It’s been a long, long time since saber-rattling sent shock waves through the oil markets. Saturday’s coordinated attacks against Saudia Arabia’s oil production generated the largest intraday spike in Brent Crude on record at +19%. Light sweet crude oil also got jiggy to the upside and is up 13.5% as I type.

Implied volatility is exploding alongside the price, and I smell a premium selling opportunity. It’s important to remember that volatility spikes like this are transitory – here one day and gone the next. Thus, you need to strike while the iron is hot.

And right now, she’s red-hot.

Selling options is usually the way to go when capitalizing on these situations. Whether you want to lean bullish, neutral, or bearish depends on your bias. Bulls sell puts, and bears sell calls. If you’re neutral, then do both.

Let me show you an example.

Hello, Short Strangle

USO’s cheap price tag makes it a perfect candidate for selling calls and puts. The margin requirement is minimal, creating a high potential return on investment. When volatility is low, it’s sometimes tough to receive enough reward selling USO options. It’s hard to get excited over 10 or 15 cents, particularly after commission costs. But, when we pops in IV (like right now), that’s when things get interesting.

The short strangle involves selling an OTM call and an OTM put. Think of it as an iron condor without protection. ‘Tis a wingless iron condor that usually focuses on shorting one- to two-month options.

With USO near $13, we might sell the Oct 14 call and 12 put for 31 cents apiece or 62 cents total. The max reward is 62 cents and will be captured if USO sits between $13 and $14 at expiration. The profit range is even bigger, sitting between $12.38 and $14.62. Here’s a visual of the zone:

So, we can make $62. Now, let me share two sexy stats.

First, the initial margin is only around $160, making this a mouth-watering 39% ROI.

Second, if you exit at the upper or lower expiration breakeven levels ($11.38 or $14.62), your loss is only around $60 or 1x the potential reward. Usually, the risk is 2x or 3x the potential reward for a short strangle.

Feast your eyes on this!

And to what do we have to thank for these tasty metrics? USO’s low stock price and high implied volatility. It’s a killer combo when playing with short premium strategies.

Here’s the risk graph with the projected loss if USO rips to $14.62:

If the unlimited risk has your knickers in a twist, or if you’re unable to sell naked options, then the iron condor is your alternative. In addition to selling the $14 call and $12 put you might buy a far OTM call/put to cap the risk.

Happy drilling.

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