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BONDOR |
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A short-term option strategy designed to benefit from rapid option time decay.
Bondors: A Quick Introduction
- Each month, 10 to 15 trading days prior to option expiration, an estimate is made as to where the market may be at that point in time. An attractive feature of this option strategy is that the "estimate" does not have to be exact in order to have a winning trade. We need only to estimate a "range" of where bonds may finish in 10 to 15 days. A trader may use their own estimate, or use our estimate to initiate the Bondor.
- Trader then sells both a call and a put (a straddle) at the strike price closest to the chosen target. This brings a credit of option premium into the trading account. A frequently used variation is to sell both a put and call but leave a one point gap between the strikes thus bracketing the target.
- The trader uses some of the credit from above to buy both a call and a put (a strangle) 2 full points on each side of the straddle that was sold. This is our "insurance" and defines the risk. In the variation mentioned above, a trader might choose to buy a strangle only one point on each side of the options sold. This will result in a trade with lower risk but also less profit potential.
- Trader then waits for 10 to 15 days. If the the target forecast was good, or at least pretty close to the target price we chose, we win. If the market ends up too far away from our target, we lose. It does not matter if the market is above or below the target, only that it is pretty close. (usually within a full point and a half)
Bondors: A Detailed Explanation
It is a fact that options expire and option time decay is the most extreme in the last two weeks. This trade takes advantage of the massive (Ski Slope) time decay in the last two weeks of an options life. The Bondor also has a protective layer of insurance just in case something extremely out of the ordinary happens during that time.
The Bondor or (Iron Butterfly) is not a new spread. In fact, it's very popular on the trading floors around the world. In our opinion, the Bonds seem to generally be |
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volatile for two weeks, and calm for two weeks. The volatile (Hot) two weeks of trading often seem to be at the end of the month and the first week of the month. We feel that this is because of Government reports, announcements, and large position turnover. We enter our trade at the end of the first week of the new month shooting for the end of the volatile market movement and selling our spread at it's peak volatile state. This is an effort at obtaining the most amount of premium available for our credit. |
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The Bondor trade consists of selling an option straddle at the middle of the expected trading range which is the target for expiration. Next we buy a strangle two basis points in either direction of the straddle we sold. This is our insurance policy which give the position defined risk. A variation of the Bondor is to sell a 1 point wide strangle at the middle of the target range rather than a straddle. This approach will result in less |
risk, a slightly wider target range, but also a lower profit potential. The Bondor spread is usually initiated all at the same time for a credit, meaning we receive a credit in the way of option premium for putting the trade on. The premium we receive depends greatly on the volatility of the options, which we monitor at all times. The risk is limited to the difference between the long & short strikes minus the credit we receive for putting the trade on. Generally the credit can be anywhere from $1200 to $1800 depending on the underlying volatility. The profit potential reaches the maximum amount if the market settles right at the strike prices that were sold. In the variation scenario, the credit is usually $600 to $700 and the full profit potential may be earned if the bonds end up between the strikes that were sold. |
The Bondor is a systematic trade that has a complete trading plan including risk control and profit objectives if one uses discipline to execute it. We will help you have all the necessary orders working at the time of your initial order. This takes the emotion out of the trade while it is in progress and lets you trade with discipline and consistency.
Bondors: Questions and Answers
Which markets are this strategy used in?
30 Year T-Bonds are the primary market used. Other markets, such as the S&P 500 and even Soybeans can be used if conditions are right.
When does this strategy take place?
The trade takes place with two weeks left until expiration in the current month options. An example would be if you were putting this trade on in January, the last two weeks of the January Bond options would be our investment vehicle. The March Bond Futures would be the underlying contract.
Where does this strategy take place?
The trade takes place in the 30-year bonds, which run through the Chicago Board of Trade. Man has its own floor broker whom we call our trades down to and we believe this gives us an edge by having an expert in the thick of things getting trades filled at the best possible prices.
Does this strategy use options or futures contracts?
Only options are used.
What is the maximum risk on this strategy?
The risk is limited to the difference between the long and short strikes, minus the credit we receive for putting the trade on, plus commissions and fees.
What is the maximum profit potential of this strategy?
Generally the credit can be anywhere from $1200 to $1800 depending on the underlying volatility. The maximum profit potential is the credit minus commissions and fees and reaches the maximum amount only if the market settles right at the strike prices of the options that were sold. In the variation scenario, the credit is usually $600 - $700 and the full profit potential may be earned if the bonds end up between the strikes that were sold.
How much of my time will it take to use this strategy?
It is up to you how closely you wish to follow each trade. Most traders who work with us stay in touch once or twice a week. Stop loss orders and profit objective orders are taken at the same time as the entry order. This allows you to continue trading even when you are busy or on vacation. There is no need to be glued to a quote screen all day.
How often is this strategy used?
We try to stay consistent and put the trade on every month.
How much trading capital does this strategy require?
We recommend at least $3,000 per position. The variation Bondor will require a bit less.
Who are the players in this market?
The bond market is very heavily traded, making it one of the most liquid markets on the planet. Anyone CAN trade the bond market; however, the government, banks, mortgage brokers and hedging brokers around the world remain major players.
How are the option strike prices determined for this strategy?
Factors used are the volume and open interest of the options as well as short term technical factors used to monitor support and resistance levels.
Bondors: Summary of Benefits
- Ties up trading capital for no more than 10 to 15 trading days. The key is that we are selling this spread with very little time until expiration which gives us maximum time decay and leaves little time for the market to make a dramatic move against us.
- Has defined risk parameters which will vary only slightly from month to month depending on the volatility and the premium it allows us to collect.
- Offers a trading opportunity every month due to the great volume created in this market by a variety of players. For example, the banking industry is faced with the necessity to hedge every month which in turn gives us the opportunity for consistent trading opportunities each month.
- Has a lower "stress" factor than using "naked" neutral option positions. We have found that the sale of premium with the purchase of options on either side (Insurance) tends to result in a much lower level of anxiety during the trade which makes for better decision making.
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© 2002-2008 Opportunities In Options - All Rights Reserved |
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Although this information is believed to be correct and from reliable sources, no guarantees are being made to its accuracy. Past performance is not indicative of future results. All trading involves a risk of loss.
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