What are the characteristics of this option strategy?
In the money option strategies weight the position toward in-the-money (ITM) contracts rather than out-of-the-money (OTM) ones. In the version described here the trader buys 2 ITM calls and sells 1 OTM call against them, so the position is net long one call. The initial cost is high because in the money calls carry intrinsic value, and that cost is the maximum loss. The short OTM call has a lower delta and a lower chance of expiring in the money, and the premium it brings in reduces the debit without capping the upside, because the position still holds one more long call than short call.
Is this a bullish, bearish or neutral strategy?
In The Money Option Strategy is generally a bullish strategy, although it can be used as a neutral strategy when the options are bought and sold are close to one another in regard to the strike price.
Is this a beginner or an advanced option strategy?
In The Money Option Strategy is generally more suitable for advanced traders due to the complexity of the strategy and the cost of the profiting trade.
In what situation will I use this strategy?
The In The Money Option Strategy is most commonly used when the price of the underlying security is expected to appreciate in the near term, but is expected to be volatile in the near term.
Where does this strategy typically fall in the range of risk-reward and probability of profit?
In The Money Option Strategy is a net debit position. The maximum loss is the full premium paid, and that entire amount is lost if the underlying sits at or below the long strike at expiration. The reward is not capped, because the extra long call keeps working above the short strike, but the underlying has to move up far enough to clear the debit before anything is made. The probability of profit is moderate at best, not high, and it falls as more premium is paid up front.
How is this strategy affected by the greeks?
The greeks (delta, gamma, theta and vega) all have an impact on the In The Money Option Strategy. Delta measures the option's sensitivity to the stock price and roughly approximates the chance of finishing in the money, gamma measures how fast that delta changes as the stock moves, theta measures the daily erosion of time premium, and vega measures sensitivity to changes in implied volatility.
In what volatility regime (i.e VIX level) would this strategy be optimal?
In The Money Option Strategy buys more premium than it sells, so it is net long vega and pays for volatility rather than collecting it. A high VIX raises the cost of the two long calls more than it raises the credit from the single short call, which widens the break even and leaves the position exposed to a fall in implied volatility. Lower implied volatility, with an expectation that the underlying will still move up, is the better entry.
How do I adjust this strategy when the trade goes against me? And how easy or difficult is this strategy to adjust?
Adjusting the In The Money Option Strategy when the trade goes against you can be difficult and time consuming. In order to adjust the strategy, you would need to re-evaluate the position and determine which options should be bought and sold. This can have a disruptive effect on the momentum of the trade causing more losses. Therefore, it is important to be diligent with the initial trade selection.
Where does this strategy typically fall in the range of commissions and fees?
The commissions and fees associated with the In The Money Option Strategy vary depending on the options broker and the number of trades opened. The cost of commissions and fees typically falls on the higher end of the spectrum.
Is this a good option income strategy?
No. In The Money Option Strategy is opened for a net debit, so no premium is collected on balance and there is nothing to decay in the trader's favour. It is a directional position that pays off from a move up in the underlying, not an income position. Commissions and fees, and the time and effort required to adjust the position when the trade goes against you, come out of the same debit.
How do I know when to exit this strategy?
It is important to always use a predetermined exit strategy for the In The Money Option Strategy. The trader should consider both the price of the underlying security and the greeks when deciding when to exit the trade. If the underlying security has reached a price that yields a net profit from the trade, then it may be a good idea to close out the position.
How will market makers respond to this trade being opened?
Market makers will typically look out for any In The Money Option Strategies being opened in order to try and offset any potential risk that may arise from the trade. As such, it is important to be aware that the price of the option may be adjusted by the market maker in order to offset any risks.
What is an example (with calculations) of this strategy?
For example, suppose an investor was to buy 2 in-the-money call options with a strike price of $120 and sell 1 out-of-the-money call option with a strike price of $140. The two long contracts less the credit from the one short contract leave a net debit of $2,000. If the underlying security was to reach a price of $150 by the expiration of the options, the two long calls would be worth $6,000 and the short call would owe $1,000, for a net value of $5,000 and a net profit of $3,000 over the $2,000 paid.
The rest of the payoff follows from the same numbers. Break even is $130, because at $130 the two long calls are worth $2,000 between them and the $140 call expires worthless, exactly repaying the debit. At or below $120 all three contracts expire worthless and the whole $2,000 is lost, which is the maximum loss. Above $140 the short call starts to work against the position, but one long call remains uncovered, so the position keeps gaining about $100 for every $1 the stock rises.
Using tools such as Vertical Options Spread or Long Guts Option Strategies provided by MarketXLS can help investors to quickly calculate the potential reward and risk for their option trades, prior to making investments
MarketXLS is a great resource for traders and investors. It provides tools such as options analytics to help them in picking the right option strategies based on the risk profile and their outlook. Tools like Probability of Profit, StopLoss and Screener are great ways to not only analyze the markets and stocks, but develop trade plans and get an edge on the other traders in the market. By analyzing options data live, it is easier than ever to stay on top of the market and make wise decisions on options trading opportunities.
Here are some templates that you can use to create your own models
Short Gut
Long Gut
Long Albatross Spread
Short Albatross Spread
Risk Reversal Option Strategy
Married Put
Long Strangle Option Strategy
Long Put Ladder
Short Put Ladder
Strike Arbitrage
Short Butterfly Spread
STOCK REPLACEMENT
Iron Albatross Spread
Covered Call Option Strategy
Strap Strangle
Strip Strangle
Covered Put
Covered Put
Search for all Templates here: https://marketxls.com/templates/
Relevant blogs that you can read to learn more about the topic
Synthetic Short Straddle With Puts Option Strategy
Short Guts & Long Guts Option Strategy
Long Calendar Spread Using Puts Option Strategy
Long Call Option Strategy (Explained With Excel Template)
Option Strategy- Long Calendar Spread (Excel Template)