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Quant Trader
Expert-Level Options for Sophisticated Traders

COI Quant Trader Issue: December 11, 2023

Given our recent string of losses I thought it would be appropriate to discuss sequencing risk and how important it is to understand how it impacts a high-probability strategy. Sequencing risk is a major component in the world of statistically based, high-probability options strategies – which is why I always emphasize why position size is so important.

Weekly Commentary

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Given our recent string of losses I thought it would be appropriate to discuss sequencing risk and how important it is to understand how it impacts a high-probability strategy. Sequencing risk is a major component in the world of statistically based, high-probability options strategies – which is why I always emphasize why position size is so important.

Position size allows us to calculate how many consecutive losses would need to occur to lose a specific amount of capital in our overall trading account. Sequence of returns is the inherent risk that a trader could experience several losses in a row. Knowing that the sequence of returns is a math-based reality, our chosen position size helps to lessen the impact of a string of potential losing trades.

The following table demonstrates the statistics of experiencing consecutive losses based on your chosen probability of success at the time of entering a trade. As you will quickly notice, as the probability of success increases, the likelihood of consecutive losses diminishes exponentially.

COI_QT_121123_sequencerisk.png

So, for example, if I were to consistently use a risk-defined options strategy like an iron condor with a delta of 0.20 or a probability of success of 80%, there is a 4% chance of losing two trades in a row and 0.03% chance of losing five trades in a row. So, knowing this info, we have the ability to plan accordingly by choosing a realistic position size based on the probability of success of our trade.

I can’t emphasize enough just how important position size is when trading, especially when using a high-probability approach. We ALL should think of ourselves as risk managers first and traders second. If you are able to follow this mindset, you will have a much better chance of being successful over the long term.

Remember, statistically based trading is simply a game of math. We are trading high-probability strategies here, so we know we have an advantage over the long term, but we must have a sound understanding of how to manage sequence risk accordingly. Position size is probably the most important factor, so don’t ignore it.

I realize the prior exercise is fairly simplistic. Again, it only begins the important discussion of risk management. Without some form of risk management, emotions take over.

And emotions are the enemy. Hindsight never exists in the present. We must realize that we will be wrong on occasion.

Being privy to this allows us to prepare accordingly. We know over the long term that having a defined stop-loss will only serve to benefit the performance of our respective portfolios. More importantly, we always know when to sell. Of course, all of the above assumes that we prefer the straight percentage stop-loss.

If you want to be a successful trader/investor over the long term, then taking the time to figure out an appropriate position-sizing plan is imperative. Please, please, please do not overlook this important concept.

You will not regret it.

As always, if you have any questions, please do not hesitate to email me at andy@cabotwealth.com.

Current Portfolio

Open DateTickerStrategyTradeOpen PriceCurrent PriceCurrent ProbabilityDelta
12/1/2023SPYBear CallJanuary 19, 2024 475/480$0.75 $0.89 79.63%-0.07
Open DateClosed DateTickerStrategy TradeOpen PriceClosing PriceReturn
6/2/20226/13/2022SPYBear Call SpreadJuly 15, 2022 440/445 $0.70 $0.05 14.94%
6/8/20226/17/2022XOPBear Call SpreadJuly 15, 2022 190/195$0.70 $0.04 15.21%
6/22/20227/13/2022SPYBear Call SpreadJuly 29, 2022 405/410$0.75 $0.35 8.70%
6/30/20227/25/2022IWMIron CondorAugust 19, 2022 195/200 - 145/140$0.70 $0.34 7.76%
7/8/20227/28/2022GLDBull Put SpreadAugust 19, 2022 155/150 $0.60 $0.16 9.65%
7/14/20228/11/2022SPYIron CondorAugust 19, 2022 417/412 - 335/330$0.70 $4.10 -68.00%
8/1/20228/29/2022SPYBear Call SpreadSeptember 16, 2022 439/444$0.70 $0.07 14.42%
8/11/20228/29/2022DIABear Call SpreadSeptember 23, 2022 350/325$0.75 $0.08 15.47%
8/11/20229/8/2022IWMIron CondorSeptember 23, 2022 220/215 - 173/168$0.77 $0.57 4.17%
9/7/20229/9/2022QQQBull Put SpreadOctober 21, 2022 260/255$0.62 $0.30 6.84%
9/9/20229/15/2022SPYBear Call SpreadOctober 21, 2022 430/435$0.75 $0.25 11.11%
9/13/202210/17/2022IWMIron CondorOctober 21, 2022 208/203 - 163/158$0.77 $0.30 10.40%
10/3/202210/25/2022SPYBull Put SpreadNovember 18, 2022 325/320 $0.54 $0.09 9.89%
10/4/202211/2/2022IWMIron CondorNovember 18, 2022 198/203 - 143/138$0.64 $0.32 6.84%
10/6/202211/2/2022SPYBear Call SpreadNovember 18, 2022 412/416$0.43 $0.28 3.90%
11/16/202211/28/2022IWMIron CondorDecember 16, 2022 205/200 - 162/157$0.75 $0.24 11.36%
11/10/202212/6/2022SPYBear Call SpreadDecember 16, 2022 420/425$0.65 $0.14 11.36%
12/1/202212/6/2022SPYBear Call SpreadJanuary 20, 2023 435/440$0.67 $0.18 10.86%
12/13/202212/15/2022SPYBear Call SpreadJanuary 20, 2023 430/435$0.54 $0.17 7.99%
12/7/20231/6/2023IWMIron CondorJanuary 20, 2023 202/198 - 160/156$0.70 $0.06 19.00%
1/4/20232/1/2023IWMIron CondorFebruary 17, 2023 200/195 - 154/149$0.65 $2.00 -27.00%
1/6/20232/2/2023SPYBear Call SpreadFebruary 17, 2023 415/420 $0.60 $2.50 -38.00%
2/2/20232/15/2023SPYBear Call SpreadMarch 17, 2023 440/445$0.63 $0.15 10.62%
2/10/20232/22/2023DIABear Call SpreadMarch 31, 2023 355/360$0.70 $0.17 11.86%
2/2/20233/1/2023IWMIron CondorMarch 17, 2023 175/180 - 215/220$0.72 $0.51 4.38%
3/6/20233/13/2023DIABear Call SpreadApril 21, 2023 350/355$0.85 $0.17 15.74%
2/23/20233/28/2023SPYIron CondorApril 21, 2023 435/430 - 350/345$0.80 $0.15 14.94%
3/23/20234/11/2023DIABear Call SpreadApril 21, 2023 338/443$0.62 $2.05 -28.60%
3/23/20234/19/2023IWMIron CondorMay 19, 2023 196/191 - 147/142$0.83 $0.23 13.64%
4/12/20234/21/2023DIABear Call SpreadMay 19, 2023 350/355$0.82 $0.44 8.23%
4/21/20235/2/2023SPYIron CondorJune 16, 2023 440/435 - 365/360$0.95 $0.63 6.84%
4/24/20235/10/2023DIABear Call SpreadJune 16, 2023 354/359$0.72 $0.22 11.11%
5/5/20235/24/023SPYBear Call SpreadJune 16, 2023 430/435$0.72 $0.35 7.99%
6/15/20236/22/2023SPYBear Call SpreadAugust 18, 2023 465/470$0.70 $0.24 10.13%
5/26/20236/23/2023IWMIron CondorJuly 21, 2023 191/196 - 156/151$0.79 $0.50 6.15%
5/31/20237/12/2023QQQBear Call SpreadJuly 21, 2023 375/380$0.60 $1.80 -31.60%
6/30/20238/7/2023SPYBear Call SpreadAugust 18, 2023 462/466$0.52 $0.23 7.82%
8/4/20238/11/2023SPYBear Call SpreadSeptember 15, 2023 470/475$0.65 $0.20 9.90%
8/17/20239/13/2023SPYIron CondorOctober 20, 2023 475/470 - 390/385$0.72 $0.25 10.38%
9/6/202310/11/2023IWMIron CondorOctober 20, 2023 204/199 - 169/164$0.62 $0.19 9.41%
* 9/29/202310/27/2023SPYBear Call SpreadNovember 17, 2023 452/457$0.74 $0.03 16.60%
*10/6/202311/3/2023SPYBull Put SpreadNovember 17, 2023 408/403$0.58 $0.03 12.36%
* 10/27/202311/3/2023SPYBear Call SpreadNovember 17, 2023 430/435$0.58 $3.50 -33.20%
10/31/202311/14/2023SPYIron CondorDecember 15, 2023 450/445 - 380/375$0.77 $3.00 -44.60%
11/6/202312/8/2023SPYBear Call SpreadDecember 15, 2023 456/461$0.58 $3.08 -50.00%

Volatility Talk

Volatility continues to wallow around lows not seen since late 2019. Of course, we could see volatility push even lower going forward, but we are getting ever closer to what have been strong levels of support in the investor’s fear gauge over the past two decades. If complacency continues, bull spreads will prevail and if the bears return, well, bear calls will once again lead the way. We hope that the market settles down here with some “normal” returns going forward so we have the ability to profit from both sides. But volatility is low so premiums in many of the stalwart index funds are hard to come by at the moment. So, we must remain patient on that end, but we still have numerous highly liquid stocks with some surprisingly nice levels of premium to sell. Moreover, as I spoke about last week, with volatility so low, a volatility play is certainly a priority.

COI_QT_121123_VIX.png

Weekly High-Probability Mean Reversion Indicator

Below is my watch list of ETFs and stocks with the most liquid options headed into the week of December 11, 2023.

Here are the various levels I use to determine if an ETF is in an oversold or overbought state.

Very Overboughta reading greater than or equal to 80.0
Overboughtgreater than or equal to 60.0
Neutralbetween 40 to 60
Oversoldless than or equal to 40.0
Very Oversoldless than or equal to 20.0.

Each week I also include the current implied volatility (IV) and IV Rank. I look for an IV rank above 40, preferably higher.

ETF Watch List – Trade Ideas

Exchange Traded FundTicker Symbol IVIV Rank HPMR Oversold - Overbought
ARK Innovation ETFARKK37.718.377.5
ProShares Bitcoin ETFBITO66.241.678.1
SPDR Dow JonesDIA11.26.681.5
iShares MSCI Emerging MarketsEEM18.01642
iShares MSCI EAFEEFA14.612.370.7
iShares MSCI Mexico ETFEWW21.22067.5
iShares MSCI BrazilEWZ33.220.456.2
iShares China Large-CapFXI29.113.619
VanEck Gold MinersGDX31.033.240
SPDR Gold GLD13.727.942.4
iShares High-YieldHYG6.813.766.1
iShares Russell 2000IWM20.625.672.9
SPDR Regional BankKRE30.31882
VanEck Oil ServicesOIH29.614.530
Invesco Nasdaq 100QQQ16.33.267.2
iShares Silver TrustSLV26.022.127.9
VanEck SemiconductorSMH22.910.463.4
SPDR S&P 500 SPY 12.64.772.9
iShares 20+ Treasury BondTLT18.133.764.3
United States Oil FundUSO35.941.736.7
ProShares Ultra VIX ShortUVXY85.50.320.4
CBOE Market Volatility IndexVIX80.644.731
Barclays S&P 500 VIX ETNVXX59.83.719.2
SPDR BiotechXLB14.0959.7
SPDR Energy Select XLE22.511.635.8
SPDR FinancialsXLF14.10.173.7
SPDR UtilitiesXLU17.327.161.1
SPDR S&P Oil & Gas ExplorerXOP27.513.532.1
SPDR Retail XRT25.237.268.4

Stock Watch List – Trade Ideas

Stock - Quant TraderTicker Symbol IVIV Rank HPMR Oversold - Overbought
AppleAAPL18.10.373.8
Bank of AmericaBAC24.610.374.1
Bristol-Myers SquibbBMY23.358.756.4
CitigroupC26.310.383.3
CaterpillarCAT22.78.576.6
ComcastCMCSA22.614.549.8
CostcoCOST19.832.479.5
Cisco SystemsCSCO16.15.946.8
ChevronCVX22.019.152.5
DisneyDIS23.210.456.1
Duke EnergyDUK14.70.581.1
FedExFDX31.340.887.6
Gilead SciencesGILD26.914.165
General MotorsGM29.47.484.5
IntelINTC32.612.251.7
Johnson & JohnsonJNJ16.623.949.2
JPMorganJPM17.23.177.5
Coca-ColaKO12.87.863.6
Altria GroupMO17.017.741.1
MerckMRK17.91.952
Morgan StanleyMS21.45.470.5
MicrosoftMSFT19.90.154.1
NextEra EnergyNEE24.729.564.1
NvidiaNVDA33.10.154.3
PfizerPFE24.434.935.7
PayPalPYPL34.420.156.9
StarbucksSBUX19.617.330.1
AT&TT20.210.363.7
VerizonVZ18.510.261.7
Walgreens Boots AllianceWBA54.990.879.9
Wells FargoWFC232.682.6
WalmartWMT17.324.924.9
Exxon MobilXOM23.416.231.2

Weekly Trade Discussion: Open Positions

*Portfolio updated every Monday
Bear Call Spread: SPY January 19, 2024, 475/480

Original trade published on 12-1-2023 (click to see original alert)

Background: At the time of the trade, SPY was trading for roughly 458.50. We sold the January 19, 2024, SPY 475/480 bear call spread for $0.75. The expected range or move was 442 to 472. The probability of success at the time of the trade was 82.51% on the call side.

Current Thoughts: SPY continues to push further and further into short-term oversold territory. And this should be no surprise given SPY’s historic November, which has bled into December. Our probability still stands at a healthy 79.65% and the price of our spread sits at $0.83, slightly above where we sold the spread. Obviously a push of any sort and we will be in profitable territory and it sure would be nice to lock in a decent profit after a challenging six weeks of market action.

Call Side:

COI_QT_121123_SPY_bearcall.png

As always, if you have any questions, please feel free to email me at andy@cabotwealth.com.


The next Cabot Options Institute – Quant Trader issue will be

published on December 18, 2023.

Andy Crowder is a professional options trader, researcher and Chief Analyst of Cabot Options Institute. Formerly with Oppenheimer & Co. in New York, Andy has leveraged his investment experience to develop his statistically based options trading strategy which applies probability theory to option valuations in order to execute risk-controlled trades. This proprietary strategy has been refined through two decades of research and real-world experience and has been featured in the Wall Street Journal, Seeking Alpha, and numerous other financial publications. Andy has helped thousands of option traders learn and implement his meticulous rules-driven options trading strategies through highly attended conferences, one-on-one coaching, webinars, and his work as a financial columnist. He currently resides in Bolton Valley, Vermont and when he’s not trading, teaching and writing about options, he enjoys spending time with his wife and two daughters, backcountry skiing, biking, running and enjoying all things outdoors.