What are the characteristics of this option strategy?
Jade lizard trades combine a short (credit) call spread with a short out of the money put, opened for a net credit. The strategy uses both calls and puts on the same underlying and expiration. This strategy profits when the underlying security holds its position or rallies. The upside is capped by the short call spread, but the short put is uncovered, so the downside is not limited: below the put strike the position loses dollar for dollar with the stock, down to a worst case of the put strike less the credit received.
Is this a bullish, bearish or neutral strategy?
The Jade Lizard is a mildly bullish strategy. It profits from a rally in the underlying security, and it also keeps the full credit if the stock simply holds a range between the short put strike and the short call strike, which is why it is sometimes described as neutral to bullish. It is not a way to express a bearish view. The short put is uncovered, so any decline past the put strike costs money dollar for dollar with the shares, and a large drop produces a loss many times the credit collected.
Is this a beginner or an advanced option strategy?
The Jade Lizard strategy is usually classified as an advanced option strategy. It is not recommended for beginner traders as the strategy requires knowledge of different types of options and a good understanding of the workings of the options markets.
In what situation will I use this strategy?
The Jade Lizard strategy is typically used when traders expect the underlying security to hold its position or move moderately higher, and are willing to own the shares at the short put strike. Downside exposure is not limited. Below the put strike the position loses dollar for dollar with the stock, so the trade should only be sized to a share count the trader is prepared to be assigned.
Where does this strategy typically fall in the range of risk-reward and probability of profit?
The Jade Lizard strategy will typically fall into the middle range in both risk-reward and probability of profit. Depending on the configuration of the strategy, there can be a higher risk-reward ratio or a higher probability of profit. The strategy has moderate reward prospects and a relatively high probability of profit, but it does not have a low risk profile: the short put is uncovered, so the loss below the put strike grows all the way down to a zero share price.
How is this strategy affected by the greeks?
The Jade Lizard strategy is affected by the various greek measures in options. In particular, delta and vega will have a significant impact on the performance of the strategy. The delta of the strategy measures the exposure to directional movements in the underlying asset, while the vega of the strategy measures the exposure of the position to changes in volatility.
In what volatility regime (i.e VIX level) would this strategy be optimal?
The Jade Lizard strategy can be used in a variety of volatility environments, but it would typically be most optimal when the VIX is between 10-15. When the VIX is at this level, the options will have enough premium to set up the desired spread and meet the desired reward or risk profile. When the VIX is higher, the options could become too expensive and reduce the risk-reward ratio of the strategy. When the VIX is lower, there may be an opportunity for a higher risk-reward ratio, but at the cost of reduced probability of profit.
How do I adjust this strategy when the trade goes against me? And how easy or difficult is this strategy to adjust?
If the trade goes against the desired direction, then there are several adjustments that can be made to the Jade Lizard strategy. The usual adjustment is to roll the short put down and out, to a lower strike in a later expiration, which moves the assignment level further away and can often be done for a further credit. A trader who wants to cap the downside outright can buy a put below the short put, turning that leg into a put spread, which costs part of the premium but ends the open ended exposure. Rolling is straightforward while the stock is still near the put strike; once the put is deep in the money the roll becomes expensive and closing the trade for a loss is often the better decision.
Where does this strategy typically fall in the range of commissions and fees?
The Jade Lizard strategy typically requires trading multiple options contracts and could result in a higher range of commissions and fees. It is important to factor in commissions and fees when planning a trade and always do the calculations in advance. Depending on the size of the trade and the broker, the commissions and fees could be higher than average.
Is this a good option income strategy?
The Jade Lizard strategy can be used as an option income strategy, but it is not a limited risk one. The short put is uncovered, so a sharp decline can cost far more than the credit collected, and the position carries the same downside as owning the stock from the put strike down. Traders using it for income should size it to shares they are willing to hold and should expect occasional losses that dwarf a month of credits.
How do I know when to exit this strategy?
The ideal exit for the Jade Lizard strategy is when either the long option spreads or short option spreads reach its maximum profit or maximum loss. It should be noted that this strategy will typically not generate large profits within a short period of time, so the decision to exit should be made when the desired reward to risk ratio has been achieved. The one exit that should not wait is a break below the short put strike, where the position needs to be rolled, hedged or closed before the loss compounds.
How will market makers respond to this trade being opened?
The market makers will typically respond to the Jade Lizard strategy by adjusting the bid/ask spread to protect their interest in the trade. For example, if the spread is placed in a tight range, then they may adjust the spreads to wider ranges to protect their position.
What is an example (with calculations) of this strategy?
Here is a simple example of the Jade Lizard strategy. Assuming the stock is trading at $275, a trader can sell one out of the money call option at the strike price of $280, and then purchase one out of the money call option at the strike price of $285. At the same time, the trader can sell one out of the money put option at the strike price of $270. The net credit of these trades is $457, and the maximum profit of $457 is kept when the stock finishes between $270 and $280, where every option expires worthless. Above $285 the loss is capped at $43 (the $500 call spread width minus the $457 credit), and the lower breakeven is $265.43, below which losses grow dollar for dollar with the stock. So the maximum reward is $457, the maximum loss on the upside is $43, and the downside loss is open ended: at a share price of $200 the loss is $6,543 per contract, and a fall to zero would cost $26,543 per contract ($27,000 of assigned stock less the $457 credit).
MarketXLS
MarketXLS is a powerful tool for options traders and can make the process of creating and adjusting the Jade Lizard strategy much easier. MarketXLS offers traders a suite of options analysis tools that can help them find the best strike price, assess risk, backtest strategies, and analyze options volatility. Combined with its stock analysis tools and portfolio tracking capabilities, MarketXLS can help traders maximize their returns and reduce the risk associated with trading options.
Here are some templates that you can use to create your own models
Search for all Templates here: https://marketxls.com/templates/