Strategy Idea - Selling 1 Year Put (Simplicity)

As I've been constantly trying to explore income strategies, recently this selling 1 year put came to my attention and it drew my curiosity to find out more in terms of the numbers. So I did some testing on the possible numbers and will put them down here.

Mechanics

Simply Sell 1 Put 365 DTE

As we might not get the exact 365 DTE, let's just leave it to 300-400 DTE.
Delta varies, I will cover that below in the numbers for better clarity.

Risk Reward Ratio

What I did was that I jotted down the margin requirement and credit received of various delta at 365 DTE using a portfolio margin account and a regT account. This is to find out at which delta it gives a better risk reward ratio.

This is done on SPY based on today's (15 Dec 2021) options contract price for reference. SPY is $463 at the time of this post.

Above is the return on margin sample data on various delta strikes.

Note that this tested on my 2 accounts, I'm based in Singapore and using Interactive Broker. Margins can vary from different brokers and different countries. So it's better to check your own broker to have a more accurate perspective to your own available margin.

The main focus on the 2 tables is the return percent. That is essentially the annual return on capital (margin) if this trade expires. Meaning SPY does not go below the $400 strike. Do also note that because you collected $2,169 credit, the actual break even price is actually $388.31, meaning if SPY goes down to $388.31 after 1 year, you break even.

Keep in mind that today's SPY price is $463, going to $388 is about an 18% down move after a year. Given statistically SPY moves up on average yearly of about 10-15%. It's not impossible but we could agree the chance is pretty low.

Notional Risk

Ok, yes the return percent does look very attractive but lets not forget about notional risk. In layman's terms, it's calculated by assuming if SPY goes to zero. Yes we know it's probably near impossible but we need to be aware of this to know exactly how much risk we are actually exposed to. When you compare different strategies, notional risk also acts as a reference to compare risk.

In this case, selling 1 put at $400 strike for example. We are talking about $40,000 notional risk. This amount also says how much are you leveraging your account.

Say you have a $100,000 account, selling 1 put at $400 strike itself you're at 0.4x leverage. Keep this whole notional risk in mind in all the strategies you test and compare.

What's next?

I think the key take away is simplicity sometimes does deliver. But above is just a simple test to understand simply selling a 1 year put below the current price can already beat the market.

Even if SPY drops by 10-20% after a year, your trade is actually up by 20-35% depending on which delta you picked. Doesn't that sounds ridiculously stupid and simple?

Ok, don't get too excited yet. There are other risks involved in some specific scenarios. Like if the moment you put on that trade, SPY dropped 10-20% within the next 1-2 months. That will cause your margin requirement to explode.

So to deal with that, there can be other mechanics put in place to smoothen out the risk rather than putting all your assets at risk upfront.

I'll not go into that yet because I'm still tweaking the mechanics. Just leaving it here for now for you to think about it.

If you have something to share or you find what I shared above not accurate, please feel free to discuss with me, be it on Twitter, Reddit or email me.

Meanwhile if you're into this topic, subscribe and wait for my update on this strategy with more mechanics.