advice. But until you can switch from declaring my ignorance as a basis for looming disaster rather than my management skills to mitigate said disaster, your advice seems weak and unconvincing.
