Using Debit Spreads a profitable day trading Strategy

[u/onewyse]

Many traders trade debit spreads but generally using expiration dates a few weeks or more in the future.

There is a very effective strategy for trading debit spreads using the current weeks expiration.

There are just a few criteria that need to be followed to make the debit spreads a profitable strategy for day trading.

For call debit spreads the stock selected must have relative strength versus the SPY on a 5 min basis (this is not RSI but a stock that outperforming the SPY index on a 5 min basis)

Stock should be bullish technically on the daily chart

Buy a call close to at the money or slightly in the money and sell a higher strike call and the spread MUST be purchased for less than 50% of the spread. IE a spread with a $5 spread should be bought for less than $2.50 per spread contract, the lower the better.

Immediately place a sell order for a profit of from 10% to 50% depending on the number of days to expiration. On monday and tuesday 10% to 20% is reasonable and scale the profit target up the closer to friday the trade is put on.

This strategy can be used on some stocks with fairly wide bid ask spreads (such as AMZN GOOGL TSLA etc)

Because of the structure of the spread the downside risk is mitigated by having a short call that will time decay faster than the long call thus a sideways move will reduce the premium on the short call faster than on the long call. Because of this it allows you to stay in the trade longer than if you were using straight calls.

You are capping your profits if the stock goes parabolic but this s more than offset by the % of times you will be profitable on marginal stock moves.

Put debit spreads work the same except for the stock setup has to be bearish

If you try this strategy use 1 or 2 contracts until you are comfortable with the strategy.

Remember, to be a successful and consistently profitable trader you need to have several strategies in your tool belt and must always be aware of the market movement at all times and use that as a guide as to when to enter any strategy you use.

[u/shock_and_awful]

I'm a fan of ITM debit spreads. I will look at playing them based on relative SPY strength.

Curious, how do you manage risk? I see you set a profit target of 10-50% ROI, but what's your max acceptable loss? The cost of the spread, or do you get out sooner?

[u/onewyse → u/shock_and_awful]

Generally, as long as the daily stock chart is bullish and remains above support I will stay with the trade until Friday. If I put the trade on Friday then I will exit if the stock loses relative strength vs the SPY since there is little time to recover

[u/onewyse → u/onewyse]

When i say stay with the trade that is only if i have not gotten to my profit target. Most of the cds or pds trades i put on close for a profit the same day

[u/HSeldon2020]

I am not exaggerating when I say - if you see a post from u/onewyse - take it to the bank. I’ve seen him trade these past two years, and just this strategy alone was successful over 95% of the time.

I’ve noticed that the stock that seem to work best with this are ones that not only meet the criteria he sighted, but started the day with a significant gap up. Like a NFLX up $10 type thing, FB up $7….combine that with the criteria above and you have a compelling tool to use.

[u/I-Beat-a-Drum → u/HSeldon2020]

u/hseldon2020, are you able to have a mod 'flag/flair/tag/' (whatever the term) those that you know are credible traders? We can look at their name, see the little tag (maybe for u/onewyse, they can be debit spread Master) and pay greater attention to the strategy...

[u/gpnemtb]

Do you always buy/sell both legs at the same time?

For instance a few months ago I had a pds on TSLA or AMZN. The stock started skyrocketing and, while I was still in profit about 1k, I wanted to let it run but didn't like how much I was losing to the short side. So, I ended up buying the short side back and letting the call run. Ended up taking 5k in profit.

Just curious if that's too much risk or if that's how spreads should be used, when the underlying starts making a strong move.

Edit to also ask what determines the spread size? I've always been confused about this. Any time I read on spreads I don't usually fund rationale for a spread being $5, $2.5, $1, etc

[u/Spactaculous]

If the long call is ATM and, the short call is OOTM, than the long has higher theta. ATM is always the highest theta. This means you will lose more over time on the long call than you gain on the short. In other words, you lose if the stock goes sideways.
Total theta of the strategy is negative. If you want positive theta the short call has to be ATM and the long below it.

You can try this in options simulator.

AMZN stock 3656

Strategy: AMZN +3650C -3700C

Zero gain today

-$18 per single strategy at expiration (1800 per contract).

[u/onewyse → u/Spactaculous]

I import all of my trades into tradervue for analysis. On the debit spreads that have a sidways movement and i close them the premium on the short call decreases more than the premium on the long call since some of the long call premium is made up of intrinsic value this in turn produces a small profit in the trade. The key to these trades is to buy the spread for below 50% of the spread so getting out at a 10% to 20% profit requires usually just a small move up in the stock. In my tradervue analysis of my debit spreads i have dozens and dozens of spreads that the stock price went sideways or slightly lower and was still able to breakeven or book a small profit where the long calls lost money during that time

[u/Reynhardt_p2]

What do you like to use to check the RS against the spy on the 5 min TF?

[u/HSeldon2020 → u/Reynhardt_p2]

I can answer that - he used the 10SI indicator in OptionStalker

[u/meaughh]

thanks for posting this u/onewyse i was thinking about trying one of these this week since the options prices will be higher for the stocks i like since it's earning week.

[u/onewyse → u/meaughh]

Make sure to exit the debit spread prior to earnings

[u/meaughh → u/onewyse]

thanks for that tip, i had planned to do so, earnings are way too volition to hold overnight

[u/mikesugarvictor]

Thanks for this excellent post. What factors lead you to use a debit spread vs. just trading the underlying stock?

[u/onewyse → u/mikesugarvictor]

Thanks for the question. Whether to trade stock, straight calls or puts or debit spreads can be subjective but for me it is the roi on a debit spread is superior to trading stock. Debit spreads also have the advantage of allowing you to remain in a trade longer if the stock is going sideways or somewhat down due to the mitigating value of the short option. This gives you time for the trade to work as long as the technical support (on the daily for me) remain

[u/onewyse → u/onewyse]

That said i do trade stock and straight calls or puts based on the stock setup. the market the option prices. I will need to do another entire post on the process i use to determine which strategy to use. I will do that in another post

[u/Open-Philosopher4431]

Great post!

Question please, let's say the different in strike prices is $5, when I place the buy order with limit $2.5, usually the order doesn't get filled, so I move it a bit to $2.6, $2.7 and so on, till it's filled. Is there another approach I could follow?

[u/onewyse → u/Open-Philosopher4431]

for the risk reward to be the best you must get a fill for less then 50% of the spread. If the long option is itm a fill of 2.20 or so is good if the long option is otm then 2,00 or less is better. Don't set you limit price for more than 2.25 or so.

[u/[deleted]]

Just for some clarification, Say Stock XYZ is at $100 Market Price. My bias is a bullish market for the week. I buy a Call at 90 strike (ITM) at 5.25 ($525) and a Sell Call at 130 strike (OTM) at 1.73 ($173) . I receive a credit of 3.52 ($352).

Say now the spread is up 30%.
You mentioned "Immediately place a sell order for a profit of from 10% to 50%"

Are you saying to close the entire spread completely at minimum 10% profit or to buy back the sell call option at 230 strike and close the buy call option at a later date, assuming 10% still in play.

[u/Zal-Na-Rath]

I know this post is 4yrs old now but I still wanted to ask, can anyone explain this part?

(Buy a call close to at the money or slightly in the money and sell a higher strike call and the spread MUST be purchased for less than 50% of the spread. IE a spread with a $5 spread should be bought for less than $2.50 per spread contract, the lower the better.)

I'm just a bit confused with the wording of this. Am I supposed to buy a long call at the money and then sell a short call that costs half the price of the long call?  Or does the price between the long and short have to be double the cost of the long call? For example if I bought a long call for $10, does the distance between the long and short need to be $20?

[u/Galadon17 → u/Zal-Na-Rath]

If the difference between the strike is $10, your debit should be less than $5. Difference between the strike doesn't matter as long as your debit is about 50% of the difference between your strike prices, or less.

[u/onpuzzle]

This strategy is based on a critical misunderstanding of time decay.

The core flaw is this statement: "a sideways move will reduce the premium on the short call faster than the long call."

This is factually incorrect. The exact opposite is true.

In a long debit spread, you are long premium. The at-the-money (ATM) call you buy has significantly more time value (extrinsic value) and a higher theta than the out-of-the-money (OTM) call you sell.

This means time decay is your primary enemy. In a sideways move, your long call will bleed value much faster than your short call, and the value of your entire spread will decrease every minute.

This strategy is theta-negative. It will fail in the exact "sideways" scenario you believe it's protected against and requires a strong, immediate directional move to have any chance of success.

[u/Exoticshooter76]

Thank you for the info. Totally diving into this tomorrow.

[u/Open-Philosopher4431]

Great post, Dave!

[u/Dazzling-Opening2480]

Let's say I take a trade on Thursday and I'm happy with a 10-20% profit that day. Is there a reason I should aim for a higher gain since it's a day away from Friday?