9. Credit Spreads in Distant Expiration Months

What's a trader's single most difficult task? I believe it's forecasting market direction. When should you go with the trend and when should you expect the market to reverse course? Clearly, no one can correctly answer that question with any consistency because markets are unpredictable by nature.

So the logical question to ask is if there's a way to trade that doesn't require guessing if the market is going to rally or decline. Delta neutral volatility trading is one way. Forecasting implied volatility is the focus of that approach.

There's also the technique of using statistical volatility when placing non-directional trades. My book, Trading Options Visually, discusses using credit call and credit put spreads (condors and butterfly positions) close to expiration date. This approach focuses on the magnitude of market moves in the short term.

Here's an interesting variation for markets using options farther from expiration date, and like the short term method, it's a mechanical way of trading with limited risk and positive time decay. It's suitable for volatile markets where the underlying futures contract is large in dollar value (i.e. S&P, US Bonds, and Japanese Yen).

Credit spreads close to expiration perform best when the futures are nonvolatile. By contrast, credit spreads farther from expiration in volatile markets allow a trader to realize profits on the credit call spread component after the market declines (or on the credit put spread after the market rallies). So a trader can "play the swings" in the market. The more the market chops back and forth, the better. Each time he closes a credit spread, he establishes a pair of new credit spreads in anticipation of further action.

"Knowledge is power and all traders can benefit by continually bolstering their knowledge base. I hope to contribute in that regard."  Paul Forchione