What Are we Trying to Achieve When Trading? Part 2
To truly get an accurate picture of a comparison between the likelihood of success for two different strategies, we must use a real life example, and compare ‘apples to apples’. We are going to do that here with two strategies: That is, we will compare selling ‘at the money’ Put options (spreads) with buying ‘at the money’ Call options, and using the Actual Risk on both.
We will use a real trade and real company for this example, but we have changed the company code, the ‘ticker’, to XYZ.
XYZ closed at $28 even, so we’ll use this to give us an accurate comparison between the two strategies. The figures used are the overnight Indicative Margin Prices for Options (fair value) provided by the ASX.
Example A - Selling Put Spreads
Jenny thinks the share price of XYZ is going to go up, and decides to sell ‘at-the-money’ Credit Put Spreads. It’s the start of the month, and she sells the $28 put and buys the $27 put (a $1 spread) and receives a premium of 37.5c, or $375 per contract.
This means the Actual Risk is 62.5c per share, or $625 per contract of 1,000 shares ($1 per share minus the premium of 37.5c). No matter what happens to the price of XYZ, the most Jenny can lose is 62.5c per share, or $625 per contract.
Jenny has $10,000 to invest, so she is able to sell 16 contracts, and receives a net premium of $6,000.
As long as the share price is above $28 by the end of April, Jenny will receive 100% of her net premium, being $6,000.
The ‘break even’ point
To truly get an accurate picture of a comparison between the likelihood of success for two different strategies, we must use a real life example, and compare ‘apples to apples’ We are going to do that here with two strategies: That is, we will compare selling ‘at the money’ Put options (spreads) with buying ‘at the money’ Call options, and using the Actual Risk on both
