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PDS Trader Manual 1
PDS TRADER MANUAL Instructions for using the Payday Stocks Trader software
© 2013 Quantum Trading Technologies
PDS Trader Manual 2
CONTENTS
Getting Started…………………………………………………………………………………………………3
Log in to the PDS Trader…………………………………………………………………………3
Retrieving Market Data……………………………………………………………………………4
Strategy-Types……………………………………………………………………………………….5
Using the Tables……………………………………………………………………………………………….5
Column-Headers……………………………………………………………………………………..6
Sorting…………………………………………………………………………………………………….8
Filter Editor……………………………………………………………………………………………..9
Tracking Trades………………………………………………………………………………………………10
Live Trading……………………………………………..…………………………………………………….11
Placing an Order….…………………………………………………………………………….…11
Open Orders………………………………………………………………………………………….14
Open Positions………………………………………………………………………………………15
Orders……………………………………………………………………………………………………15
Menu Strip………………………………………………………………………………………………………16
Opportunities…………………………………………………………………………….……………………17
Covered Calls…………………………………………………………………………………………17
Synthetic Covered Calls (Naked Puts)…………………………………………………19
Debit Calendar Spreads………………………………………………………………………..21
Credit Calendar Spreads……………………………………………………………………….24
Credit Vertical Spreads…………………………………………………………………………26
Debit Vertical Spreads………………………………………………………………………….27
PDS Trader Manual 3
Getting Started- Log in to PDS Trader
When the PDS Trader software is launched, the first window to appear is the
"Login" Window.
The "Login" window allows the user to log into a live JunoTrade account,
enter Non-Live mode, or select "Cancel" to close the program.
JunoTrade
To log into a Live JunoTrade account, enter your JunoTrade User Name and
Password. Contact Junotrade for assistance with User Name and Password.
Enter the User Name and Password as shown below, then select "Login" to
access the PDS Trader
Non-Live Mode
To enter Non-Live mode, select, "I don't have a trading account with
JunoTrade" and select "Login."
PDS Trader Manual 4
Getting Started- Retrieve Market Data
After logging in, the PDS Trader will open to the "Update Data" tab by
default. Select the "Update" button to begin retrieving the market data.
Once the "Update" button is selected, the Progress Bar will begin to fill. The
amount of time the process takes to complete depends on the user's internet
connection speed. During the updating process, the PDS Trader collects data
for options within two Strike Price intervals of At-The-Money.
When the "Update" process is completed, the Progress Bar will be
completed. The PDS Trader displays how long it took for the "Update" to
complete-
By default, the PDS Trader will automatically update the data every 120
minutes. To change this, select "Configuration" in the Menu Strip, change
the "Auto update" field as shown below, then select "Save."
PDS Trader Manual 5
Getting Started- Strategy Types
Overview
The PDS Trader software displays opportunities for Covered Calls, selling
Puts, Debit Calendar spreads, Credit Calendar spreads, Vertical Credit
spreads, and Vertical Debit spreads.
Selecting one of these tabs will display opportunities for that strategy type.
Once a strategy-type is selected, a variety of Expiration Dates will appear. In
the example below, Covered Call opportunities for the options that expire on
03-08-13 are shown-
Selecting the "03-16-13 Call" tab displays opportunities for options that
expire on 03-16-13, etc. Expiration tabs will clarify if they are displaying Call
or Put opportunities. For Calendar Spreads, Expirations are listed and
compared to each other as shown below-
In this example, the PDS Trader is comparing the 03-08-13 Calls compared
to the 03-16-13 Calls.
PDS Trader Manual 6
Using The Tables- Column Headers
The PDS Trader shows opportunities in a table of rows and columns. Each
strategy type has unique column headers. Fields that all strategy-types
contain are listed below, followed by a complete listing and explanation of
the each strategy-
Symbol-The underlying stock the option is based on
Price- The price of the underlying stock
Change %- Movement percentage of the underlying stock since the previous day's Close
Earnings Events- Upcoming Earnings Events dates will appear here
* Earnings Events dates colored in dark-red mean that an Earnings Release is scheduled to occur
between the current day and the expiration date of the option. Dates colored otherwise represent a
Conference that will occur between the current date and the expiration date.
*Extrinsic Values are shaded green if they are out-of-the-money, orange if they are in-the-money.
Display Calls/Display Puts:
Expiry- Expiration date of the option the opportunity is based on
Strike- Strike price of the option that the opportunity is based on
Strike Distance- The distance the underlying stock is away from being At-The-Money
Volume- The volume of the option the opportunity is based on
Ext Value- The extrinsic value of the option.
Max Flat Gain- The maximum profit/gain to expect
Protection- The amount the market can move against you while you remain break-even
Debit Calendar Spreads:
Strike Distance- The distance the underlying stock is away from being At-The-Money
Strike- Strike price of the option that the opportunity is based on
Sell Exp- Expiration date of the option to be sold
Buy Exp- Expiration date of the option to be purchased
Sell Price-Price of the option to be sold
Buy Price- Price of the option to be purchased
Debit- Difference between the Buy Price and the Sell Price, maximum risk
Spread Ratio- Sell Price divided by the Buy Price
Sell EV- Extrinsic value of the option being sold
Buy EV- Extrinsic value of the option being purchased
EV Ratio- Sell EV divided by the Buy EV
PDS Trader Manual 7
Credit Calendar Spreads:
Strike Distance- The distance the underlying stock is away from being At-The-Money
Strike- Strike price of the option that the opportunity is based on
Sell Exp- Expiration date of the option to be sold
Buy Exp- Expiration date of the option to be purchased
Sell Price-Price of the option to be sold
Buy Price- Price of the option to be purchased
Credit- Difference between the Sell Price and the Buy Price, maximum reward
Spread Ratio- Buy Price divided by the Sell Price
Sell EV- Extrinsic value of the option being sold
Buy EV- Extrinsic value of the option being purchased
EV Ratio- Buy EV divided by the Sell EV
Vertical Credit Spreads:
Expiry- Expiration date of the option the opportunity is based on
Sell Strike- Strike Price of the option that is being sold
Buy Strike- Strike Price of the option that is being purchased
Sell Price- Price of the option to be sold
Buy Price- Price of the option to be purchased
Credit- Difference between the Sell Price and the Buy Price, maximum reward
Max Risk- The maximum risk of the trade
Profit Risk Percent- The Credit divided by the Maximum Risk
BE Move- The percentage movement the market needs to make to be at Break-Even
BE Level- The price that the market needs to reach to be at Break-Even
Vertical Debit Spreads:
Expiry- Expiration date of the option the opportunity is based on
Sell Strike- Strike Price of the option that is being sold
Buy Strike- Strike Price of the option that is being purchased
Sell Price- Price of the option to be sold
Buy Price- Price of the option to be purchased
Debit- Difference between the Sell Price and the Buy Price, maximum risk
Max Profit- The maximum reward of the trade
Profit Risk Percent- The Maximum Profit divided by the Debit (Maximum Risk)
BE Move- The percentage movement the market needs to make to be at Break-Even
BE Level- The price that the market needs to reach to be at Break-Even
PDS Trader Manual 8
Using The Tables- Hiding/Showing Columns
Hiding Columns
Due to the amount of information available, there will be times when it is
necessary to hide columns that are not needed. To hide a column, right-click
the column-header (Change %, for example) and then select "Remove This
Column." The column will then be removed from the table, but is only hidden
from view.
Adding Columns
To restore hidden columns, right-click any column-header and select
"Column Chooser." A window will appear in the bottom right of the PDS
Trader-
Right-click on any of the items listed here and select "Show This Column" to
be able to view the column in the table.
Using the Tables- Sorting
After running an update, the data needs to be sorted to find opportunities
more quickly. Sorting in the PDS Trader is very simple. Click any column-
header, such as "Change %" and the table will sort, click the column-header
again to sort the opposite direction.
For "Display Calls" and "Display Puts" the primary sorting method is Max Flat
Gain from highest to lowest.
For "Debit Calendar Spreads" the primary sorting method is EV Ratio from
highest to lowest.
For "Credit Calendar Spreads" the primary sorting method is Spread Ratio
from lowest to highest.
For both Debit and Credit Vertical Spreads, the primary sorting method is
Profit: Risk Percent from Highest to Lowest.
PDS Trader Manual 9
Using the Tables- Filter Editor
The Filter Editor feature allows users to only view opportunities that meet
the filter requirements. To access the Filter Editor, right-click any column-
header and select "Filter Editor…"
Due to the nature of option data, the Filter Editor comes with default filters
already in place to catch any data that may be incorrect. To remove a filter
condition, click the "X" to the right of the condition, as shown below-
Always select "Apply" to apply the filter requirements to the PDS Trader. To
add a condition, select the + symbol next to "And" in the upper-left corner of
the Filter Editor-
Select the value in the brackets [Max Flat Gain] in the image above, then
change it to the desired field. Select the "Is less than" string in the above
example, then all of the operators will appear (Is greater than, is less than,
is between, etc.). Enter all values in Textboxes as numbers, not
percentages. In this example, entering .05 and selecting "Apply" would
display all opportunities with a Max Flat Gain greater than 5%
For a detailed example of using the Filter Editor, use the following link-
http://www.paydaystocks.com/manuals/pds-trader-using-the-filter.pdf
PDS Trader Manual 10
Tracking Trades-
To access the tracking feature of the PDS Trader, enter Non-Live mode (see
page 3). Tracking is available for the "Display Calls" and "Display Puts"
sections. Once a desirable opportunity is found, select "Track" in the far-
right column. A new window will display, stating "Do you want to Track this
trade?" Select "Yes." To view the performance of the trades that are being
tracked, select the "Tracking Call" or "Tracking Put" tab next to the
Expiration tabs.
The "Tracking" page displays a large variety of numbers related to the trade
that is being tracked, look to the "Net PL" column to the far right to see the
performance of the trade so far.
To update the Tracking statistics, select "Configuration" and then adjust the
"Update Tracking Trades data at every…" field as show below-
With this configuration, the trades that are being tracked will update every
10 minutes. Once a trade that is being tracked expires, the trade is moved
into the "Tracking Closed" tab and can be viewed there.
PDS Trader Manual 11
Live Trading- Placing an Order
After signing into Live mode with a JunoTrade account (see Page 3), users
are able to place orders directly from the PDS Trader software. Once an
opportunity is found, select the "Trade" button on the far right of the PDS
Trader.Selecting the "Trade" button for any strategy will display an order
box already filled in with the necessary details.
Display Calls
Selecting "Trade" in the "Display Calls" section brings up a box with Covered
Call details already filled out.
"Convert order to" will allow the trade to be changed from a Covered Call to
selling a naked call, or only buying the underlying stock.
"Order Type" allows the user to enter the order as a Limit or At Market.
"Order Expiry" allows the user to select between a DAY order or GTC.
"Cost Basis" is the Stock price minus the Bid
"Position Effect" states whether this order is to open or close a position.
Select "Minimum Call Value" to require the Call to be above a certain value
before entering the trade.
Change the "Quantity" in each section to increase the lot size to be traded.
The "Strike" price is the Strike Price of the option being sold.
"Buy/Sell" states if the option or underlying is being bought or sold.
PDS Trader Manual 12
Display Puts
Selecting "Trade" in the "Display Puts" sections brings up a box with details
for selling a put already filled out.
"Buy/Sell" states if the option is opening or closing a position.
"Quantity" determines the amount of options being traded.
"Symbol" states the stock ticker of the option being traded.
"Strike" is the Strike Price of the Put being sold.
"Call/Put" states that it is a Put that is being sold.
"Expiry" shows the expiration date of the option being traded.
"Price" is the option price and is used with the Limit "Order Type."
"Order Type" controls whether the order a Limit order or At Market.
"Order Expiry" allows the user to select between a DAY order or GTC.
PDS Trader Manual 13
Calendar Spreads and Debit Spreads
Select "Trade" in the Calendar Spreads or the Vertical Spreads and the Order
Entry box will display-
"Position Effect" determines if it is a Debit or Credit trade and whether or not
it is opening a new position or closing an existing position.
"Order Expiry" determines whether or not the order is DAY or GTC.
"Amount" is for Limit orders and determines the necessary spread amount.
"Order Type" allows the user to enter the order as a Limit or At Market.
"Qty" determines the number of positions to trade for this order.
PDS Trader Manual 14
Live Trading- Open Orders
The Open Orders tab only shows orders that were placed, but have not been
filled. "Single Leg" orders are orders from the "Display Puts" section.
"Covered Call" contains orders from the "Display Calls" section.
Note the "Cancel Order" button, which cancels the order so that it is not
filled. Once an order in the "Open Orders" tab is filled, it is moved to the
"Open Positions." tab. Any Exit limit orders that are not filled will appear in
the "Open Orders" tab until they are cancelled, expire, or filled.
PDS Trader Manual 15
Live Trading- Open Positions
The Open Positions tab shows order that have been filled and are currently
open. "Single Leg" orders are orders from the "Display Puts" section.
"Covered Call" contains orders from the "Display Calls" section.
The "Exit" button allows users to enter exit orders for either "At Market" or
with a "Limit" order. Limit orders will be placed in the "Open Orders" tab
until filled. Open positions that are completely closed will be removed from
the "Open Positions" tab. If an order is partially closed (for example, 5 out of
10 options were closed), the exit price of the 5 closed trades will be
displayed in the "Exit Price" column.
Live Trading- Orders
The "Orders" tab connects to JunoTrade and displays all orders that are
placed in the account. Check the "Info" column to the far-right for error
messages if an order is not being accepted.
PDS Trader Manual 16
Menu Items-
Selecting "File" displays the ability to Backup Data. This can be used to
transfer database files from one computer to another computer, so that
Open Orders and Open Positions will display on another computer's PDS
Trader. After backing up the data, transfer the data file to the other
computer, then click File-Restore Data on the other computer and restore
the data. Open Orders and Open Positions will now be available on the PDS
Trader of the new computer.
File-Exit closes the PDS Trader.
The "Configuration" feature is covered in page 4 (updating date) and page
10 (updating Tracking data).
Selecting "Calculator" opens the Windows Calculator program.
Selecting "Send Error Log" will produce a new box requesting the name and
email address of the user (for later contact), and steps to reproduce the bug
or error. This is useful in resolving any issues that may exist within the
software.
PDS Trader Manual 17
Opportunities-
The "Opportunities" section of this manual is only for information purposes
as to what Quantum Trading Technologies, Inc. looks for in opportunities.
Users must do independent research to find opportunities, this section
contains a few of our basic guidelines for what to look for in opportunities
initially. Some of the guidelines in here are circumstantial and are only
details for what we look for in trades. For column-header definitions, read
pages 6-7 of this manual.
Display Calls and Display Puts
The "Display Calls" section is applicable to trading Covered Calls, or selling
naked calls, while "Display Puts" is for selling naked puts. Selling naked puts
is essentially the same as a covered call, only it requires one less
transaction.
The primary sorting method for both sections is Max Flat Gain, sorted from
highest to lowest. "Display Calls" and "Display Puts" have a limited profit
potential, so this value shows whether or not this limited profit potential is
worth entering the trade. The "Protection" column shows how much the
market must move against the trade in order to bring the trade to break-
even. This value, coupled with Max Flat Gain, shows the potential reward of
the trade and the protection associated with that reward. Because many of
the best opportunities are driven by conferences and earnings, view the
"Earnings Events" column to be aware of any upcoming events that may
increase volatility during the trade. Using the Filter Editor (see page 9),
users may add a "Strike Distance" requirement for the opportunity to be
within, for example, 2% of At-The-Money. The Extrinsic Value column is
color-coded based on whether the option is In-The-Money or Out-of-the-
Money. Green represents In-The-Money options, orange represents Out-of-
the-Money options.
Covered Calls-
Covered Calls are simply having a long position in a stock and a short call
option that brings in premium. The effect of this is to lower your average
cost of the stock. For example,
PDS Trader Manual 18
If a person is long QCOR from 26.50 and short a QCOR 26.50 Call from 1.00,
the Cost Basis is $25.50. This means the person is essentially long the stock
at a “Discounted Price.”
Before viewing Covered Calls as an answer-all to trading, it is important to
know the largest drawback. This “Discounted Price” comes with a cost- the
profit potential of the long position. In the QCOR example, that person
cannot make more than 1.00 on this position, even if QCOR increases by
1000%. While the potential profit is capped, the potential risk is much
larger. The loss potential is equal to the cost basis. In the QCOR example,
the maximum risk is $25.50, assuming the stock goes bankrupt. This is
important to understand from the standpoint of trade-size and commitment
to the strategy. Large losses will come. You will lose money on the way
down, and you will not make it back as fast on the way up. The goal is a
long-term, consistent approach.
The 2 keys to success with covered calls are 1) Risk management for long-
term commitment and 2) Finding the right opportunities. A unique strategy
that covered calls offer is the ability to sell calls week after week for months
while holding the underlying, which can eventually bring in the price of the
stock.
When searching for Covered Calls opportunities, we look for a 3%-5% Max
Flat Gain as the minimum standard. Rarely do we choose an option with less
than a 3% potential return if the market is flat. This is certainly not a
universal rule, as there are plenty of examples for when a small return is
worth it. For example, a stock could have only two days until expiration and
have a 2% Max Flat Gain. Another example for taking advantage of small
potential returns is trading a covered call in a very stable, non-volatile
market. Over the long run, you could do better with small potential returns
over non-volatile stocks than with trading larger potential returns in volatile
markets.
Another rule we use to filter out dangerous opportunities is to never get into
a position where the volatility is so high that the risk is not worth the
reward. Sometimes there is some subjectivity to that, but sometimes it is
obvious. One general way to look at this is if the daily average range for the
last several days exceeds the premium we can bring in, or it exceeds where
our breakeven level is, then we generally pass on the opportunity.
PDS Trader Manual 19
The last rule is that the stock must not be making an intermediate or long-
term high. This may factor in adding to volatility in many cases, from
anticipating a new high or a short-term retracement. There are times when
an impending earnings report or other major announcement will impact the
market. These sometimes drive the price of the options to significant levels.
In terms of money management, we look to allocate no more than about
20% of the total amount allocated toward covered calls toward each
individual trade. For example, if $10,000 is allocated toward covered calls,
we never have more than $2,000 to any given trade. The $2,000 allocation
in this example is based on the price of the stock. A strict adherence to this
rule would mean no stocks much over $20.00. It is unlikely that a stock will
go bankrupt and drop to zero during the short time you are playing the
stock, but you always have to prepare for the worst case scenario,
regardless of how unlikely. With this method, a 50% loss is only 10% of the
total account.
Synthetic Covered Calls (Naked Puts)-
In order to attain maximum profit on a sold put, the market must be at or
above the strike price at expiration. Selling a naked put is very similar to
trading a covered call, so please review the Covered Calls explanation to
have a firm understanding of the basic principles and statistics that we look
for.
With a Covered Call, the “Cost Basis” is the combined long stock price minus
the premium brought in on the call. A naked put can achieve the exact same
thing, only with one less transaction. The risk and profit potential with a
naked put and a covered call are the exact same, only with naked puts you
do not have to overcome to spreads to get the price. In fact, all things being
equal, we default to selling puts. Most of the time, puts are a better choice
from the standpoint that there is almost always a little extra premium built
into put options that comes from fear of a market crash. This is not always
the case and varies from stock to stock, depending on what is going on in
that stock. As a side note, many IRA or other unique accounts will often not
allow trading naked puts, in which case a Covered Call can usually be
utilized.
The best way to deal with losses is to let them run their course and simply
exit on expiration day, or allow a put to be assigned if the next expiration of
PDS Trader Manual 20
calls is worth placing another covered call. Our intention when entering a
trade is to always continue to play the covered calls while the calls provide
the proper profit potential vs. risk potential. Several times we have been
assigned a Put option, only to be able to turn around and sell a call at the
strike and turn a loser into a winner. Sometimes that is not available, and it
is just better to exit the trade, take the loss, and move on to the next
opportunity. This sometimes means accepting bigger losses.
An alternative to letting a loss run is to exit when the price of the underlying
stock reaches the breakeven point. This will still produce a loss, but the loss
will at least be mitigated. The problem with this exit strategy is when the
stock gaps past the breakeven level and you are still forced to take a larger
loss. Accordingly, at no time should you think that a larger loss is not going
to happen eventually. It will, which is why it is important to prepare to
commit long-term to this strategy to expect to profit from it.
PDS Trader Manual 21
Opportunities-
Debit Calendar Spreads
Debit Calendar Spreads involve selling a near expiration and buying a far
expiration. Since the price of the option purchased will always be greater
than the price of the option being sold, a Debit is created. This "Debit" value
is the maximum risk of the trade, while the Sell Price can be viewed as close
to the maximum reward. The primary sorting method is the EV Ratio
(Extrinsic Value Ratio), which is the Sell EV divided by the Buy EV. This
shows how closely related the extrinsic values of the options are- the close,
the better. For short-term opportunities, look for an EV Ratio around 70% or
greater. For long-term opportunities, the EV Ratio expectations can be
lowered. Debit Calendar spreads have a clearly defined maximum risk
because the spread cannot (theoretically) go below 0, and they require very
little capital. If trading multiple options, an exit strategy can be to exit half
of the positions at a 100% profit to ensure the trade will at least end at
break-even.
Debit Calendar Spreads are very enticing and rewarding for a few reasons.
They provide limited risk, bigger potential wins than losses, they work in bull
or bear markets, and they require very little capital. After entering a Debit
Calendar spread, if the spread increases you will profit, if the spread
decreases you will incur a loss. The maximum risk on the trade is the entry
spread. The maximum profit is the value of the short option. In order to
achieve the maximum profit potential, the underlying stock must be At-the-
Money at expiration. However, that profit potential will be diminished by
whatever amount the long option has decreased by. For calls, the further the
stock goes out of the money on expiration, the greater the loss will be on
the long call.
It is also important to watch out for earnings or news events that will cause
the stock to move out of the money. The news combined with market
movement causes the extrinsic value to quickly deflate. However, this could
work to your advantage as the spread will often widen during these large
moves. This occurs because the extrinsic value of the nearby option can
move more quickly than the further away option. While there are many
exiting strategies for these spreads, one that we frequently use is exiting
half of the position at a 100% profit. This will ensure that the trade will at
least close at break-even.
PDS Trader Manual 22
Debit Calendar spreads can be entered when the options are At-the-Money,
In-the-Money, or Out-of-the-Money. The following details are regarding
entering a spread while it is At-the-Money.
Entering At-the-Money Spreads
The reason to look for At-the-Money spreads is based on extrinsic value.
With Out-of-the-Money spreads, 100% of the option value is extrinsic value.
However, that does not mean that the extrinsic value is the greatest it can
possibly be. With At-the-Money spreads, 100% of the option value is
extrinsic value and the options usually cannot have any greater extrinsic
value. When it can have a greater extrinsic value, it is only by a very small
amount. At-The-Money spreads have no intrinsic value. Once an At-the-
Money spread is entered, it can stay neutral, go Out-of-the-Money, or go In-
the-Money.
Assume, for example, a call goes WAY out of the money causing the long
option to be almost worthless. You can hold onto the long option until
expiration to see if it moves back up a bit, giving a chance to breakeven or
par your loss. You do not have to exit the long option on the expiration day
of the short option.
If the stock goes In-The-Money, extrinsic value is replaced by intrinsic value.
If a spread goes into the money, there is a possibility of being assigned. As a
general rule, if there is more than $.05 of extrinsic value on the option, you
will not be assigned. IMPORTANT- being assigned does NOT increase the
risk. However, being assigned does increase the amount of capital required
to hold onto the spread. If there is not enough capital to hold onto the
spread and the broker exits the stock assignment, then the risk increases.
Whether or not your broker does this will vary from broker to broker. Do not
ever be assigned an amount of stock you cannot hold onto. If this situation
does occur, make sure to immediately exit the option side of the spread. If
you are assigned and can hold the position, you do not necessarily need to
exit that assignment because the market can then turn around, providing
unlimited profit potential (limited only by how much the stock can be in your
favor of the assigned position). You should be afraid of being assigned under
one of two conditions- 1) If you have too many option spreads so that if you
are assigned you do not have the capital in the account to hold onto the
assigned position, or 2) If you are assigned a short position from being short
calls and your account does not allow holding stock short. In either of these
PDS Trader Manual 23
cases, the broker will probably exit your assignment without warning,
leaving your long option position uncovered.
However, there are many Debit Calendar spread opportunities that do not
involve entering an at-the-money option. In/Out of-the-Money entry spreads
can sometimes have very low risk, really high profit potential, and, if you
choose the right ones, a high probability of success.
Entering In-the-Money Spreads
In-the-Money debit calendar spreads are directional trades. They will only
work if the market moves in the right direction. The reason for wanting to
take advantage of these types of trades is Risk vs. Reward. The main 3
things to look for with In-the-Money Debit Calendar Spreads are a high
Spread Ratio, low Debit, and reasonably In-the-Money (as opposed to a
deep In-the-Money spread).
If you enter an In-the-Money Debit Call spread, you want the market to go
Down.
If you enter an In-the-Money Debit Put spread, you want the market to go
Up.
If you are in a call spread and the market does not move down before the
nearby expiration, assume that you will be assigned a short position.
However, once you are assigned, you still have the ability to make money.
The market has up until the expiration of the long option in order to do so.
If you are in a put spread and the market does not move up before the
nearby expiration, assume that you will be assigned a long position. The
profit potential is unlimited after you are assigned until the expiration of the
long put while the risk remains low.
As a general rule, the more time there is left on the long option, the further
In-the-Money we are willing to go. It is a balance between the Debit (risk),
the time available, and how much the option is in the money.
PDS Trader Manual 24
Credit Calendar Spreads
Credit Calendar Spreads involve selling a far expiration and buying a near
expiration. The price of the option being sold will be greater than the price of
the option being purchased, creating a Credit. This "Credit" value is the
maximum reward of the trade. The primary sorting method is the Spread
Ratio (lowest to highest), which is the Buy Price divided by the Sell Price.
This shows the relationship between the two prices, wider is better. After
sorting by Spread Ratio from lowest to highest, a good Spread Ratio is
anything below the 50% line, though this may vary. View the "Credit" to
make sure the reward of the trade is worth the risk.
Credit Spreads buy the nearby option and sell the further away option
expiration, creating a Net Credit. This means you are bringing money into
the account and this Credit is the maximum profit potential. After entering a
Credit spread, the spread decreasing from the entry spread will result in a
profit, while an increased spread results in a loss. If the spread is At-the-
Money, the risk is essentially the value of the Long option. We know this
because the value of the long option is all extrinsic value, and it is at the
highest it can be. If the long option goes Into the Money, the extrinsic value
decreases, and if it goes out of the money, the extrinsic value decreases.
With a Credit spread, we are looking for more extrinsic value to decrease out
of the longer term option than the shorter term option. For that to happen,
generally the market needs to make some sort of move, either up or down.
The first thing to know about Credit spreads is that you should never hold an
Out-of-the-Money Credit spread past the expiration day of the long option. If
you do not, you will be holding a naked short option and your risk will be
unlimited. Of course, you can certainly still profit on these trades, but no
longer have a limited risk amount. This is truer when dealing with calls than
with puts, since a stock’s value cannot go below zero.
Best practices would be to simply exit the entire spread before the expiration
of the long option. The only scenario we would consider holding onto a
spread (if assigned) for more profit if it is In-the-Money is to buy a call
option at around the Breakeven Level.
The three things to look for in entering Credit Calendar spreads is an At-the-
Money opportunity, low long value long option (this is the risk), and a big
credit to long option ratio (max profit compared to max risk). In the PDS
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Trader, this means looking for a large credit and a small Buy Price. Since
most opportunities will not be entered exactly At-the-Money, the max risk
(buy price) is not exact, but is a good estimation. If you want to play a
directional credit spread, look at Out-of-the-Money opportunities because
that spread will lose value very quickly on larger market moves.
It is important to note that Credit Calendar spread opportunities do not
occur as frequently as Debit Calendar spreads. Additionally, Credit Spreads
require significantly more margin than Debit spreads, so do not overextend
yourself.
Credit spreads usually do not make money if the market has not moved. If
you are getting towards the end of the spread with only a few days left and
not making money, remember that your risk is still limited and as long as
the market makes any kind of move you will probably profit. If it does not,
you can take the loss and move on. Accordingly, the best thing you can do is
hold onto the position until the day of the expiration of the long option. Exit
both legs sometime before the market close.
If you are making money, you can exit half of the position at a 100% profit
and/or wait for a one or two day move in either direction to decrease the
spread value and then exit. It only takes a one day move in either direction
to create a significant profit.
PDS Trader Manual 26
Opportunities-
Vertical Credit Spreads
Vertical Credit Spreads involve buying a higher Strike and selling a lower
Strike for the same expiration. Since the Sell Price will be higher than the
Buy Price, a Credit is created. This "Credit" value is the maximum reward of
the trade. The primary sorting method for this strategy-type is the "Profit
Risk Percent," which shows the Max Profit compared to the Max Risk. The
higher this value is, the better. Ensure that the Max Profit is worth the risk of
the trade, and look for a moderate BE (Break-Even) Move. Opportune trades
have a Profit Risk Percent of 75% and a 2% BE Move, though each trade is
unique. For example, often times trades with a 50% Profit Risk Percent and
a 1% BE Move are worthwhile trades.
A vertical spread is simply a spread between two options with the same
expiration date, but different strike prices. When the premium from the sell
side exceeds the premium from the buy side (sell the near strike, buy the
far), it is a Vertical Credit spread. With vertical spreads, whether debit or
credit, the risks are 100% limited as long as the spread is exited by the
expiration. Assignment of one leg potentially changes this if held after the
expiration.
Vertical spreads are either In-the-Money or Out-of-the-Money. Depending on
the breakeven levels, whether it is a credit or a debit spread determines
whether the spread is a directional trade (meaning the market has to move
in a certain direction for the spread to profit), or non-directional. To make
the maximum credit on a Credit Call vertical spread, the market must be at
or below the lower strike on expiration. Conversely, the market closing
above the higher strike will result in the maximum loss potential.
In the PDS Trader, a negative BE Move (Breakeven Move) in the Credit Calls
means that the trade is a directional trade. This is usually an In-the-Money
opportunity. If the market stays the same when the entry BE Move is
negative, the trade will lose. This type of trade has a bearish outlook. In
vertical credit spreads, most directional trades happen when one or both of
the options in the credit spread are In-the-Money.
In Out-of-the-Money Credit Call spreads, a positive BE Move means that the
market does not have to move in order to profit. In fact, it means the
PDS Trader Manual 27
market has to move that amount in order to not profit. This means that the
trade is a non-directional trade. For these opportunities, we look for a Profit
Risk Percent of 100% or greater (ideally) while the BE Move is positive (the
bigger, the better). Max loss occurs at the buy strike or higher for calls, or at
the buy strike or lower for puts. Either way, the risk is capped.
Vertical Debit Spreads
Vertical Debit Spreads involve selling a higher Strike and buying a lower
Strike for the same expiration. Since the Buy Price will be higher than the
Sell Price, a Debit is created. This "Debit" value is the maximum risk. The
primary sorting method for this strategy-type is the "Profit Risk Percent,"
which shows the Max Profit compared to the Max Risk. The higher this value
is, the better. Ensure that the Max Profit is worth the risk of the trade, and
look for a moderate BE (Break-Even) Move.
Many of the principles for Vertical Credit spreads can be applied to Vertical
Debit spreads. A vertical spread is simply a spread between two options with
the same expiration date, but different strike prices. When the premium
from the buy side exceeds the premium from the sell side (buy the near
strike, sell the far), it is a Vertical Debit spread. With vertical spreads,
whether debit or credit, the risks are 100% limited as long as the spread is
exited by the expiration. Assignment of one leg potentially changes this if
held after the expiration. There are directional debit spreads and non-
directional debit spreads.
For Debit Spreads, most of the non-directional trades are going to be In-the-
Money. When you find a solid vertical debit spread on the call side, look for a
vertical debit spread on the put side with similar probabilities. Add a put
spread onto a call spread can widen you BE Range to increase your
probabilities of profit. If you enter both a call and a put spread of this type,
always keep in mind that you could get assigned. In general, the risk of
getting assigned is not so much in the assignment itself, but it’s what could
happen after the assignment. Once you are assigned, there is a potential
that the market gaps. When you are assigned, you usually lose the previous
risk cap, to the point of the risk no longer being limited in certain
circumstances. When combining a call & put vertical debit spread at the
same time, be sure to limit your trade size for margin in case of assignment.