We sell Options contracts for a premium up front when we open positions every month. Options contracts are only valuable at expiration if the position finishes in-the-money (ITM). The seller, or Writer of the Options contract, has to pay the buyer, or the Holder of the Options contract, what the contract is worth at the end of the cycle. If the position finishes out-of-the-money (OTM), the contract is worthless to the Holder and the Writer keeps the premium received when the contract was sold.
Our Iron Condor strategy requires an exit earlier than what was provided in the contract. We wait patiently in order to let time decay eat at the value of the contracts until such time as our profit goal has been met. When we see an opportunity to exit, we submit an order to Buy back the Iron Condor to close out the position and lock in our profits.
Let's lay out the groundwork for our calculations starting with our sample Closing Iron Condor trade used in our tutorial.
Sample Iron Condor Trade
We will be submitting the following opening day order(s):The following is an Iron Condor for the RUT.
Buy RUT Dec 11 810 Call
Sell RUT Dec 11 800 Call
Sell RUT Dec 11 650 Put
Buy RUT Dec 11 640 Put
Sell/Credit Limit of $0.85
Expires on Dec 16, 2011
Calculating Your Return
There are two basic calculations one can perform to figure out our trade returns in dollars and percentage. Let's run through them now.
Dollar Amount CalculationsThe Iron Condor spread above sold for $3.75 per share ($375.00 per contract). If we sold 10 (ten) contracts, the resulting net credit was $3,750.00. When we bought the position back for $2.50 per share ($250.00 per contract / $2,500.00 @ 10 (ten) contracts) in order to take risk off the table and lock in profits, we made $1,250.00 for the trade.
Percentage CalculationsCalculating your percentage returns is just as easy, but first, we have to break out the Margin Requirement for this trade.
The Margin Requirement - Trading an account with a broker specializing in Options Trading, the Margin Requirement held as collateral for the trade above would be $6,250.00. The Margin Requirement is trading capital held aside by the broker specifically as collateral for an opened trade and is inaccessible to the account owner until the trade for which it was held has been either closed down or expired. How Margin Requirement is calculated by a preferred broker is by taking the total price of the spread minus the total credit received for selling the position to open up the trade.
Performing the Calculation - The total price of the trade above was $10,000.00 (with 10 contracts). Subtracting the total credit of $3.750.00 we received when we sold the position to open from that $10,000.00 will give you the result of $6,250.00. All you would have to do to calculate the percentage return at this point is to take the total profit amount of $1,250.00 after we closed down the trade and divide it by the margin requirement of $6,250.00 that was held as collateral. The percentage return as a result of that calculation is 20%.