RED Option Index Diagonal:

Liquidity has its advantages and the QQQQ, DIA, SPY and IWM are four of the Industry's most actively traded ETFs (exchange-traded funds) and listed option products. From experienced traders to the first-time novice, these products offer exceptional markets and opportunity for all. Since RED Option is always looking to broaden your option education and introduce you to trades that you could do yourself, a simple diagonal in a liquid underlying is a great place to start.

A diagonal spread is a combination of two of the most customer-friendly and easy-to-execute trades: a short vertical spread and a long calendar spread. With diagonals, the risk is defined and the margin required for the trade is equal to the reduction in buying power. The trade risk itself is equal to the distance between the strikes, minus the credit received or plus the debit paid.

This strategy isn't any better or worse than a simple calendar spread; it's just different. This strategy may require more available capital. It also differs from a vertical, in that the diagonal embeds two strategies into one trade, using the credit from the vertical to reduce the cost of the calendar.

We primarily use the QQQQ, DIA, SPY and IWM options because they are extremely liquid and they offer a single strike option series. Single strikes allows us to keep the trade recommendations low-risk, low-margin and easy to roll and/or close. However, we will occasionally use other indexes and ETFs if the market conditions are appropriate.

These spreads are considered delta neutral and we recommend using both put and call diagonals, depending upon market conditions and the pricing of the individual options. Regardless of calls or puts, we will look for the best trade opportunity every time. These positions are typically one to two months in duration, so you can anticipate having approximately four open positions at any one time.

Example of an Index Diagonal Spread: