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Calendar Options Strategy Video Series 2 of 7

In this calendar options spread strategy, class we explain how the Calendar can behave as a negative Vega trade. This is very important to understand. Many option traders do not understand volatility well enough and believe this type of trade always makes money when vols rise and it always loses when IV drops. However, this is far from the truth. The calendar spread can be used to make money when IV drops just as effectively as when it rises.

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Calendar Options Strategy Video Series 2 of 7

Video Transcript

Hi everybody! This is the second video to this tutorial on Calendar Spreads. In this one, we’re going to talk about the importance of getting that skew right when you enter the trade and it’ll definitely help produce a profit so you can enter, so you can exit at the optimal time as well.

When we’re selling the options in general, whatever trade you’re doing, and again this can be applied to anything – to naked positions, to condor, credits, diagonals, you name it. When you’re selling the options, your goal is to sell them high and that can be directly related to the volatility. We’re looking at selling this high volatility and by doing that, we’re getting a better deal on that part of the business. The next thing is when we’re pairing up our trades and we’re creating spreads. Then often times we’ll be buying contracts simultaneously when we’re selling.

In the last video, I talked about the volatility wave that goes through. You’ll have like a horizontal wave, a vertical wave and you’ll have inflated parts of the option chain at different locations. Sometimes it might be at the money; sometimes there could be a spike in volatility out of the money. The thing is, if you can configure your trades and you enter them or you’re selling high and buying low, then again it makes for a pretty decent trade. At least you’ll have more probability in your favor especially with this type of spread, the calendar.

When we’re buying, we’re looking at buying low. So we’re looking for this lower volatility. That means we’re paying lower for the ones that we’re buying. When you combine this knowledge together, selling high and buying low, then that’s really how you try to enter and initiate the trade with a Calendar Spread and like I said, with really any spread you’re looking at.

So let’s draw a couple of pictures, just to clarify it. Let’s say you have one here and a contract here. So this is your month number 1 and we’ll call this month number 2. It doesn’t necessarily have to be the month right following the first month. It could be a skip month, it could be a couple months out, 3, 4, whatever. The important thing is that we sell up here and then we buy farther out in time. With your calendar, it’s going to be the same number of contracts, let’s just say 10 of each. If you start to get in into different number of contracts, then you begin working with ratio spreads.

Right now, we’re working with calendar, just a traditional calendar that has an even number of contracts. Over here, we’re trying to time our volatility inflated and simultaneously the one that we’re buying. Our goal is to buy one with a lower volatility. And that just gives us not only a better price in the calendar but it’s a better opportunity because when it corrects, then most likely, if you can enter like this, then this one’s going to go up in volatility. This one’s going to drop and then that means money for you.
So that’s slide 2 of Calendar Spreads and hopefully, that makes sense. Thank you very much! This is Morris from San Jose Options. Remember that’s sjoptions dot com (sjoptions.com) or sanjoseoptions dot com (sanjoseoptions.com).