Here is the overall structure of how we trade Iron Condors at IncomeLab:
Step 1: Entering the Trade
Asset Selection: SPX, NDX, or RUT. We focus primarily on the SPX.
Target Return on Risk: 9% on each side, so 18% total
Strikes: 10 Wide. For example, 1980/1970 put spread.
Starting Short Delta: Around 10 delta. If you focus on the Return on Risk then the option delta will work out.
Target Net Credit: On a 10 wide iron condor, you’re looking for 1.80
Step 2: Adjusting the Trade
Scaling Out Each Side: If a spread value is under .30 then close and open a new spread closer to the price of the underlying market. This is known as legging out and rolling.
Hedging: If either short option in your iron condor has a delta of 20, then buy options to reduce NET delta by 50%.
So, for example, if you have a 1790/1800 2030/2040 iron condor, if either the 1800 or 2030 option has a delta of 20, it’s time to adjust.
This is ideally done with a delta between 15-8 delta, 45 days out. This is the “trickiest” part of the framework because it will vary depending on your position size.
The exact strike is not as important as reducing your NET delta by 50%.
If you have smaller size, use index ETF options to hedge:
SPX -> SPY
RUT -> IWM
NDX -> QQQ
Closing out Hedges: If the market continues to move against you, close out the long option hedge and use the profits to roll the losing side out.
For example, say the market rallies hard. You buy a call to hedge. Then the market goes even higher. You would:
- Close out the call hedge for profits
- Roll the call spread higher
- Roll the put spread higher
The opposite is done in a market selloff. You would buy puts, and if the market sells off more you would:
- Close out the put hedge for profits
- Roll the put spread lower
- Roll the call spread lower
Here is the flow for both scenarios:
Step 3: Exiting The Trade
The picture below is a good guideline of what to look for in terms of profits relative to time in trade:
The sweet spot is at 30 days to expiration.
If you can capture 50% of maximum credit with 30 days left to expiration, that’s a good exit.
If you can capture 20% of maximum credit after being in the trade for only 10 days, that’s also a good exit.
The goal here is to maximize returns and mimizing time in the market.