Trade Recap: First Short Put - Part 1

I've been watching a lot of tastytrade and I thought I'd try out a little of my newfound knowledge in action. The guys over there are always talking about limiting profits to improve profitability, which means selling instead of buying options and using probabilities. I decided to use SPY (SPDR S&P 500 ETF) as my underlying for 4 reasons:

1. It tracks an index so I don't have to worry about individual earnings or dividends - it moves with the market
2. Although the%  margin requirement is higher, it's about 10x cheaper to enter a position than using SPX (the actual S&P 500 index)
3. It trades above $100. It's actually closer to $200. This is important since commissions are high enough to set a minimum on the options I can trade. If the price is too low, then all my potential profits are going towards commissions.
4. It has high volume which means high liquidity - the bid-ask spreads aren't atrocious here compared to other choices.

Using their advice I looked at a Strangle with strikes at one standard deviation (SD). I entered the trade on September 18th when SPY was trading at $196.74 with an IV (implied volatility) of 19.45% on the October monthlies (October 16th expiration). I know the recommended DTE (days to expiration) is 45, but I November monthlies were too far out at that point. The strikes would be at $187 and $207 to be roughly one SD.

Looking at the bids, the Put would get me around $1.21 while the Call would give me $0.24. This worried me as entering a Strangle with those credits would give me a ~68.2% chance of max profit while having a 74.6% of any profit. Knowing that the Call side premium wasn't really high, I did the same calculation for just the Put. A short Put at $187 would have an 83.5% chance of max profit and am 86.3% chance of any profit. So by reducing my max profits by 15.4% ($1.43 to $1.21) I increased my chance of max profit by 15.3% and chance of any profit by 11.7%. Since I liked those odds, that's what I did.

To recap the trade I sold to open (STO):

• Trade date: Septeber 18, 2015
• SPY at $196.74
• DTE: 25
• October 16, 2015 monthly IV: 19.45%
• Trade: STO 1 October 16 SPY Put @ 1.30 (I ended up getting more than the number I used in my calculations)

Keep in mind that this is a naked position. If things go badly, my losses are only limited by the underlying's price. This did bother me which is why I only sold 1 contract (and the fact that you should always start off slowly when still learning). But I figured that I had done the math (although a Normal distribution of stock returns is not exact) and doing an Iron Condor or Bull Credit Spread (a.k.a. Put Credit Spread) would garner no profits (because of the comission). Next time I'll cover the rest of the trade to close (hint: this is posted before October 16th....)