We recently had a segment of Options Jive on June 27, 2016: “Adding Room to be Right” in which we discussed the three mechanical steps to take to adjust undefined risk trades such as Straddles and Strangles that have gone wrong. The first step was to roll the untested side to the new 30 Delta. The second step was to roll out in time. The third step was to go inverted. The recent large moves seen first down then up in equities after the Brexit vote, and just up and up in Bonds, had many viewers emailing Tom and Tony asking about going inverted. So what does going inverted mean and what is the goal of this strategy?
The first thing to happen is a big move in the underlying. A table of the Delta of a $210.50 Short Put in the SPY (S&P 500 ETF) on June 23rd, June 24th and June 27th was displayed. The table showed that the Delta went from 47 to 96 in a matter of days and the option became virtually stock. Rolling the call down reduces Delta exposure and generates an additional credit.
An example of a short Strangle in GS was displayed. The short put went well in-the-money (ITM) so the short call was first rolled down and eventually inverted (call strike lower than put strike). Another example was shown using the SPY.
A table of the numbers behind managing an inverted trade was displayed. The total credit, width of the inversion, Max profit, profit target and profit taken at level were all shown. We go inverted as a last step defensive move. It limits are potential profit but hopefully the possible damage too. The potential profit is the total credits taken in minus the width between the strikes. We look to manage this inverted spread around 50-75% of potential profit.
For more on Getting Inverted see:
Mike And His Whiteboard from March 16, 2016: "3 Considerations When Going Inverted"
From Theory To Practice from June 13, 2016: "Inverted Adjustments"
Watch this segment of Best Practices with with Tom Sosnoff and Tony Battista for the important takeaways and a better understanding of how and when to go inverted to play defense and when to manage an inverted trade.
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