Note to new readers: This is a regular update on the status of our XJO Iron Condor Model Portfolio. Please read the setup post first in order to understand the objectives and the rules for trading this model portfolio.

Another month has passed and it is time for another update on our XJO iron condor model portfolio.

November was a good month for our iron condor. The XJO settlement price was 5340.5 upon options expiry on November 20. As this is between our two short strikes (4850 short put and 5475 short call), this means all the options in our November iron condor expired worthless and we get to keep the option premium of $2200 before commissions.

So far we have had 10 winning months and 1 losing month resulting is a year-to-date gain of $860 as shown in the table below. We track our performance in a similar manner as, who do not include commissions as this will vary from broker to broker.

As stated in our setup post, our goal is to find an income strategy which could be traded mechanically, by traders who may not have any knowledge of fundamental or technical analysis.  So far we have only focused on using probabilities to help us select options to sell. We sell options with delta of 0.1 or a 90% probability of expiring OTM, and we put on the same size trade every month.

Another important metric to look at when selling options is the Implied Volatility or IV for short as this has a significant impact on option pricing. High IV means higher option premium and wider iron condors. We know intuitively that the best time for selling iron condors is when the IV is high but we have no proper definition for what is “high” or “low”. In 2008, the range for the 30 day IV for XJO was 22 to 66 but in 2014 it was 9 to 22.  Hence an IV of 22 would be considered low in 2008 but high in 2014.

Luckily, the good folks at Tasty Trade have devised a metric called “IV Rank” which is basically a ranking based on where IV is relative to when it has been in the past 52 weeks.  They have also done numerous studies which have shown that the best results for selling strangles and iron condors are obtained when the IV Rank is higher than 50% upon trade entry. One of the studies involved selling 45 day, 1 standard deviation strangles mechanically on 5 different underlying ETFs (EWW, GLD, SPY, IWM and TLT) from Dec 2008 to June 2014. There was a total of 316 trades in this five and a half year study and the results are shown in the chart below:

Source: Tasty Trade Entry Level IV Rank video

We can clearly see that when IV Rank is higher than 50%, we get a greater win percentage, higher credit per trade and a higher profit per trade. The average profit is even negative (i.e. loss) when IV rank is below 25%! Hence it would make sense to either trade only when the IV Rank is > 50%, or reduce our capital allocation when IV Rank is low, if we want to continue to trade.

Another 10 year study (from 2005 to 2014) was done to test the effectiveness of scaling capital allocation by IV rank. This was done by mechanically selling 45 day, 1 standard deviation strangles on SPY. The results show a much higher return when capital allocation was scaled compared to a conservative fixed capital allocation of 15% for every trade, as shown in the chart below.

Source: Tasty Trade Risk | Capital Allocation video

As we cannot get an IV Rank for our XJO options from our brokerage platform, we can try to calculate it using the 52 week range for XVI, which is the 30 day implied volatility index for XJO.  For example, If the 52 week low of XVI is 8.84 and the 52 week high is 21.16, then the IV Rank of 25% is at 11.92 and 50% is at 15 as shown in the chart below:

Source: CommSec charts

Using the above methodology, I worked out the IV rank at the point of entry for our trades in the past 11 months and found that 8 trades were placed when the IV rank was below 25%, 2 trades were placed when the IV rank was between 25-50%, and only 1 trade was placed when the IV rank was higher than 50%. Based on IV ranking, 2014 was probably not the best year for trading iron condors. Not surprisingly, the two trades where we experienced losses were placed when the IV rank was below 25%.

I also found that our results would have been better if we had applied a similar scaled capital allocation instead of a fixed capital allocation of 50% per trade as we have done.  We would have got even better results if we had only traded in the 3 months when IV was higher than 25%. I will post more detail of my findings in my final performance update for the model portfolio after our December trade expires. As I have mentioned many times before, the key to successfully trading this iron condor strategy is to have a good risk and money management (or capital allocation) plan. It looks like it could be a good idea to scale our capital allocation based on IV rank. It will involve a little bit more work to calculate the IV rank for XJO but this can be done mechanically by plugging XVI values into a spreadsheet.

On Nov 14, we opened our December trade, which is about 5 weeks to expiry. We sold 5150/4950 put spreads for 6 points and 5650/5800 call spreads for 8 points.  By selling 10 contracts of both call and put spreads, we collected a total of $1,400. The total margin required for this iron condor is $18,600. Our maximum profit for December is $1,400 which we will get if XJO is trading between 5150 and 5650 when these options expire on December 18. XJO was trading at around 5450 when the trade was opened on Nov 14. The width of our December iron condor is 500 points (5650 – 5150). The value of XVI was 13.87 which meant that its IV rank was between 25-50%.

I will provide another update after the December trade expires on December 18. For those who are interested in learning to trade this iron condor strategy, I have recently created training videos for trading this strategy. These training videos are available on our member website.

Disclaimer: This post is for educational purposes only and should not be treated as investment advice. This strategy would not be suitable for investors who are not familiar with exchange traded options. Any readers interested in this strategy should do their own research and seek investment advice if required.

Looking for something?

Use the form below to search the site:

Still not finding what you're looking for? Drop us a note so we can take care of it!

Visit our friends!

A few highly recommended friends...