Can you really make $5,000 a month trading options? This video covers the misconception that the term “options income trading” is often misinterpreted to mean that there will be monthly cash flow in every single month of an otherwise successful methodical trading strategy and the problems that can come from not understanding the realistic profitability patterns that encompass options income trading.
View Video Transcriptokay so today’s video is the fourth in
our series that we’ve entitled huge
options trading blunders
we’ve decided to produce this series for
traders who are really serious about
trading options for living and taking
the proper steps to excel as an options
trader as opposed to chasing rainbows
only to find disappointment in the end
I’m the head trader of SMB capital’s
options trading desk and i can tell you
from many years of experience that the
pitfalls were going to be describing in
these videos are real and if you’re
serious about trading for a living you
really need to pay close attention to
these videos so that you can avoid
serious problems in your trading journey
so if you committed to trading full-time
as an options trader then I urge you to
watch this video and the rest of the
videos in this series so that you don’t
fall by the wayside like so many
aspiring traders who don’t want to spend
the time to learn the actual truth about
the challenges and rewards of options
trading we want you to take a realistic
path to your trading goals which are
attainable if you’re serious
[Music]
hi I’m Seth freudberg and I’m the head
trader of SMB capitals options trading
desk SMB capital is a proprietary
trading firm located in midtown
Manhattan and we provide capital for
options and equity traders from all over
the world trading both remotely and in
our offices here in New York City now
I’d like to suggest that you click on
our subscribe button right now so that
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videos that we produce for traders and
investors all over the world they’re
really very valuable ok so today we’re
going to be looking at options trading
blunder number four in our series on
options misconceptions and huge mistakes
that you can make as an options trader
so blunder number four arises from the
fact that the style of trading that we
practice on our options trading desk is
known as options income trading to
explain why it’s called options income
trading I’ve got to give you some quick
background for those of you who are new
to operating if you know something about
options don’t worry about this it’ll go
by quickly and then we’ll jump into the
guts of the lesson almost all of you are
probably familiar with equity options
where a call buys you the right to buy
100 shares of a stock at the strike
price of that option any time before the
option expires and a put option entitles
you to sell 100 shares of the strike
price of the put before that option
expires but there are also index options
which works similarly to equity options
except there’s no such thing as 100
shares of an index like the S&P; 500 you
can’t really buy or sell 100 shares of
an index but what you can do is get paid
in cash $100 per point if the index
expires above the strike price of an
index call that you buy or alternatively
you’d be paid $100 per point for each
point the index drops below the strike
price of your index puts so for example
if an index is trading at 1,400 if you
buy the 1410 call if that index goes to
1415 you’d receive $500 in your account
if the index closes at 1410 or lower
your call expires worthless on the other
side of the ledger if you buy a 1385 put
in the market sells off to 1375 you’d
make $1,000 but
the market just sold off to 13 85 or
higher the put would expire worthless so
those are the basics of index options
and remember you can buy options but
your broker will allow you to sell
options as well and your broker will
allow you to put together combinations
of options in other words options
strategies that involve both short and
long options purchased in a way that is
advantageous to you as a trader
so what many options income traders do
is they learn strategies that they
employ every month pretty much come hell
or high water and they study through
back testing how the strategies perform
over time doing the same strategy every
month so let’s say and this is a really
simplistic example that a trader decides
that he’s gonna do an index option
strategy every month where he’s going to
sell a call option very far above the
market price of that index let’s say 5%
above the market price of the index and
at the same exact time he’s gonna sell a
put 5% below the market so as we just
explained as long as the index closes
within a range of 5% above or below the
market then both options will expire
worthless now this very simplistic
option strategy is known as a strangle
and yeah I know
that’s a weird and creepy day but that’s
what it’s called and in general terms
it’s comprised of selling a call above
the price of a stock or an index and the
same time selling a put below the
current price so let’s say that a guy
decides that he’s going to sell a
strangle every month 5% above and below
the sp500 index which trades under the
symbol SPX and he gets ahold of
back-testing software and he tests that
protocol rigorously for 10 years and
reaches the conclusion that if he sells
12 calls and 12 puts both 5% away from
the market every month he’ll make
$60,000 per year in profit so that would
mean an average of $5,000 per month
which was his income goal so just as an
example let’s see what that would look
like so this is the SPX index on April
1st of 2019 and at that time it was
trading at 28 64 so 5% above the market
is roughly 3,000 and
options are trading for 97 cents and we
sell 12 of those and 5% below the market
is roughly 27 25 and those options are
selling for seven dollars and 63 cents
and we also sell 12 of those
simultaneously so now let’s do the math
on this trade we got paid 97 cents per
call option but remember for each point
above 3000 we could owe hundred dollars
so you multiply that by 100 and we sold
12 of those so we received a total of
1164 dollars for the calls now for the
puts using the same math we received 7
dollars and 63 cents per foot times one
hundred dollars per point times the 12
puts that we sold and we’ve received
therefore nine thousand one hundred
fifty six dollars for those so the total
proceeds for that strangle was ten
thousand three hundred twenty dollars
now let’s move forward to the day the
options are expiring and you’ll see that
midday both the calls and the puts that
we sold are nearly worthless they’re
down to three cents each and why did
those prices drop so low because it’s
expiration day and the SPX is trading at
twenty nine thirty nine so the market
has about four hours to either zoom up
three thousand dollars or crash down to
27 twenty-five or the options will have
no value at all as we explained before
by the end of the day so now at this
point most professional options traders
would close the trade as the options are
nearly worthless and so let’s analyze
what happens at that point so the cost
to buy back the calls is 360 dollars as
you can see from the calculation and the
cost to buy back and close those puts is
also quit coincidentally 360 dollars and
now the trade is over but remember we
initially received ten thousand three
hundred twenty dollars and we only had
to spend three hundred sixty each for
the calls and puts so we’re left over
with a gain of 9600 dollars and that’s
an example of a strangle trade that
worked out well and so now you can see
why they call it options income trading
because you made income by selling both
the puts
and the calls and they expired worthless
and so at this point you might be
tempted to become subject to options
blender number four which is the concept
that hey all I have to do is sell calls
and puts above and below the market
every month and I can pay my bills doing
that in other words options blender
number four is the concept that I’m an
options income trader so I’ll make money
every month and pay my bills out of my
options trading income before we explain
the fatal flaw in that thought and why
it’s so simplistic I wanted to let you
know that there really are sound
techniques for trading options for
income and in fact we’re currently
running a to our free intensive workshop
at the moment where we’ll be teaching
you three of the strategies that real
professional options traders use
including a really simple but incredibly
effective strategy that some of the
greatest investors in the world like
Warren Buffett use all the time plus an
option strategy that has a statistical
80 percent probability of profit month
in and month out plus an option strategy
that you can employ with the stock that
you like where you’ll make your target
profit whether the stock goes up goes
nowhere or even goes down a small
percentage so if those strategies would
be of interest to you then you should
check out the free options class that
we’re currently running just go ahead
and click the link that should be
appearing now at the top right corner of
your screen that will open the free
registration page in a new window so
don’t worry you won’t lose this video or
you can just head on over to options
class com to register for this free
intensive workshop it’s a rare
opportunity for retail traders and
investors to learn directly from Wall
Street traders but that’s exactly what
you’ll be getting through this free
online workshop so click the link to
sign up now and don’t miss it why do I
say that it’s simplistic and foolish to
think that it’s that simple let’s take a
look at what happened the next month so
the April trade has ended and now we’re
moving to the May trade so on May 1st
the SPX was trading it 2923 and so 5% of
above the market is about 30 75 and 5%
below the market is about twenty seven
seventy five and so now this month if
you’ll notice the combined prices of the
calls and puts
actually higher than they were in the
April trade so here we can break that
down for you and you can see from the
calculation that in this case we
received cash flow from selling the 12
calls and the 12 foots in the amount of
fourteen thousand one hundred forty
eight dollars so that’s a nice chunk of
change however let’s move forward to the
day the trade is expiring and you’ll see
a different story this time you see SPX
in May sold off to twenty seven fifty
seven and so on expiration day that
calls again all the way up at thirty
seventy five will be worthless but the
puts well they have absolutely blown up
in value to 18 dollars and three cents
and that’s because the options are
expiring in a few hours and the SPX is
trading at eighteen points below the
strike price of those puts so those
foots are what is called in the money
and if the market closes around that
price we’ll be paying $1,800 per option
and we got twelve with those options so
we’ll be paying to settle those options
and so now closing the trade on
expiration is a hell of a lot more
expensive than in April as you can see
buying back the calls was cheap only 360
like in April but closing the puts well
that that cost is over $21,000 so when
you do the math comparing what we
originally received and what we ended up
paying the month of May ran at a loss of
seven thousand eight hundred
thirty-eight dollars now hold on one
second you’re probably thinking I
thought you said this guy back tested
this strategy and he was all set because
he proved over a long period of time
that he was gonna make on average sixty
thousand dollars per year doing this I
mean didn’t he back test it I thought he
was gonna make $5,000 per month trading
this strategy and pay all of his bills
that way what’s going on here I thought
this was options income trading I
thought his year was supposed to look
like this making 5,000 dollars every
month well I have some news for you this
may be a perfectly valid strategy and it
may make on average $5,000 per month but
it doesn’t happen smoothly it’s childish
to think that would happen some months
you’ll make a little bit of money other
months you’ll lose a little bit of money
some months you’ll make a lot of money
other months you’ll lose a lot of money
but it
the end of the day when you add it all
up you’ll hit that total but it’s going
to occur in an uneven way perhaps
something like this and so had you done
this trade all year in 2019 let’s just
suppose that you had these results
you’ll see that we made a lot more than
five thousand dollars in many cases and
at the same time we lost money in four
of the twelve months such as we just
showed you in the May trade so what are
the implications of this for you well
last time I checked you can’t go to the
grocery store and buy your groceries
with negative dollars it’s ridiculous to
rely upon an exact pattern of cash flow
from your trading account to pay your
bills even with proven terrific income
option strategies you can’t think of
options income trading is some kind of a
bond or social security check or a
salary or something along those lines
that pays you steady cash flow each
month instead you have to think in terms
of annual returns and therefore develop
a cash flow plan for your trading this
is really practical stuff that we’re
talking about here but you’d be amazed
how many people completely miss this
point before they start trading and you
have to realize this a strategy that
you’ve proven can make sixty thousand
dollars a year on average unevenly means
that there will be months where your
account will temporarily drop below the
capital level you needed to produce the
sixty thousand dollars a year
my rule of thumb is that options income
traders should produce between two to
four percent per month for an
accomplished trader so you can do the
math to figure out how much capital you
need in order for your account to
produce steady income if you become a
high-quality disciplined consistent
options income trader but if in the
months where you lose you put yourself
into a position where you’ve got to pay
your bills from your trading account
you’ll blow the math of your trading
plan because you need that capital level
each month to produce the income you
were hoping for so therefore you may
have the greatest strategy in the world
but if you don’t have cash reserves for
those month where your account goes
negative temporarily you will fail
because you won’t be able to replicate
your back-tested returns if you keep
changing capital levels that means in
winning months where you make excess
above your average
monthly expected income you need to
maintain that as a cash reserve for the
losing months and when you first start
out you should have a reserve equal to a
few months of draw downs that you
gleaned from your back tests so that if
that losses happen to occur when you
first get started you’ll have the
reserves to temporarily replenish your
account so by now I hope that you can
see that a mature professional trader
would never organize his life so that he
fails to understand that your income
will come in unevenly from otherwise
outstanding option strategies that can
produce two to four percent per month on
your capital and that you can’t
simplistically tell yourself that you’ll
make money every month from your options
income trading you need to have a
sensible intelligent cash flow plan that
establishes cash reserves in winning
months and is initiated with a cash
reserve at the outset of your trading
journey so that should losing months
occur initially you’ll be just fine
that’s how professionals plan and then
towel
you should also if you want to truly
make it as an options income trader now
just to remind you as I said earlier if
you enjoyed this video and learn
something valuable from it would like to
learn the details of three real-world
option strategies that professional
options traders use all the time
then you should check out the free
options class that we’re currently
running just go ahead and click the link
that should be appearing now at the top
right corner of your screen that will
open the free registration page in a new
window so you won’t lose this video
don’t worry
or you could just head on over to
options class com to register for this
free intensive workshop it’s really a
rare opportunity for retail traders and
investors to learn directly from Wall
Street traders but that’s exactly what
you’ll be getting through this free
online workshop so click the link to
sign up now and don’t miss it and please
don’t forget click on the subscribe
button right now so you won’t miss the
next episode of huge options trading
blunders and all the other free trading
videos that we’re posting constantly on
our channel to help you to improve your
game as an options trader
* no relevant positions
