The DEPOT and Out of the Money options
I have been an In the Money option guy for years but recently I started looking at Out of the Money options in a different way. Lets say I was going to do a crazy thing and trade MA to the downside. That would require that I buy a Put option. If i were to follow the DEPOT method I would be looking for an option with a Delta somewhere between -.70 and -.85. This is typically known as the sweet spot. As I write this blog, one potential option is the MALMW (Jan 260 Put) for $16.60 X $17.00. The option has a delta of -.72 which works out nicely. The only problem is that the spread is $.40. This is a touch too high. Of course you could shave the spread to $.30 but that may even be a touch too high. But what if I took a look at the MALMU (Jan 240 Put) 5.50 X 5.60. This option is OTM since MA is currently trading for $245.80. You might say "I can't trade that, the delta is not between -.70 and -.85, that would be breaking the rules." I appreciate your discipline, but what if you bought two of these options. By doubling the number of contracts you are purchasing, you are essentially doubling the delta strength. For example, if I purchased one contract of the option with a -.72 delta I would expect that for every $1.00 the MA stock dropped, my put option would increase in value by $.72. If I chose instead to purchase two contracts of the -.32 delta option, I would expect to make $.72 for every $1.00 MA drops. It is the same. Here is the cool thing, If I purchase two contacts of the -.32 delta option is will cost me a total of $11.20 if my numbers are correct. That means I will be saving $5.80 per contact. and the spread when added together will be $.20 instead of $.40. It does not always work out that nicely but it may be worth doing some comparison shopping when you are hunting for options.
