Following yesterday’s introduction, this is a Delta Neutral setup using TLT and TBT to create a safe, albeit muted revenue stream. The setup requires selling calls to generate premium income, so positions are required to be in 100 share lots. In addition, we’ll collect dividends on the TLT side of the trade. The positions and sizing look like this:
Buy 100 TLT @ $104, Sell Jan Call @ 5.10, 6 month dividend = .62
Buy 200 TBT @ $27, Sell Jan Call @ 1.69, no dividend
A 1 lot position cost is 104+ 27×2 = 158 x100 = $15,800.
Projected return is 5.10 + .62 + 1.69×2 = $ 9.10 x 100 = $ 910.
APR return is approx. 910/15800 = .057 x 200 = %11.4
Note that although TBT is the ultra inverse of TLT we must hold a double position in TBT to maintain daily cash equivalency. We re-up the setup every 6 months in lieu of leap positions in order to increase option premium decay.
So what can wrong with this scenario? Risk #1 is that the calls will be exercised in either TLT or TBT, leaving the position unbalanced. Risk #1 is a real likelihood given the range of the markets and we counter this factor by simply re-establishing our called position on the day of the exercise, thus preserving our dividend return and maintaining the delta balance. Risk#2 concerns TBT’s inherent decay function that creates a skew with TLT’s price. This skew is variable over time but can be forecast using the BZB DN algorithm, the net effect of which is a supplemental short term TBT option position to offset the skew.
This is just one example of delta neutral thinking that can be employed to deliver low risk returns. There are other variables that may affect the net outcome of this setup and I welcome reader feedback on the idea.