IEF Analysis (options diagonal)

iShares 7-10 Year Treasury Bond (IEF)

On March 13 I opened a shares position on IEF (see the analysis here), based on Elliott Wave analysis indications of a reversal to the upside. To multiply potential profits from the position, I am adding an call options play structured as a diagonal spread, a close substitute for the covered call stock-options combination.

I shall use the APR series of options for the short leg, which trades for the last time 38 days hence, on April 21, and the JUN series for the long leg, which ends trading 94 days from now, on June 16.

I’ve not often used this structure, so here are the rules I’ll be using, based on those prevalent at Tastry Trade, whose trading strategies are very similar to my own. The Tasty Trade description of diagonals can be found here. Here’s what I shall be looking at:

  1. Approximately a 10% spread either side of the at-the-money point, adjustable to meet the third and fourth requirements, which are firm rules.
  2. Long option 50 to 70 days to expiration, and short option, 20 to 40 days to expiration, adjustable to meet circumstances of the available options.
  3. A net debit of no more than 75% of the interval between the two strikes.
  4. Extrinsic value of the long calls that is less than the extrinsic value of the short calls.

I shall look to exit a winning position at 25% to 50% of estimated maximum potential profit, and to manage a losing position if the stock moves against the direction of my trade (a judgement call, given the fractal nature of market movements). In either case, my preferred method will be to roll the short leg forward to a new strike/expiration rather than a hard exit.

Elliott Wave analysis, depicted in a one-year chart, shows IEF completing five waves to the downside from July 2016, representing a decline in the capital value of Treasuries and an increase in their dividend yield.

The next move at that level — think weeks and months for a wave to complete its work — under this analysis is expected to be to the upside.


The lower chart, in red, shows implied volatility, ranging from 16% down to 6%.

Implied volatility stands at 6%, which is half the VIX, a measure of the volatility of the S&P 500 index.

IEF’s IV stands in the 10th percentile of its annual range and the 8th percentile of its most recent broad movement. It’s not much of a movement. This is a bonds fund and is not very volatile. That’s why I have structured the trade as a net long position, rather than my usual short position.

The price used for analysis was $103.92.

Premium: -$12.00      
IEF – diagonal   Strike Expire odds Extrinsic Days left
Calls ITM
Long SEP 92.00 90.4% 0.06 185
At-the-money 103.88 OTM
Short APR 108.00 92.6% 0.10 38
Strike spread 16.00
Premium/Spread % 75.0%
Exstrinsic short>long Yes
Est. Break-even $104.00
Est max profit $4.00
Est. 25% max $1.00
Est. 50% max $2.00

Decision for My Account

I have entered a position on IEF as described above. The stock at the time of entry was priced at $20.54. I used  SEP for my long options series, which is further out than the guidelines, because there is no series offered at this time for JUL or AUG.

By Tim Bovee, Portland, Oregon, March 14, 2017