The Complete Guide to Option Selling
Key Takeaways
1. Option selling offers high probability returns with managed risk
Remember, Defense wins Championships. Your Super Bowl ring should be your 1099 in January.
High odds of success. Selling options provides a statistical edge, as 75-80% of options expire worthless. This allows option sellers to profit from time decay and overpriced premiums. However, proper risk management is essential.
Multiple ways to profit. Unlike buying options or futures, where you must correctly predict price direction, selling options can be profitable if the market moves in your favor, remains stable, or even moves moderately against you. The key is selecting appropriate strike prices and expiration dates.
Managed risk approach. While "unlimited risk" sounds scary, it simply means you must manage your own risk. Proper position sizing, diversification, and exit strategies can effectively control potential losses. Focus on where prices are unlikely to go, rather than trying to predict exact price movements.
2. Fundamentals trump technicals in commodity option trading
In commodities, supply-and-demand fundamentals are king.
Focus on supply and demand. Unlike stocks, commodities have real-world supply and demand factors driving prices. Understanding these fundamentals gives you an edge over purely technical traders.
Key fundamental factors:
- Production cycles and harvest timelines
- Weather patterns affecting crops
- Geopolitical events impacting supply chains
- Seasonal demand fluctuations
- Long-term consumption trends
Combine with technicals. While fundamentals should drive your market selection, technical analysis can help with trade timing and entry points. Use both for a comprehensive approach to option selling.
3. Sell far out-of-the-money options for optimal risk-reward
Don't try to guess where the market is going. You only have to decide where it is least likely to go.
Target "ridiculous" strikes. Look for options with strike prices far from current market levels. These options often have inflated premiums due to speculation, while having a low probability of ever becoming in-the-money.
Benefits of far OTM options:
- Higher probability of expiring worthless
- Less affected by short-term price swings
- Allows for larger position sizes with lower margin requirements
- Provides a wider "profit zone" for the trade
Time decay advantage. Selling options with 2-6 months until expiration allows you to benefit from accelerating time decay while still giving yourself room for market fluctuations.
4. Diversification and proper position sizing are crucial
Keeping your portfolio diversified carries obvious benefits.
Spread risk across markets. Diversify your option sales across different commodity sectors (e.g., grains, energies, metals, softs). This reduces the impact of any single adverse market move on your overall portfolio.
Position sizing guidelines:
- Limit exposure to any single market to 10-15% of portfolio
- Keep 30-50% of account in cash as a safety buffer
- Avoid over-leveraging, even with seemingly "safe" far OTM options
Stagger expirations. Structure your portfolio to have options expiring at regular intervals. This creates a more consistent income stream and allows for reinvestment opportunities.
5. Seasonal trends provide powerful option selling opportunities
Combining seasonal tendencies with selling distant options can be a high-powered technique for accumulating consistent trading profits.
Leverage recurring patterns. Many commodities exhibit predictable seasonal price tendencies due to production cycles, weather patterns, and demand fluctuations. These create optimal times to sell options with high probability of success.
Key seasonal trades:
- Sell natural gas calls in May (ahead of summer demand peak)
- Sell crude oil puts in December (low refinery demand period)
- Sell soybean calls during US growing season (weather speculation)
Combine with fundamentals. Don't blindly follow seasonal averages. Confirm that the underlying fundamental reasons for the seasonal tendency are still valid in the current year.
6. Volatility spikes create lucrative option selling setups
Volatility is why one could sell refined blend gasoline $4.20 calls in late 2008 when the futures price was at $1.20 per gallon.
Capitalize on fear. Market uncertainty and sharp price moves often lead to inflated option premiums. This presents opportunities to sell overpriced options, especially if you believe the extreme moves are temporary.
Identifying overvalued options:
- Compare implied volatility to historical volatility
- Look for options with implied volatility near 3-month highs
- Consider fundamentals to determine if volatility spike is justified
Patience is key. Volatility tends to revert to the mean over time. Even if you're initially wrong on market direction, inflated premiums often decay faster than usual once fear subsides.
7. Avoid common pitfalls of novice option sellers
Over positioning, not miscalling the markets, is probably the number-one reason traders lose money selling options.
Resist overtrading. The high probability nature of option selling can lead to overconfidence. Stick to your trading plan and avoid the temptation to take on too many positions.
Common mistakes to avoid:
- Trying to pick exact market tops and bottoms
- Selling options with too little time value remaining
- Ignoring fundamentals in favor of technical setups
- Failing to diversify across different markets
- Not having a clear risk management strategy
Emotional control. Develop a trading plan before entering positions and stick to it. Avoid making emotional decisions based on short-term market moves.
8. Work with experienced professionals to enhance success
If you are investing six or seven figures into an option-selling portfolio, investing in professional guidance should be the first trade you make.
Value of expertise. While self-directed trading is possible, working with an experienced broker or money manager can significantly improve your results, especially when dealing with sophisticated strategies like option selling.
What to look for:
- Several years of experience in commodity markets
- Specific expertise in option selling strategies
- Track record of consistent performance
- Transparent communication about risks and strategy
- Alignment of investment philosophy with your goals
Ongoing education. Even if working with a professional, continue to educate yourself about markets and option mechanics. This allows for more productive collaboration and better-informed decision-making.
Last updated:
FAQ
What is The Complete Guide to Option Selling by James Cordier about?
- Comprehensive option selling strategy: The book explains how selling options, particularly on futures contracts, can generate consistent returns in both bull and bear markets.
- Focus on practical application: It emphasizes real-world strategies, risk management, and market selection, avoiding overly complex mathematical models.
- Statistical edge for sellers: Cordier highlights that most options expire worthless, giving sellers a built-in advantage.
- Target audience: The book is aimed at individual investors seeking a semi-passive, high-probability approach to wealth building or income generation.
Why should I read The Complete Guide to Option Selling by James Cordier?
- Reveals professional secrets: The book exposes the "option seller’s secret"—that selling options offers multiple ways to profit with the odds in your favor.
- Bridges theory and practice: Cordier combines decades of trading experience with actionable advice, making it accessible for both beginners and experienced traders.
- Empowers disciplined investing: Readers learn to generate returns independent of market direction, political climate, or economic conditions.
- Avoids common pitfalls: The book teaches how to sidestep frequent mistakes like overpositioning and emotional trading.
What are the key takeaways from The Complete Guide to Option Selling by James Cordier?
- Statistical advantage: About 75% to 80% of options expire worthless, so sellers start with a statistical edge.
- Time decay as an ally: Option sellers benefit from time decay, which erodes option value as expiration approaches.
- Risk management is crucial: The book stresses setting exit points, using the 200% rule, and diversifying across markets.
- Simplicity and consistency: Selling options can provide steady, semi-passive income without needing to predict exact market moves.
How does option selling in Cordier’s book compare to buying options?
- Odds favor sellers: Option buyers need large, timely market moves to profit, while sellers can profit if the market moves in their favor, stays flat, or even moves moderately against them.
- Time decay works against buyers: Buyers face a losing battle as options are wasting assets, while sellers benefit from this decay.
- Risk profiles differ: Buyers have limited risk (the premium paid) but low probability of profit; sellers face theoretically unlimited risk but with higher probability and multiple profit paths.
- Multiple profit scenarios: Sellers can profit in more market conditions than buyers.
What are the main advantages of option selling according to James Cordier?
- Statistical edge: Most options expire worthless, so sellers have a built-in advantage before any market analysis.
- Multiple ways to profit: Sellers can win if the market moves in their favor, remains stagnant, or moves only slightly against them.
- Time decay benefits sellers: The passage of time erodes option value, allowing sellers to profit simply by waiting.
- No need to predict direction: Sellers only need to identify where prices are unlikely to go, not where they will go.
How does James Cordier recommend managing risk in option selling?
- Sell far-out-of-the-money options: Choose strikes with low deltas, far from the current market price, to allow for market fluctuations.
- Diversify across markets: Spread option sales over several markets with favorable fundamentals to reduce exposure to any single market move.
- Use the 200% rule: Exit a position if the option value doubles from the sale price to prevent large losses.
- Set exit points: Define risk parameters before entering trades to avoid emotional decision-making.
What is the significance of futures options and SPAN margin in Cordier’s option selling strategy?
- Higher leverage and returns: Futures options require lower margin than stock options, allowing for higher returns on invested capital.
- SPAN margin system: SPAN (Standard Portfolio Analysis of Risk) calculates margin requirements, often allowing sellers to post margin as low as 1 to 1.5 times the premium collected.
- Deep out-of-the-money strikes: Futures options can be sold far out of the money with meaningful premiums, reducing risk from short-term market moves.
- Margin management: Margin requirements can fluctuate daily, so keeping backup capital is essential.
How does Cordier suggest picking the right options to sell?
- Select the right market: Focus on markets with clear long-term bullish or bearish fundamentals and/or seasonal tendencies.
- Choose the right strike: Sell deep out-of-the-money options to maximize premium while minimizing risk of being exercised.
- Pick the right expiration: Target options with two to six months until expiration to balance premium and time decay.
- Set risk parameters: Define exit points and risk limits before entering trades.
What role do fundamentals, technicals, and seasonals play in Cordier’s option selling method?
- Fundamentals are primary: Understanding supply and demand, crop reports, and inventory levels is crucial for market and strike selection.
- Technicals assist timing: Technical analysis is used mainly to optimize entry points and confirm trends, not to override fundamentals.
- Seasonal tendencies: Seasonal charts reveal typical price movements, helping sellers identify high-probability trades.
- Combined approach: Using fundamentals for market selection and technicals for timing creates a robust strategy.
What is the 200% rule in risk management from The Complete Guide to Option Selling?
- Simple exit strategy: If the value of a sold option doubles from the premium collected, exit the position to limit losses.
- Balances risk and flexibility: This rule allows for some market movement against the position while preventing large, uncontrolled losses.
- Self-discipline tool: Cordier recommends setting self-ordered stops (alarms or notes) rather than automatic stop-loss orders to avoid poor fills and emotional decisions.
What are the recommended option spread strategies in Cordier’s book?
- Short option strangle: Sell out-of-the-money puts and calls simultaneously to profit from a market staying within a wide range.
- Vertical credit spreads: Sell one option and buy another at a different strike in the same month to limit risk while collecting premium.
- Ratio credit spread: Sell multiple options at one strike and buy fewer at a closer strike, offering a wide profit zone and flexibility.
- Covered call writing: Sell calls against owned stock to generate income, though this caps upside potential.
What common mistakes should new option sellers avoid according to James Cordier?
- Trading without guidance: Beginners should consider working with experienced brokers or portfolio managers to avoid costly errors.
- Overpositioning and undercapitalization: Taking on too large positions or trading with insufficient capital increases risk of margin calls and large losses.
- Lack of a trading plan: Not having predefined exit strategies or forming emotional attachments to markets leads to poor decision-making.
- Emotional trading: Letting emotions dictate trades often results in losses; discipline and planning are essential.
The Complete Guide to Option Selling receives mixed reviews. Many praise its simplicity and practical advice for option selling strategies, particularly for beginners. Readers appreciate the lack of complex mathematical formulas. However, some criticize the author's approach to risk management, citing his firm's later financial troubles. Critics warn of the dangers of uncovered options and unlimited risk. Despite concerns, several readers found the book valuable for understanding option selling basics and changing their perspective on options trading.
Contenido de libros similares...
Contenido sobre el autor...