Naked Put Picks of the Day Back-Testing Analysis...
When I set out to publish picks of the day to my PowerOptions subscribers, I sought trades that should make money over the long-term in almost any market conditions with minimal management. I knew I could find these trades with the right search criteria. The right search criteria could be determined by testing the resultant positions from the searching in the past and looking at how those past positions turned out. So, I used our back-testing tools to iterate through many search criteria and analyzed what would have happened in the past with results that met my criteria. The picks of the day you see on the poweropt.com site are the result of my unique trading strategies designed from this back testing process.
Testing goals, process and rules for the naked puts...
My objective for the test positions was to earn 10-20% per year writing (selling) naked (cash secured) puts. I searched for positions that were deep out-of-the-money (OTM) for some protection and a lower probability of assignment. I expect my testing naked put trades will expire worthless every month (fully profitable), but if they don't, I will exit any positions where the stock goes down 20% and also liquidate stock immediately for any short put that is assigned. After many testing iterations, the put options were filtered to have implied volatility (IV) less than 1.0 and will be at least 6% OTM to reduce and control risk in the trade. New positions would be written every month on the Monday after expiration of the last series. The top two (2) results were used each month.
The SPX net change over the year from 5/15/2015 to 5/21/2016 was flat.
Testing Period & Market Conditions for the back-testing...
The back-testing period was the last year from 5/15/2015 to 5/21/2016. There were several sharp declines over this period of time and then commensurate recoveries. Because of these decline/recovery periods, I feel that this testing period is a good representation of the general market condition and an appropriate period to use for a long-term strategy test. The net change of the year was flat for the SPX. As one might expect with naked puts, when the market was up the returns were great and when the market declined there were losses. Ideally we would like to see the gains during an up cycle to be larger than the loss during a down cycle with a net positive over time.
24 positions were found that met all requirements, 2 each month for the 12 months
Equal dollar amounts were invested in each position or 1/2 of capital.
$100,000 was the base cash account at the start of the test period.
By iterating the search and back-testing, returns for the resultant trades were improved 2x over my initial search criteria
On average for this one year test period the return was +33% ($133,000 ending value)
There were 4 losses, averaging -3.9% and 20 wins (83%) averaging about +4.3%
One of the losses was the result of the 20% stock price loss limit
The largest draw-down from a previous month was 6%
These naked puts may be more speculative than many investors would use because of the high IV's allowed. Trading results based on back-testing doesn't mean that the same results will happen in the future. These results are based on exiting the position if the stock drops 20%. Intuitively having a stop loss if the put went ITM seemed a prudent tactic. However, in every test case, using a stop loss if the put went ITM, exited the position prematurely, substantially reduced the returns, and increased the number of losses for the test positions.
Picks of the Day for Naked Puts - Sample Naked Put Trades - Trades Based on Back-testing