4/23/2014 1:14:25 PM
Weekly Income Credit Spreads
The market is moved higher this week after a last week’s price pause. As indicated in the DIA weekly chart below, the DOW Jones Industrial Average (DJIA) is bouncing up against the resistance level which has held the price in check since the end of last year. As highlighted in the chart there is a high probability the DJIA will continue to trade below the resistance price which is also the all-time highs. Also noted is the longer term strength and momentum indicators have been stuck in neutral all year and you can see the index is sending a bearish candlestick signal. Now is probably an ideal time to take advantage of the opportunity to set up a May week-four expiration DIA bear call credit spread.
The DIA ETF (NYSEArca:DIA) exchange traded fund (ETF) seeks to provide investment results that, before expenses, correspond generally to the price and yield performance of the Dow Jones Industrial Average (DJIA). The fund seeks to achieve its investment objective by holding a portfolio of the common stocks that are included in the Dow Jones Average, with the weight of each stock in the Portfolio substantially corresponding to the weight of such stock in the DJIA. We are utilizing a bear call spread because the DJIA just needs to stay below the price of the sold option for this technique to work. Plus this strategy includes protection to minimize the loss in case the market surges over the next thirty days.
DIA ETF Trade Setup ——————————————————————–
We are opening a May week-four DIA bear call spread. The DIA call spread needs to generate a minimum .50 net credit AND we prefer an 80% probability that the short call contracts will expire worthless and we get to keep most of the sold premium. The spread in the table below complies with our trading rules for initiating the May 23rd expiration DIA bear call spread (based on Wednesday’ morning bid/ask mean). The suggestion is to submit a limit order to purchase/sell the option strike prices below. Please confirm the correct option symbols with your broker.
Premium Credit $.57
Total Option Premium Received $1,140 (Excludes commissions and fees)
Maximum Risk $4,860
Margin Requirement $6,000
20 contracts traded on each leg (number of contracts can be increased or decreased based on risk tolerance and/or funds available to trade; this will impact Total Premium Received, Maximum Risk amount, and Margin Required)
If prices gap down the call spread may not be available as published and unless the gap is filled you should hold off on the trade.
As with initiating the trade, the decision process for exiting our DIA credit spread will be simple:
Anytime the market maker is willing to accept a limit price of less than .10 on one of our short strikes, we can buy back all the short contracts and sell the long positions on the same spread. However, if it is a week or so prior to the expiration date, we may be able to hold out for a .05 bid or decide to just let the contracts expire worthless.
If one of our short strikes is penetrated (closing price above the short call) AND the delta rises to .65 we will look to close out this spread (buy the short contracts, sell the long) and roll it out to another short strike price. Unless this this is the week the options expire, do not panic and rush to close the trade, many times the market will reverse itself and remove the sense of urgency. If one of our short strikes has been violated and there is no price reversal, we cut our losses and live to fight another day.
Weekly Income Credit Spreads