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Market Measures

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Formula for Realistic Expectations

Market Measures

Options involve risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options before deciding to invest in options.

Today's segment looks at an approach to estimating the amount of premium needed to reach a certain average profit per month.

Our research shows that the average credit for a 30 days to expiration (DTE) Strangle in SPY was $125. This encompasses period of both high and low implied volatility (IV). That’s the first factor in the equation. We have to adjust that figure though since we believe in managing winners at 50% of max profit so the expected profit from $125 becomes $62.50.

The next step is to calculate the expected amount of winners and losers. Our research shows that one Standard Deviation (SD) Strangles managed at 50% will have a win rate of 90%. That means the loss rate would be 10%. We then used a 2x initial credit received loss rate for the calculation. So ($62.5 x 90%) - (-$250 x 10%) = $31.25. We then took the $31.25 and divided it by $125 (the average credit received) with a result of 0.25. The final step then is to take our desired profit per month and divide it by 0.25. Of course what this means is that you will have to sell 4 times the extrinsic value of the standard one SD Strangle to arrive at your desired profit level.

Watch this incredible segment of “Market Measures” with Tom Sosnoff and Tony Battista for the valuable takeaways and an understanding of our formula for “realistic” expectations in order to generate an expected profit per month in your portfolio.

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