Contrasting Ratio Spread and Diagonal Spread options strategies

This thesis examines the differences between two combination options strategies, Ratio Spread, and Diagonal Spread. The research question is: “Which options strategies lead to the best results in different market phases?”

In the theoretical part, the construction of the two strategies is explained. Based on this construction, the author conducted two quantitative studies for the empirical part. The first investigation was conducted based on historical data. Using Tastylive’s backtesting software, the performance of the two strategies was tested between 2006 and 2023. The second part of the research was conducted during an investment period in a Thinkorswim paper account. In an effort to gain first-hand experience, these strategies were tested on various underlyings for five weeks.

This study has shown that the Ratio Spread generated the best results among the three researched market phases (Bear, Bull, and Neutral). Ratio Call Spread leads to best results in bear market phases, while Ratio Put Spread is superior in neutral and bullish market conditions. The results are evaluated based on the median profit/trade and the win rate.

Diagonal Spread leads to lower profits and win rates due to the limited profit potential. The maximum loss is the debit paid the profit is an increase in the price of the underlying for call and a decrease in the price of the underlying for put. The Diagonal Call Spread is benefiting from the upward trend. The Diagonal Put Spread benefits from the downward movement trend of the underlying.

The market situation during the investment period was volatile with a clear upward trend. The investment experiment was successfully concluded with a profit. The main findings were that the early exit triggers did not always deliver the desired result. The high volatility in options trading triggered the stop loss. For all trades in the experiment, the trade could still have been converted into a profit by the end of its term if there was no Early Exit Trigger applied. Based on the findings of the study the author recommends investing during the optimal market phase for each strategy and choosing a stop loss based on the individual investor’s choice of risk level. For the selection of underlying in the real investment environment, the author recommends detailed research with crucial criteria to minimize the risk of large losses and increase the chances of profitability.