2016 has been challenging for equity markets. Even after the recent bounce, the S&P 500 is still off 4% year-to-date. Yet the market — and the SPDR S&P 500 ETF Trust (NYSEARCA:SPY) — are within 8% of their all-time highs. So even though it seems like an eternity of uncertainty, markets still have significant potential downside looming. 
Although I am not calling for a complete disaster in the markets, I find few positive catalysts that could fuel rallies towards new all-time highs with the current variables economic variables. Even if the Federal Reserve restarts quantitative easing, it would be because of terrible developments in the U.S. economy, and the stock markets already would have fallen past the recent lows.
I want to deploy a strategy in two parts — with a twist.
The first would leverage the S&P 500 using an iron condor on SPY options. The second part would be going long Apple Inc. (AAPL) just in case markets rally.
- Trade #1 – The Short: I sell a Sep 30 SPY $215/$220 credit call spread. This is a bearish trade for which I collect 90 cents per contract to open. This is a 20% potential yield on money at risk. I have a 70% theoretical chance of success and a 10% price buffer from current SPY price. My breakeven price is almost $216 per share.
- Trade #2 – The Hedge: If in the next few days I get uneasy about the short, I can add a bullish Sep 30 SPY $165/$160 credit put spread. This is a bullish trade for which I collect an additional 75 cents per contract. Alone, this credit put spread has a 90% theoretical chance of success and a 17% potential yield. Price buffer from current price is 15%.
Taken together, the aforementioned trades would constitute an iron condor with almost 50% yield on money risked.
Given the economic and technical risks that markets face, I want to overweight this iron condor to the short side, so I sell two credit call spread contracts to each one credit put spread contract.
- Trade #3 – The Twist: Although I fear more the downside risk than the upside breakout, I still want to counter balance my 2-to-1 iron condor. For that, I sell a Jan 2017 AAPL $75/$70 credit put spread. This is a bullish trade for which I collect 95 cents per contract. This has a high chance of success and a 23% potential yield on dollars at risk. Apple has already shed most of its froth and is well-defended by sizable buyback programs. Conversely, if markets are rising, then AAPL stock should also be rising.
There are hundreds of variations to this pair trade. I can widen the SPY iron condor, or eliminate the 2-to-1 makeup, or change the dollars at risk thereby changing the potential reward. I can even change the timing of any part of the trade.
Selling options could be risky if managed incorrectly, but I particularly enjoy the control they provide. I like knowing the best- and worst-case scenario from start to finish of every trade.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities.
