Option Strategy: Diagonal Spread Basics + Setup on Amazon

February 9th, 2018

I would share with you how to set up a diagonal trade - meaning a diagonal options trade. That way you can tweak your risk on Amazon.

We'll take a look at Amazon - how to set up a diagonal and why you may want to choose to do a diagonal. I like the foundation of the diagonal from looking at a calendar spread. If you're familiar with calendars, diagonals are somewhat similar.

Keep in mind. It's all based on selling premium. When you sell premium, that's really what you're doing. You're the first premium of sale and then what you're doing is you're buying protection to hedge or reduce your risk. When it comes to diagonals, you're buying it later out in time, just like with the calendar, and that allows you to adjust your risk.

We're going to take a look at Amazon in our trading panel. Keep in mind this is just for educational purposes. This is not recommendations to set up this exact trade. You might be watching this video sometime in the future, but I want to show you how to construct it.

First, let's take a look at the market, and you can see we've had a massive down move here just even today on the SPX down a hundred points. I'm not saying you want to do this right away, what I'm saying is let's take a look at how to construct one and when the time is right, you can make tweaks and modifications.

With that in mind, you might want to allow things to digest if you're watching this video the minute it's out or available.

Anyway, when we look at Amazon, you can see we're starting to pull back and sell-off. So, let's say, I'm looking for this to go a little further. I could say this is going to go down to about 1200, that's my goal and thought process. Let's say it topped out. I want to be in the trade for maybe 15/20 days, it could be 10, depending on your time horizon.

But here's how you go ahead and set up and construct the diagonal.

I go into the March ones or the March 18, which is 36 days out. Usually, what you do is you construct about 50 of these different strikes. Let's do 1340. What I'll typically do is sell a single, we'll analyze the trade, and now you could see when you sell a single you have a pretty much-unlimited risk when the stock goes down.

Then what you need to do is if you go in and buy protection, go ahead and buy a single over here and now I'll analyze this because I want protection. You could see right here. It creates kind of a funky little graph that looks like this. This would be a calendar because it's the same strike price. It's the same strike that I've chosen, so it would be considered a calendar.

I could go ahead and enter this as a calendar trade together, or you could do it individually.

If we go to March, buy a calendar, analyze the trade and we have the March 16th and the April 20th. There's our calendar trade, and you can see it looks very similar. It's just a little bit closer to the white line, and that's because we're doing it as a spread. It makes it a little bit better actually.

If I'm bearish on the position, I could go ahead and change this to custom. So instead of a calendar, I could go ahead and shift one of these. Instead of going from 1370 and 1370 - selling one and selling the same one, I could switch this to 1360, and you can see how it starts to rotate it.

I could go ahead and go the other way, and this will go 1390. You could see it shifts the other direction. This is diagonal so that I could go to 1400. I could go ahead and tilt it a little bit more. I could go ahead and tweak this based on my risk of how bearish I want to be.

Author: Jorge Diaz

I'm Sasha, an educational entrepreneur and a stock trader. In addition to running my own online businesses, I also enjoy trading stocks and helping the individual investor understand the stock market. Let me share with you some techniques & concepts that I used over the last 10+ years to give you that edge in the market. Learn More

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