HOW WEEKLY OPTIONS CAN BENEFIT TRADERS SEEKING ALPHA.

• Posted by chicagosean
• on September 15th, 2010

Alpha Male

A couple readers of my previous post asked me to expound more on my thoughts regarding utilizing weekly options in an effort to help me achieve Alpha gains. Glad you asked…

I’ll try to break this down as I see it as simply as possible:

First, utilizing typical MONTHLY options, let’s compare Alpha Male‘s strategy versus a regular old long-only investor, the typical buy-and-holder Joe Holder. On January 1, Joe Holder decides to buy 100 shares of XYZ index at $100.00. Alpha Male too wants to be long XYZ index. But instead of buying 100 shares, he sells a February 100 put for 2.50 (obligating him to purchase 100 shares of XYZ at the price of $100.00)

How do their performances compare over a range of possible outcomes on February expiration (approximately 50 days after our initial trade)?

While I’ve provided a wide range of outcomes, it is the five outcomes I’ve highlighted in the middle of the range that are most likely to happen most frequently. And as you can see, of these five possible outcomes, the Alpha Male underperforms compared to Joe Holder only once. But you shouldn’t feel too bad for Alpha Male, as he is still compensated with a positive absolute return of 2.5% on his capital.

This is where it gets interesting.

In the infinite wisdom of the options exchanges (er, their quest to drive more volume and thus more fees), they’ve been rolling out Weekly options that expire each and every Friday (except the week that the regular old monthlies expire). The beauty of this (for options sellers), is that the last 7 days of an option are when theta decays the fastest!

How does this benefit Alpha Man?

Let’s try another brief example:

As of the time of this writing, QQQQ is trading at 47.63 and a near-the-money October $48 put in QQQQ can be sold for a premium of .97 cents (actual cost is 1.34, but it is in-the-money by 37 cents). This put has 30 days until expiration, or approximately 4 weeks.

Meanwhile, this past Friday, I was able to sell a similar near-the-money WEEKLY put in QQQQ for .32 in premium (actual sale price was .75, but the option was in-the-money by 43 cents).

To compare premiums sold, you’ll need to multiply the weekly premium by four which results in $1.28 total premium per month in weekly options versus the $0.97 in the actual monthly option. This is a nearly 32% increase in premium collected.

Therefore, it seems to me that executing this old fashioned strategy on an accelerated weekly timeline will not only increase Alpha due to more opportunities to do so, it will also have the additional benefit of collecting fatter premiums to do so. Sounds like a win-win!

(and now there’s talk of DAILY options soon? Yahtzee!!!!)

What, if anything, am I missing here?

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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