The Winning Strategy for Scaling Up Trades
The Winning Strategy for Scaling Up Trades
By:Kai Zeng
Compared to two other approaches, exiting a stock position at 21 DTE tends to generate the highest return and the lowest volatility
- Regardless of capital allocation level, exiting at 21 DTE consistently shows the best ability to control volatility among the three strategies.
- When scaling up, the 21 DTE approach results in the smallest increase in volatility, whereas managing winners at 50% experiences the highest jump in profitability.
When scaling up in trading, you often see larger profit and loss changes for the same positions. But how does volatility respond to an increase in scale? And how does volatility react to different management strategies, such as exiting at 50% of maximum profit or at 21 days to expiration (DTE)? Let's dive in to find out.
To understand how volatility shifts, we examined a portfolio of SPDR S&P 500 ETF (SPY) 45-day to expiration (DTE) one standard deviation (1SD) strangles with a consistent capital allocation of 25% of the total asset value. The positions were either held until expiration, managed at 50% of their maximum profit or exited at 21 DTE.
On average, exiting at 21 DTE generated the highest return and the lowest volatility, offering superior results compared to the other two strategies. Managing winners by exiting at 50% of maximum profit can generate a higher return compared to holding until expiration but does not control volatility as effectively as exiting at 21 DTE.
Consider a scenario where a SPY strangle reaches 50% of its potential profit. Exiting at this point yields a good return, but the volatility remains higher compared to exiting at 21 DTE.
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Next, we explored how increasing capital allocation impacts portfolio volatility. Within the same portfolio, we increased the committed capital usage from 25% to 35%. After this capital increase, the volatilities of all three strategies went up.
However, exiting at 21 DTE still yielded the best results in containing the rise in volatility. Managing winners at 50% of maximum profit achieved a greater jump in profitability but showed higher volatility compared to the 21 DTE approach.
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Increasing allocated capital means more at stake, leading to larger swings in profit and loss. Exiting at 21 DTE helps mitigate these swings effectively.
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Kai Zeng, director of the research team and head of Chinese content at tastylive, has 20 years of experience in markets and derivatives trading. He cohosts several live shows, including From Theory to Practice and Building Blocks. @kai_zeng1
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