Parrot: Soaring like a condor

October 18, 2007 12:14 PM

Parrot Trading Partners LLC (PTP) returned more than 30% in its Calendar Condor trading program in the three-month period ending in August, a period that produced large drawdowns for many option-based strategies.

Jes Santaularia, managing director of the Lawrence, Kansas-based commodity pool operator (CPO) and commodity trading advisor (CTA) says, his program, which trades options on the full-sized S&P 500, is very unique because, “We have shown that its possible to well when the market goes up and extremely well when the market goes down.”

Santaularia says his Calendar Condor strategy, a term he coined, takes advantage of certain market inefficiencies in the pricing of options and the natural time decay of options. His strategy identifies a range of market activity and establishes short option positions to be profitable in the ensuing two- to six-week period. The program hedges these short positions with long option positions in the deferred month, anywhere from nine months to 12 months out.

The basic strategy is to employ diagonal calendar spreads. The program will purchase puts and calls in the deferred months, and sell offsetting puts and calls in the nearby months, to maintain a reasonably balanced delta neutral position. “However, we generally maintain a bias to the delta negative side as there is typically more risk in the market moving quickly to the downside rather than the upside and hence our tendency to do better in flat or down markets,” he says. The objective is to allow the time premium to bleed off the nearby months at a much more rapid pace than the time premium bleeds off the deferred months. By manipulating time decay, though seemingly counterintuitive, the program is able to profit in up markets despite maintaining a slightly negative delta. That negative delta allows for greater profits in down months and non-correlation to the underlying S&P.

Santaularia says the strategy provides an edge in the market place, as the nearby months’ daily theta are generally greater than the deferred months. “The strategy is successful in both low volatility and high volatility conditions and can be particularly successful when moving from high volatility to low volatility conditions,” he says.

Santaularia has been trading for more than 20 years and spent the first 10 years of his trading career trading many markets and strategies until he found the combination for the Calendar Condor.

Since inception in April 2004, when the program had a return of 7.84% in the three quarters it traded, the program starts off each year slow and then recovers losses making most of its profits during the last three quarters.

“For example, the first quarter of this year the [S&P 500] moved straight up and made new highs, and because we trade with a delta negative bias we will not perform well in those conditions,” Santaularia says. “But as soon as the market topped out and came down, we got all our losses back plus some. If you look at it on an annual basis, our annualized return is in the mid-teens, but in any given two or three months we can be plus or minus 10% to 15%,” he says.

The program had another rough first quarter in 2007, but just like each of those previous years the program has made back losses and then made gains. Year-to-date performance as of Sept. 30 is 11.09%, with a 4.75% drop in September — the first down month in the last five months. PTP returned 15.89% in 2005 and 12.40% in 2006.

PTP has about $8 million total money under management as of Sept. 30, and its worst monthly percentage drawdown was -13.10% in February ’07.

Risk for PTP is quantified by measuring delta, vega and gamma relative to the present market position. He manages risk by maintaining delta neutral and managing positions on a daily basis. When necessary, he adjusts to movements in the market for two- to three-week trends so that the program is not trading intraday.

Santaularia has more than 25 years of experience in real estate development, business management and consultation, financial, tax and investment advisory and planning. He has served as the president of Diversified Concepts LLC, a Kansas limited liability company that develops and manages real estate in several states, including Kansas, Missouri and Florida.

He says his real estate background has helped in the development of his trading program. “To be successful in real estate you have to properly use leverage and when I first started trading options I was looking for an investment that was much like real estate because I was using very little cash, and the futures market offered great leverage opportunities,” he says, pointing out that in real estate and futures, improper use of leverage can be very costly. “So it’s really about understanding what leverage does, both good and bad, which has helped me transcend to the futures and options business.”

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