|Combined Trade Placed as One Order
Depending on your trading platform, this trade can be placed as one order, or you will have to enter each side of the trade separately. OptionsXpress and TOS allow you to do it as one, I believe eTrade, TradeKing, Fiedelity you will have to place it separately. It is important to remember that if placing the trades separately, if one side of the order gets filled, the other side must get filled, as well. The success of the strategy depends on having all four (4) legs.
As it turns out, LULU is down $5.00 a share right at the market open here, a perfect position for the put side of the trade.
What is really great about this strategy is the minimal cost it takes to place and the high ROI. Unlike the Straddle or Strangle, it does not require a massive move to profit. In fact, even if the stock only moved $3.00 a share up or down, this trade still would be profitable. It holds value extremely well too. I have had many instances where the stock moved much more than I anticipated, and I still profited.
It is also important to understand that no matter what, one side of the trade will be a loser. It is the way the trade is structured. For example, on LULU, the call side of the trade is currently going for about $0.20 at 9:51 am EST on 9/10/15. Generally, I like to close out the losing position (the calls in this instance), especially when there are weekly options. When there are only monthly options available to use, which would be September/October, then I tend to hold onto the losing side longer in case there is a reversal, which can happen.
Time-decay is a big factor when using this strategy. As each hour passes, the price will continue to rise on the profitable side. Even if the stock should start to reverse, do not panic and sell too soon. A lack of time is on your side, so to speak.
As I mentioned earlier, if there is a choice between using a high priced Straddle/Strangle or a more safe, extremely less expensive strategy like the Double Neutral Calendar Spread, I will always use the DNCS. It is low-risk, high-reward strategy.
Now to the issue of what stocks to use this strategy with and other notes. You will only want to use this strategy with liquid stocks and especially liquid options. The reason for this is that on non-liquid options, the bid/ask price is very wide. Market makers and a lack of volume make it difficult to exit at the desired price. The entry is that tough to fill, but closing it out will be, so stay away from stocks where there is low volume, and always check the option volume, daily and open interest before placing any trade. A good example of this is a stock like Intuitive Surgical. A great candidate for this strategy based on how it moves post-earnings, the bid/ask prices can be $5.00 apart sometimes. That is simply too wide, and what usually happens is that the bid price will be extremely low, while the ask is high. Even trying to get a mid-point price is difficult because of the lack of volume, so just keep this in mind.
You do not want to use this strategy on a stock like MSFT, T, or other non-volatile stocks that don’t move too much after reporting earnings. Looking at a stocks historical movement after reporting earnings (use at least the last 4 quarters, if not more), will give you a good idea of which strike prices to use. You can also look at the options chain and the at-the-money calls and puts, add those up together, and see the anticipated price movement “priced” in.
This strategy works great on stocks like TSLA, AAPL, BIDU, BWLD, GMCR, Z, YELP, PCLN (depending on bid/ask prices), ULTA, etc..
Choosing the right strike prices to use at first may seem to be difficult, but it is not. Remember, this strategy holds up very well no matter what the movement is (even non-movement), so if the strikes you chose are off a a little, it is not a major issue. If anything, I like to widen the strikes out more on stocks like TSLA just to be on the safe side.
Always use your trade calculator when using this strategy. If you ever see a Profit/Loss chart that looks like this (another LULU example that shows when the strike prices are too wide apart, using 71.00 strike calls, and $57.00 strike puts compared to the trade posted), do not trade it:
To understand this, if there are 0.00 ‘s or a negative (in red) in the middle price (in this case at $60.87), this is a clear sign to steer clear. Sometimes, you will find a stock that you think will be a good candidate for this strategy, but when using the strikes that look like they would work well, they simply don’t align. This happens. Move on to the next trade. Other times, you will need to adjust the strike prices by a dollar, but make sure to never force a trade that isn’t there. As you begin using this strategy, you will become more familiar knowing when to use it. I do recommend using this strategy on stocks you follow or are at least familiar with.
As I write this, LULU has moved down over $7.00 a share, and the trade has still held up remarkably well. However, the goal of the strategy is to exit the profitable side quickly, not to keep it open for too long.
I do use this strategy quite often, especially during earnings season, and post them on my Trading Forum subscription with a full explanation of the strategy for that specific trade and the entry and exit points. If you have any questions on this strategy, you can e-mail me at firstname.lastname@example.org or leave a comment here and I will respond as soon as possible. Thanks.
Updated: 12/6/17. This strategy is still doing remarkably and consistently well. In fact, I am placing the Double Neutral Calendar Spread today on Lululemon Athletica Inc. (LULU), which reports after the markets close today. I am expecting it to do very well, and got the trade for such a great price, which is one of the main reasons the strategy does so well, along with the extremely high ROI. I rarely even use the Strangle strategy anymore because of this.
I highly recommend using this strategy when the parameters I posted in the article fit the criteria. If you have any questions, you can e-mail me anytime at email@example.com