deconstructing-a-michael-platt-trade

A Case Study in SPY Options

While we can't know the specifics of Michael Platt's trades, we can construct a hypothetical example based on his known principles. Let's imagine a scenario where Platt sees an opportunity in the SPDR S&P 500 ETF (SPY). He believes that the market is overly complacent and that a spike in volatility is imminent. He wants to construct a trade that will profit from this view, while also limiting his downside risk.

Platt is not a simple directional trader. He is not going to just buy a put option and hope for the best. He is going to construct a more sophisticated trade that has a skewed risk/reward profile. In this case, he might decide to buy a long-dated, out-of-the-money call option on the VIX, the CBOE Volatility Index. This is a direct bet on a rise in volatility. At the same time, he might sell a shorter-dated, at-the-money call option on the SPY. This will generate some income and help to offset the cost of the VIX call.

The Asymmetry of the Trade

The beauty of this trade is its asymmetry. If Platt is right and volatility spikes, the VIX call will explode in value. The loss on the SPY call will be limited, as the stock can only go to zero. If he is wrong and the market continues to grind higher, the loss on the VIX call will be limited to the premium he paid. The gain on the SPY call will be capped, but it will help to offset the loss on the VIX call. In either case, the potential loss is small, while the potential gain is large. This is the kind of trade that Michael Platt loves.

The Importance of Timing

Of course, the success of this trade depends on the timing. If Platt buys the VIX call too early, he could see it expire worthless. If he buys it too late, he could miss the move. This is where his experience and his feel for the market come into play. He is not just a quant. He is a trader who has a deep understanding of market psychology. He knows when to be aggressive and when to be patient. This is a skill that can only be learned through years of experience.

For the individual trader, the lesson is clear: you need to have a view, and you need to be able to express that view in a way that has a skewed risk/reward profile. You also need to have a sense of timing. You need to know when to get in and when to get out. This is not easy, but it is the key to long-term success in the markets.