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Old 09-23-2014, 10:39 PM   #16
barn32
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Quote:
Originally Posted by PaceAdvantage
...so even though the butterfly spread alone is a bearish trade, when combined with stock or calls, it brings it to a neutral trade in terms of delta.
I guess I should have read more closely what you said. Perhaps that's why you have to pay him the money...so you can see exactly how he hedges.

From the video it appears to be a combination of rolling up (or down) the butterfly, vertical spreads, or purchasing calls.

After playing around with it for a while, I can't figure out exactly how he's doing it.
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Old 09-23-2014, 11:57 PM   #17
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Like him, I buy calls (IWM calls, not RUT), not outright shares of the ETF (IWM is the ETF for the Russell). It achieves the same purpose of getting me to delta neutral and keeps everything in options. If you are trading multiple lots of these butterfly spreads, then you'd probably want to look at buying the RUT calls instead of the IWM calls....a RUT call would be too much though if you're only trading a "one lot" of these spreads...the IWM is smaller in size and works much better when you're only trading one or two lots of these things.

The long put butterfly is a net debit trade. You're buying the trade, not selling it (thus you don't get the credit deposited to your account when you open the trade like you do when you sell a credit spread). However, it is a theta positive trade (or at least your goal is to keep it a theta positive trade), so it acts much in the same way as if you were selling a credit spread. I don't know enough to explain why...I just know it is...

That spread you posted looks about right in terms of max profit/max loss. If your trading platform does not support you putting in butterfly orders (ie. you have to buy each individual leg of the spread and cobble it together yourself), then I would not be trading this system, or spreads in general. Find a broker/platform that lets you enter a single order for the entire spread at once, and executes the whole thing at once. I currently use thinkorswim...but I am still in the early stages of this. If I choose to get serious, I will find another broker with more favorable commissions.

With that said, the thinkorswim options platform at TDAmeritrade is an excellent piece of software for the options newbie...

I would also check out tastytrade.com. Their videos and streaming live shows can teach you a lot.

And again, I haven't paid Mr. Locke one cent...I got everything I basically needed off the video to get rolling with this...and I have rarely had to adjust...what he's doing in the video is NOT the original M3 trading plan. I am trying to duplicate the original M3 plan...I think he outlines the rules of the original M3 plan in the video early on (I believe there is a single slide in the presentation that has all of the rules...there aren't many rules), but what you see him trading through the rest of the video is NOT the original M3. He adjusts a LOT in the video...not sure if it's because of the trading environment he was in at the time (probably), or if his modifications over the years have led to more adjustments...but keep in mind what you see him doing in the video is NOT the original M3.

The original M3 is a simpler plan...and one that seems to agree with me thus far...

Last edited by PaceAdvantage; 09-24-2014 at 12:17 AM.
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Old 09-24-2014, 03:27 AM   #18
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Quote:
Originally Posted by PaceAdvantage

The long put butterfly is a net debit trade. You're buying the trade, not selling it (thus you don't get the credit deposited to your account when you open the trade like you do when you sell a credit spread).
Thanks. This is what I originally thought. Early on in the video (at the 5:43 mark) there is a slide of his original 2007 M3 Trading Plan. Rule #5:

"Enter 1 put or Iron Butterfly 50 point wings 15-25 points below RUT price." That's where I got it.

The Iron Butterfly is a credit spread, and the long put butterfly is a net debit trade as you say.

I've looked at both. The Max profit/loss for the long put butterfly (entered 20 points below the close) at yesterday's closing prices is +$3960, -$1060.

Somehow, by adding stock, this brings the profit/loss to +$500, -$500.
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Old 09-24-2014, 08:34 AM   #19
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I don't know why he called it an Iron Butterfly...or maybe my interpretation of the M3 trade isn't exactly what he meant...lol...an Iron Butterfly doesn't use all puts...but I'm pretty sure his M3 uses all puts...and I'm pretty sure the M3 is a net debit trade.

As to your last line in your last reply...the only purpose of adding stock (or calls), is to bring the trade to delta neutral at the beginning. It does not bring the max/profit loss down to $500/-$500.

The $500/-$500 is your exit point in terms of profit/loss. You aren't going for max profit with this trade, and you're certainly not holding on until max loss. You're exiting the trade as soon as it hits either +500 or -500 or until you hit 20 days before expiration, whichever comes first. Of course, as you gain experience, you can bend the rules a bit. For instance, my September expiration trade, I hit the 20 days to expiration point, and I was at break even with the trade. I looked at the charts and thought there was little risk in holding on a bit longer, as I thought the market was probably going to head down some...I ended up exiting about 10 days later with about half my profit goal, which was better than just break even...

If you're trading multiple lots, then of course, the +500/-500 goal becomes +1000/-1000, +1500/-1500, +2000/-2000...etc...etc...

Last edited by PaceAdvantage; 09-24-2014 at 08:37 AM.
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Old 09-24-2014, 09:46 AM   #20
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Quote:
Originally Posted by PaceAdvantage

As to your last line in your last reply...the only purpose of adding stock (or calls), is to bring the trade to delta neutral at the beginning. It does not bring the max/profit loss down to $500/-$500.
OK, I think I've got it, just a couple of things. How much stock do you add, or how many calls do you buy and how deep in the money?

Also, is the Thinkorswim software telling you when your delta comes into line? Are you aiming for the +/- 50 for delta neutrality?

[I'm using IB, and I'm sure it has that capability, I just haven't figured out how to do it yet. IB is much, much more feature rich than when I was using it ten years ago.]
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Old 09-24-2014, 10:05 AM   #21
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You add as much as it takes to get the delta as close to 0 as you can, within reason (and this only occurs when you open the trade). Since I've only been trading this system since January, I'm still only trading one lot. So I've only ever had to add one IWM call. Of course, the deeper in-the-money the call is, this will also have an effect on how much it moves your delta towards 0. But of course, deeper in the money calls cost more. It's all a balancing act. I could buy more of a lesser in-the-money IWM call, which is cheaper in price, but then you're paying more in commission.

I would imagine, as you increase your lot size of these butterflies, you can switch to straight out RUT calls...

Just as a hypothetical example (I'm not sure if the ratio of number of calls to number of butterflies is accurate because I'm not in front of my trading platform now to verify), if you were trading 5 lot butterflies, instead of buying 5 IWM calls, you might only have to buy 1 RUT call, saving you on commissions. Or maybe you only have to buy 3 IWM calls if you buy deeper in-the-money calls. Like I said, it's a balancing act where you can go in a couple of different directions.

And if buying stock is cheaper, you could go that route too, and buy shares of IWM to get to delta neutral. I like to keep things simple, so I've only looked to trade all options when doing the M3.

Last edited by PaceAdvantage; 09-24-2014 at 10:09 AM.
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Old 09-25-2014, 09:10 PM   #22
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John Locke Interview
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Old 09-27-2014, 12:26 PM   #23
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If you don't mind just to clarify:

1. After establishing the initial butterfly spread, are you purchasing 1 IWM call (40,50,60) points out of the money or whatever as a proxy for the stock?

2. let's say the initial spread looks something like this:

1050 (buy 1)
1100 (sell 2)
1150 (buy 1)

And now the Russel takes a 30 (or 40, or 50) point drop to 1070~.

Do you wait until it drops below 1050 to roll down, or are you rolling down now because it dropped more than 20 points below your middle strike?

And, if and when you do roll down do you also purchase another IWM call at the same time? Roll down your first IWM call? Or let it stand?

Thanks
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Old 09-27-2014, 02:08 PM   #24
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Quote:
Originally Posted by barn32
If you don't mind just to clarify:

1. After establishing the initial butterfly spread, are you purchasing 1 IWM call (40,50,60) points out of the money or whatever as a proxy for the stock?

2. let's say the initial spread looks something like this:

1050 (buy 1)
1100 (sell 2)
1150 (buy 1)

And now the Russel takes a 30 (or 40, or 50) point drop to 1070~.

Do you wait until it drops below 1050 to roll down, or are you rolling down now because it dropped more than 20 points below your middle strike?

And, if and when you do roll down do you also purchase another IWM call at the same time? Roll down your first IWM call? Or let it stand?

Thanks
I'm purchasing 1 IWM call that is DEEP in the money.

This is the most recent trade I made, which I closed out yesterday for full profit (a little over $500 including commissions).

Opening day = September 15, 2014 (I broke the M3 rule about buying around 50 days out...I believe there were about 30 days to expiration when I got into this trade, but that's because I held my September trade much longer than I should, and I didn't even think about opening the October trade, which I probably should have done...but I've gotten away with breaking this rule in the past...when you break this rule, you're basically giving up all chance to adjust if something goes very wrong to the downside especially).

Bought 1 RUT Oct 18 2014 1170.0 Put @ 37.63
Sold 2 RUT Oct 18 2014 1120.0 Put @ 15.99
Bought 1 RUT Oct 18 2014 1070.0 Put @ 6.35

Bought 1 IWM Oct 18 2014 107.0 Call @ 7.42

As you can see, the 1 IWM call I bought was well in-the-money, as it was trading around 114 on September 15, when I bought the 107 call.

I exited on September 26:

Sold 1 RUT Oct 18 2014 1170.0 Put @ 56.54
Bought 2 RUT Oct 18 2014 1120.0 Put @ 21.3
Sold 1 RUT Oct 18 2014 1070.0 Put @ 6.56

Sold 1 IWM Oct 18 2014 107.0 Call @ 4.58

Profit was about $518 including commissions (commissions were a little under $50 roundtrip...like I said, commissions aren't very good on TDAmeritrade...$9.99 per trade plus $.75 per option. So in the above trade, each side costs $23.73...$9.99+$3 for the butterfly, and $9.99+$.75 for the IWM call).

As for your downside adjustment example, I would wait until it gets to 1030 before I roll down 20 points...of course, if this happens late in the game, you're likely just going to exit the trade at a $500 loss instead of rolling down. That's the reason for getting in 50 days prior to expiration...you have time to adjust in case things go south early on...

As for what to do with the call when you roll down, it all depends on what the trade looks like after you roll down the butterfly...will the existing call be enough to have a comfortable delta with the new butterfly? Or will you need to add another call? Or will you sell the existing call and purchase a new one?

I've never had to do this yet to the downside...the last time I remember having to roll to the upside, I was able to keep the IWM call as is...despite rolling up 40 points instead of the recommended 20 points, and that's because I must have held on a bit longer than I should have...I use the rules as a general guideline, but I also pay attention to the overall market and the daily charts to determine how risky it might be to break certain rules...

Last edited by PaceAdvantage; 09-27-2014 at 02:39 PM.
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Old 09-27-2014, 03:37 PM   #25
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Quote:
Originally Posted by PaceAdvantage
I'm purchasing 1 IWM call that is DEEP in the money.
I misspoke. Deep in the money is what I meant.

Quote:
Profit was about $518 including commissions (commissions were a little under $50 roundtrip...like I said, commissions aren't very good on TDAmeritrade...$9.99 per trade plus $.75 per option. So in the above trade, each side costs $23.73...$9.99+$3 for the butterfly, and $9.99+$.75 for the IWM call).
At IB (unless I'm reading things wrong) this trade would have cost around $7 to $10 round trip. But there is also this:

$10,000 minimum to open most accounts
$30 per month minimum commission requirement to avoid $10 monthly fee (rises to $20 monthly if account balance is less than $2,000)
$10 monthly for market data feed (waived if trade commissions are more than $30 per month)

If you only did the one trade per month, the total cost (including inactivity fees) would be around $30, which is still less than the $47 at Ameritrade.

However, something else to consider is that you have the Thinkorswim software, which I believe is free with TD Ameritrade. This might be worth quite a bit, seeing as how OptionVue in conjunction with IB (they are cross compatible) is $125 a month.

Last edited by barn32; 09-27-2014 at 03:46 PM.
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Old 09-27-2014, 03:41 PM   #26
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Yes, commissions are a large chunk of profit when only trading 1 lot. Almost 10 percent...but once you move to a 2 lot, it becomes much less (5%)...and so on...

I've used IB in the past (not for a number of years), as well as TradeStation...probably time to take a look at their options platform and see if I can use it in place of Thinkorswim...I really like TOS for options though, which is why I haven't been motivated to look back to the other two brokers I've used in the past.

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Old 09-27-2014, 03:50 PM   #27
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Quote:
Originally Posted by PaceAdvantage
I've used IB in the past (not for a number of years), as well as TradeStation...probably time to take a look at their options platform and see if I can use it in place of Thinkorswim...I really like TOS for options though, which is why I haven't been motivated to look back to the other two brokers I've used in the past.
I edited the end of my previous post to address this. I've looked around, but I couldn't find Thinkorswim as a stand alone product. Apparently it only comes with TDAmeritrade now.
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Old 09-27-2014, 07:43 PM   #28
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Let’s watch and see. On Friday, we will watch if the high and low on options expiring on that day have a high and low that is equivalent to 10-1.

Volume? One can easily buy hundreds of out of the money options, with hours/minutes to expiration. This is betting, not investing.
Friday call went from a low of 0.13 to a high of 1.39. Others had even bigger moves.

(If I knew how to post the chart I would.)
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Old 09-28-2014, 08:24 AM   #29
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Quote:
Originally Posted by Tape Reader
Friday call went from a low of 0.13 to a high of 1.39. Others had even bigger moves.

(If I knew how to post the chart I would.)
This is the chart for SPY on Friday.

You had a 1% move during the middle of the day. What strike price are you talking about?

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Old 09-28-2014, 11:16 AM   #30
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[QUOTE=badcompany]This is the chart for SPY on Friday.

You had a 1% move during the middle of the day. What strike price are you talking about?

It was the 197 call.
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