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This page summarises some of the trading strategies that I use in the low implied volatility environment.

The low implied volatility environment is defined as stocks or indexes with Implied Volatility (IV) Percentile or Rank lower than 25. I only use low volatility strategies when IV percentile is lower than 30. When it gets higher than 25, I would consider implement high volatility trading strategies as well depending on the market situation. So there is a 5 points overlap between the strategies.

The main reason for this bias is that with high volatility strategies, I could get credits for the setup so it’s cheaper and requires less management since I normally focuses on defined risk trades.

In other words, strategies that are used in the low volatility environment tend to be debit trades and would require management to close it early and required to pay to close it at the end, so there is more transaction costs. This is why when it’s interchangeable between the high / low volatility strategies, I tend to prefer the high volatility strategies.

NOTE on IV percentile and Rank: IV percentile and IV rank are calculated differently and IV percentile is more sensitive to the actual IV change over the defined period of time used for the calculation.

Diagonal Spread / Calendar Spread

When setting up a Calendar spread, you would need to purchase a Call or Put from a further out month and sell the front month. In many cases, this would become a debit spread. However, by sliding the Call down into the money or Put up into the money, we could potentially create a Diagonal spread with a credit.

As you can imagine this is a directional play thus the success ratio is much lower than some of the non-directional setup we would do for the high volatility trading strategies. It is possible to set up a 50-60% winning ratio trade but comparing it to 70-80% winning ratio that we could set up in the high volatility environment, this is a much inferior strategy.

The best setup that has worked for me is looking for stocks that are all time high (52 Weeks High) and showing signs of weakness. By setting a Diagonal Spread it is possible for us to get a decent return. However, we need to watch closely if it goes against as as in many cases, the maximum loss is equal or more than the potential profit.

Videos by Tastytrade illustrate how this strategy can be a viable one in a low volatility environment.

Use Double Diagonal Spread to simulate Iron condor

Since Diagonal Spread gives similar risk/reward shape to normal credit spread, by creating on the Call side and one on the Put side, it is possible to create a similar risk/return shape to Iron Condor.

It is important to point out that in most cases this strategy does not work out because of the cost associated with Diagonal Spread in general. Also, the return is generally less than Iron Condor.

As of now, SPY is the only Index that I have managed to execute this strategy.

Why it’s a bad idea to trade high volatility strategies in a low volatility environment?

This Tastytrade video explains why it is a bad idea selling options in a low volatility environment. The key is “volatility”. The core idea of our trading strategy is to be like an insurance company. We sell premium to events that are unlikely to happen. So what we do is sell volatility that is incorporated in the premium. When volatility is not there we are pretty much left with only time value to sell, which does not give us enough room to improve the probability of winning.

 

Can we sell Iron Condor / Straddle / Strangle in a low volatility environment at all? – Yes we can!

Interestingly enough, a study done by Tastytrade shows that by increasing time value, it is possible to sell options. Unlike to the video shown above, in this video they increased the time frame from the usual 45 days to 100 days. This actually compensate the lack of volatility and shows a pretty good result. Of Course the downside is the longer duration for each trade, so allocation only a small portion of the capital to this particular trade might be a good option. In other words, only do this trade when there truly have nothing else better to trade.

One thing to note about this study is that it only investigated SPY. So possibly this strategy might not work on individual stocks considering some stocks are more volatile than others. So to keep it safe, only implement this strategy on Index ETFs which tend to move less.