Last month, my strategies for a sideways market hoped to ride the gentle and unobtrusive wings of an options "butterfly" position on the belief that the market would be fluttering harmlessly around this spring.
That article's suggested strategy of the long June 35/36/37 butterfly (buying one $35 call, selling two $36 calls, and buying one $37 call in the Nasdaq 100 Trust ( QQQ)) is doing just fine; the QQQs closed Wednesday at $36.20, a mere 40 cents lower, which is much closer to the maximum profit point than when it was "initiated" three weeks earlier. Butterflies are often referred to as "vacation positions" because they are a fairly benign way to participate in the market; the position has limited risk/limited reward and requires little or no adjustments during the holding period. The idea is that you establish it, forget about it and hope that you come back on expiration day to find the prices of the underlying stocks trading at the same level you left them. But recently, some incredible percentage moves in individual issues and the building tension over interest rates suggests this range-bound trade (or consolidation period) can't last forever. So this week I'll shift my focus to the ratio back-spread strategy. It's a position that still enjoys a relatively low and limited risk, but offers unlimited profit potential from the movement in the underlying security's price and an increase in the implied volatility of its options. And it's one of the most powerful options positions you can establish when anticipating a significant price move. The ratio back spread consists of selling an at-the-money option while simultaneously buying out-of-the-money options on a ratio basis. The idea is to buy the greatest amount possible of OTM options for the price of the ATM options sold, creating a position with the highest long/short ratio for as little money as possible.