The ratio calendar spread is a strategy that can be quite profitable, especially when the market remains sideways or experiences small fluctuations. Unlike other commonly discussed strategies, the ratio calendar spread is not widely known or discussed on the internet. However, it has the potential to generate significant profits.
Now, let’s dive into the ratio calendar spread strategy in detail. This strategy allows you to make money even in sideways markets or when there are slight up and down movements. Moreover, if you want to maximize your profits, the ratio calendar spread can be an excellent choice.
Before diving into the strategy, let’s clarify the progression of learning strategies. Typically, traders start with learning about the iron condor strategy and then move on to the iron fly strategy. After mastering these strategies, they can explore the balanced calendar spread.
The balanced calendar spread strategy is particularly useful when the market is expected to remain range-bound for a certain period. In this strategy, the center part of the spread will not be in the red zone, as we take some initial credit. This credit provides potential profits if the market remains sideways. Additionally, any extra profits from the outer side of the balanced calendar spread will be included in the overall earnings.
It’s important to note that this strategy is referred to as a ratio or credit calendar spread because we don’t enter it as a debit position. However, you can also call it a credit calendar spread if you prefer. The key aspect of this strategy is that we aim to balance both the calendar spread and the additional profits from adjustments.
Let’s discuss the concept of the ratio calendar spread (RCS). In a typical calendar spread, we sell an option with a near-term expiration date and buy an option with a longer-term expiration date. However, in the RCS, the term “ratio” comes into play.
In options trading, the term “ratio” refers to the proportion of the number of contracts involved in each leg of the spread. For example, you may execute a call ratio spread where you buy one at-the-money call option and sell three or four out-of-the-money call options. This is an example of using a ratio to create a spread.
In the case of the calendar spread, we incorporate the concept of ratio. The purpose behind this strategy is to combine the benefits of both option selling and option buying. We aim to profit from higher volatility while protecting ourselves if volatility spikes further. Additionally, we seek to take advantage of volatility decreases.
Unlike the bi-weekly deployment in our previous strategies, the RCS is designed to be implemented on a weekly basis. Ideally, you would create this trade on Thursday or Friday to maximize the decay of time value. Thursday before 3:30 pm is a common time to deploy this strategy. By closing your previous trade around 2:45 pm on Thursday, you can seamlessly transition to the new trade. It should take only a few minutes to deploy initially, and with practice, it can be executed in just one minute.
Remember, deploying the RCS is not a complex task, but it requires practice and familiarity with the strategy. The fixed time frame for deployment on Thursday or Friday ensures consistency. Exit your old trade around 2:45 pm and deploy the new one anytime between 2:45 pm and 3:25 pm.
The deployment time and day for the ratio calendar spread strategy are crucial considerations. It is recommended to deploy the strategy on Thursdays or Fridays because we need a time frame of 4-5 days until the following Thursday for adjustments. This allows us sufficient time to manage and make necessary adjustments to the position. The deployment on these days ensures we have the required time until the next expiry.
However, if someone chooses to deploy the strategy on a different day, such as Tuesday, it is acceptable. The key is to maintain the cycle from one expiry to the next. The strategy revolves around the cycle, and in the case of the ratio calendar spread, there will be four trades within that cycle compared to the two trades in the bi-weekly strategy.
Now let’s discuss what to sell in this strategy. The selection is closely related to the VIX (Volatility Index). As mentioned before, the focus should be on the VIX level. If the VIX is around 10, 13, or 14, you can sell the premium anywhere between Rs. 22 to Rs. 25 at any strike price.
For VIX levels between 14 to 18, you can sell the premium between Rs. 28 to Rs. 32. If the VIX is above 18 and up to 22, you can sell the premium between Rs. 32 to Rs. 38, and it can even go higher, up to Rs. 40 or Rs. 45, depending on the specific conditions and volatility.
Keep in mind that certain stocks may have exceptionally high premiums in the 20 to 22 VIX range, but generally, you can expect premiums around Rs. 35 to Rs. 38.
Selecting the appropriate premium to sell is crucial to the success of the strategy. The VIX level serves as a guideline for determining the premium range at different strike prices. By aligning the premium selection with the VIX, you can optimize your potential profits in the ratio calendar spread strategy.
If we analyze the current scenario and determine that the appropriate premium to sell is around Rs. 25, we can proceed with the ratio calendar spread strategy. In a credit ratio spread, we sell more contracts than we buy. In this case, we will sell two contracts and buy one contract. This creates a ratio and allows us to generate credit. To calculate the credit, we multiply the premium (Rs. 25) by the number of contracts sold (two). This gives us a total credit of Rs. 50. To maintain the strategy as a credit spread, the hedges (buying of contracts) should be done within this credit amount. Therefore, we aim to buy one contract for Rs. 50 or less.
To better visualize and execute this strategy, let’s use the OPSTRA platform. Here, we can create a demo ratio calendar spread. Considering the current market conditions, let’s select the expiration date of the 15th. As the VIX is around 11-12, we can choose strike prices such as 25, 26, or 27.
In OPSTRA, we can directly input these details. Remember, we don’t need to sell 36 lots (contracts). We only need to sell 1-2 contracts, which mean a total of 72 lots. Similarly, on the call side, we can sell another set of contracts.
For the buying decision, we need to consider the premium amounts. For example, we sold contracts at Rs. 28 and Rs. 23. Since we sold double the contracts at Rs. 28, we received Rs. 56 in total. Therefore, we can allocate a budget of Rs. 56 for buying contracts. In this case, we will buy 36 lots, so we need to allocate just below Rs. 56 for each contract.
We repeat this process for the call side, considering the premiums received from selling contracts and allocating a budget below those amounts for buying contract. By following this approach, we aim to achieve balance in the trade, ensuring that the middle area of the strategy remains in the green zone. This provides a better return and enhances the overall strategy.
Once the strategy is deployed, you can observe the chart on OPSTRA. In comparison to the previous chart, you will notice a relatively simpler structure with a slight bend. The credit received in the middle is Rs. 76,000, while the edges amount to Rs. 92.
Active adjustment is crucial in the ratio calendar spread strategy. While it may still work passively without adjustments, it is important to actively make adjustments when necessary. If the chart indicates a need for adjustment, it should not be ignored, especially in volatile market conditions.
For example, if the market opens with a 300-point gap and your losses exceed 1%, it is imperative to make the adjustment. Ignoring such situations can be risky. However, with a balanced calendar spread, adjustments are not as critical. Let’s say the market opens with a 300-point gap, resulting in a Rs. 80,000 loss. With a balanced calendar spread, the adjustments may not be as necessary. However, in the ratio calendar spread, adjustments become essential in such scenarios.
If you are winning 7 out of 10 times and earning Rs. 2 lakh in profits, you have a capital of Rs. 51 lakh. In this case, if you incur a loss, such as the 1.2% mentioned, it is advisable to cut the trade immediately. It’s important not to unnecessarily fight against unfavorable market movements. By cutting the trade based on the specified stop loss, you can minimize potential losses and focus on the next trade to generate profits.
The benefit of this approach is that you do not have to engage in unnecessary battles. With a stop loss of 1.2%, you can maintain discipline and cut the trade accordingly. The aim is to capitalize on the daily theta and earn profits, rather than getting trapped in adverse market conditions.
Being credit-heavy in the ratio calendar spread means you have a significant daily theta of Rs. 32,000. To gain this amount daily is substantial. Furthermore, with a 70% profit potential on your capital on a daily basis, the strategy holds significant profit opportunities.
The key is to capitalize on theta and ensure that the benefits of time decay are not diminished. It is crucial to adjust the strategy when necessary to maintain the desired credit and manage risks effectively.
Remember that this strategy operates on a weekly-to-weekly basis, and there is no need to wait for bi-weekly adjustments. In the beginning, the strategy may face challenges, but if you persevere, it can lead to profitable outcomes. Analyzing the chart can provide insights, especially when cones are larger towards the end. By diligently following the strategy, you can increase the likelihood of success, even if there are initial setbacks.
To increase your chances of success in the ratio calendar spread strategy, deploy the trade in the week following a significant move of more than 3%. By doing so, you can potentially avoid losses and capitalize on a period of relative market stability.
Suppose you experience a loss in a particular week. Instead of persisting with the trade, close it and enter the next week. This approach allows you to benefit from the subsequent quieter period, where you have a higher probability of earning profits. The goal is to ignore the immediate move and focus on the next opportunity.
By implementing this tip, you can improve your performance and achieve higher returns. If you encounter losses in one week but earn a larger profit in the following week, the overall outcome is favorable. The ratio calendar spread strategy typically yields three winning weeks and one losing week, and the cumulative returns can be significant.
When using this tip, it is recommended to have a solid foundation in the balanced calendar spread strategy. After gaining experience and generating profits over a period of six months or so, you can gradually transition to the ratio calendar spread strategy. This approach allows you to manage the risk and bear the potential fluctuations associated with the strategy.
With effective risk management, including the use of a stop loss at 1.2%, you can mitigate losses and focus on consistent profits. While there may be instances of larger gaps in the market, the purchased calendar spreads act as a hedge, reducing potential losses.
Overall, by employing the ratio calendar spread strategy you have the potential to generate substantial returns, earning around 5-6% per month on your capital. This approach can offer significant cash flow and an annual return of approximately 65%, while maintaining a disciplined approach to stop loss management.