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Trading options for income: Strangle vs. wide iron condor

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In our quest to understand trading options for income, we often consider using wide Iron Condors (ICs) rather than Strangles. Why? Because the IC requires far less margin (or buying power reduction) than the Strangle allowing smaller accounts to trade the SPX (S&P 500 index).

A short Strangle is an undefined risk option strategy in which an OTM (out of the money) Call option is sold while concurrently selling an OTM Put option, resulting in premium received. The max gain is the premium; the max loss cannot be determined which is why this is called an undefined risk trade. A one lot Strangle requires just 2 options to be sold (1 option per leg).

A short Iron Condor (IC) is a defined risk option strategy composed of the following: an OTM (out of the money) Put credit spread and an OTM Call credit spread, both within the same option chain. A credit spread is a vertical option strategy composed of a short OTM option plus a long further OTM option. The capital at risk is the difference between the short and long strikes less the premium received. A one lot IC requires 4 options (2 options per leg).

To determine the viability of a wide IC as a substitute for the Strangle, Tasty Trade conducted a test using two years of SPX data to compare the two. The criteria for the test: enter positions at the beginning of each month with 45 DTE (days till expiration); a short Strangle was placed at 90% OTM; three ICs were placed (one with 5 point wide spreads at 80% OTM; one with 10 point wide spreads at 90% OTM; and one with 20 point wide spreads at 90%); and all positions were held to expiration.

The results: the Strangle (as expected) had the highest P&L ($17,349) and highest margin requirement ($20,500); second highest P&L was the 20 point IC ($5,066) and margin requirement ($1,750); third highest P&L the 10 point IC ($2,656) and margin requirement ($850); and the last with a loss, the 5 point IC (-$1,228) and margin requirement ($345).

In conclusion, while the Strangle had the highest P&L, its ROC (return on capital) was 84.6% ($17,349 / $20,500), whereas, the ROC for the ICs: 289.4% ($5,066 / $1,750) for the 20 point; and 312.5% ($2,656 / $850) for the 10 point. Using the equivalent capital at risk as the Strangle, each IC would return far higher P&Ls: $60,792 for the 20 point; $64,056 for the 10 point.

Therefore, the wide ICs (both 20 and 10 point) offered a more efficient use of capital resulting in higher potential P&Ls.

If you would like to learn more about options, and how to generate consistent weekly income trading options, go to Options Annex.



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