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I did some learning on the PMCC strategy and thinking to implement it on SPY.

As the reading materials urged I have been trying to make sure the initial set up long ITM LEAP at around 0.8 delta, and selling monthly OTM calls. By looking at the numbers on paper, I realised it is hard to have a set up where in case a huge rally and my shot calls got assigned and I can come up net positive. So I'm stuck not knowing how should I select the long and short legs? or SPY isnt the right choice to begin with.

For example, SPY currently trading at $474.14 (red day yesterday), the 2025/Jan/17 LEAP strike at $370 has a delta of 0.93, ask price is $122.86. If I purchase this, then the monthly call I can sell, for example, 2024/Feb/23 strike $490, has a bid price of $2.1. In this set up, if SPY goes beyond $490 tmr, I have to close the position = $490-$370-$122.86+$2.1 ~ -$0.76, so I set out to be $76 in the red.

Moving the short call higher than $490 will diminish the premium received by a lot, while moving the LEAP strike less than $370 doesnt help too much as it inflates the debit I need to pay.

How should I properly set this up? or I should buy the LEAP on a red day, wait for a green day to sell the monthly call?

2 Answers 2

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You're not considering what the higher SPY price would do to the value of your long call (delta).

There are plenty of good videos/websites that explain the greeks, I like the wording that Merrill Edge uses for Delta:

Delta is the theoretical estimate of how much an option's value may change given a $1 move up or down in the underlying security.

That's why a deep ITM long call is used for the poor-man's covered call (I typically see ~70-80 delta suggested). Your long call will, in theory, increase in value by 0.93 if SPY increases by $1. The higher SPY goes the deeper ITM your long call goes, which means even higher delta.

I'd suggest reading a bit more about the downsides of strategies that involve LEAPS, and finding some additional resources to learn more about the poor man's covered call and options in general before diving in.

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  • you are correct on not considering the LEAP price increase. I guess my primary concern is to find the ITM call long leg and the OTM call short leg, so that if I have to close them next day due to huge up rise of SPY, I will net positive. The width of the strike - debit paid has to be positive, otherwise no matter how delta changes, if I get assigned, I will still lose. Isnt it or am I misunderstanding?
    – ML33M
    Jan 17 at 6:47
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    @ML33M It can't go up too fast, that's why I gave the example of it going up immediately after buying. If your long call is worth $1400 more than when you bought it why do you think you'd be losing money on the trade? The short call will increase in value at a lower rate than the long call, so you profit on the upside. These calculators have flaws but can be helpful in wrapping your head around the concepts: opcalc.com/WkP I'm not suggesting that trade, just using to illustrate. Looking at the P/L graph of each leg individually might be helpful.
    – Hart CO
    Jan 18 at 0:55
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    This is a diagonal spread. It has a long delta so if the underlying rises, it gains in value. Somewhere above the short strike (depends on the time remaining until expiration, the underlying's price and the amount of time premium received for the short leg), the short call's delta will approach 100). At that point, the spread loses profits and the end result is parity, which in your example is -$76. In reality, this is highly unlikely because the SPY doesn't make such a move in a short period of time. See a graph of a diagonal spread. Jan 20 at 19:01
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    It's theoretically possible to lose to the upside but it's so not likely. Another factor to consider is that deep ITM options have wide bid/ask spreads and that can increase your loss if you have to get out at the wrong moment. Implied volatility can also affect profit before expiration but given that the SPY's IV is circa 10, not much of a factor. Given that this is a long delta bullish position, the potential problem is a drop. First, your spread will incur losses. Jan 21 at 18:17
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    Furthermore, you'll have to either buy and hope for a SPY recovery or in order to capture more short premium, you'll have to write a lower strike which may lock in a loss. Jan 21 at 18:18
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In order for this spread to be risk free, it's cost must not exceed the difference in strikes which in your case is -$76. You can shift it to positive by buying a call LEAP one strike higher ($375) or selling a $490 call whose expiration is one week later.

In reality, if you are assigned on the short called (above $490), your LEAP will have appreciated. In addition, if SPY approaches $490, you might consider rolling that short strike up and out for breakeven or a credit, increasing the profit potential (credit plus wider striker width).

You have to be careful if you are dealing with a broker like Robinhood because they'll arbitrarily exercise ITM options before 4 PM on expiration day. If you don't have the funds or margin to cover the assignment, they'll exercise the long leg and poof, your profit is gone.

It's imperative to have some good modeling software when trading complex option positions.

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  • I'm on IBKR, relocated back to Australia so that is kind of a blessing. Also a curse it is very backward here. May I ask what modeling software you are using? I feel the one @HartCO showed with his example is great, especially when it comes to the long leg valuation at different time and stock price, I wont know these prices otherwise.
    – ML33M
    Jan 21 at 7:22
  • I've been on IBKR (USA) for nearly 25 years and for trading speed, it's among the best. The platform has really evolved since I started with it. I used some proprietary software when I traded heavily but I don't use it much anymore because after utilizing options for 30+ years, I can visualize much of it. In addition, now, I mostly use options for hedging my portfolio since I don't want the risk at my age. Jan 21 at 18:08
  • sorry by backward I mean the Australia trading scene, most people have no clue on options, and forex is the main thing. So little trading platform options here, the major banks charges like $25 flat for buy/sell. I do find IBKR the best there is, while giving me access to most things. Congratulations on 30+ years, I wish I can be like you and I totally get the risk adverse bit. May I ask about how you learn/what you read to manage your portfolio? I have a small account and been lucky to grow it from 20K to 40+K in 2 years, but now I'm stuck at how portfolio and risk management.
    – ML33M
    Jan 21 at 23:56
  • like when I start small, it is easy to have good return, as all I have are stocks and options, all I need is for a few plays to work. Now as it grew, I need to learn how to construct a portfolio and manage it, unless I "diversity" it so much as it became an SPY ETF.
    – ML33M
    Jan 21 at 23:58
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    I learned how to do this by reading. Back in the day there were some really good option BBs that I participated in - former option brokers, market makers, etc. who helped those climbing the ladder. Today, Reddit has a lot of option discussions but it's low level. Check out Elite Trader, though I no longer know its level of participation and usefulness. Jan 22 at 1:25

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