Condor Options

(Note: The following is adapted from a two-part series on managing volatility risk, originally published on the Calendar Options members blog. Calendar Options subscribers have access to the full version, as well as Part II, “Putting the Double-Diagonal to Work”.)

Much like an iron condor combines two directional trades into a neutral one, a double-diagonal marries a bull put diagonal and a bear call diagonal to form a hybrid between an iron condor and a calendar spread. To a condor trader, it’s an iron condor with the long strikes at a later expiration; to a calendar trader, it’s a double-calendar with the back-month options farther out of the money. The result looks a lot like a double-calendar, only with a fraction of the vega risk.

Let’s compare the two:

The SPY double-calendar above is positioned to be direction-neutral—IV is skewed toward the puts, so we chose a lower strike that’s farther out of the money than the upper strike in order to reduce the initial delta. The risk graph below shows a double-diagonal with the same short strikes, but with the long strikes $5 farther out of the money. The position sizes (total capital at risk) are equivalent.

The profit/loss curves are a little different at expiration, but that difference doesn’t really come into play until the last week or so. For the most part, the characteristics of the two positions are nearly identical. But there’s one big difference that the graph doesn’t show: the difference in vega between the two positions. In the table below the graph, we see that the vega of the calendar spread is in the 130 range—which means we lose about $130 (2.77%) for every one-point drop in implied volatility. The double-diagonal, on the other hand, has a vega of less than 30, so we’re down only about $30, or 0.64%, for every point lost in IV.

So what does this have to do with Calendar Options? With implied volatility at historic highs, there are months when we’re hard-pressed to find a straight calendar spread or double-calendar that meets our risk/reward criteria for a Calendar Options position (let alone two or three). By adding the double-diagonal to our toolbox, we now have a way to trade the time dimension even when IV isn’t where we’d like it to be.