How traders build and manage options strategies: an example using a China tech ETF

Koen Hoorelbeke
Investment and Options Strategist
Summary: Understanding how traders select stocks, strikes, and expirations is key to building a solid options strategy. Using a China tech ETF as an example, this article explores the decision-making process behind trade selection, risk management, and strategy adjustments in a high-volatility environment.
How traders build and manage options strategies - an example using a China tech ETF
China’s internet stocks are back in the spotlight
China’s internet stocks are back in the spotlight. Just this week, options traders flooded into bullish call positions on KWEB (Kraneshares CSI China Internet ETF), betting on continued upside after Beijing’s latest economic stimulus efforts. More than 20,000 contracts of the $38 call expiring this Friday were bought, as KWEB surged over 4% in a day.
Understanding how traders approach stock selection for options strategies is a key learning point. The focus here is on volatility, liquidity, and market conditions—all crucial elements in structuring a trade. We will break down how traders select an underlying asset, determine strike prices, choose expirations, and manage risk. To illustrate, we will use KWEB as an example.
Important note: The strategies and examples provided in this article are purely for educational purposes. They are intended to assist in shaping your thought process and should not be replicated or implemented without careful consideration. Every investor or trader must conduct their own due diligence and take into account their unique financial situation, risk tolerance, and investment objectives before making any decisions. Remember, investing in the stock market carries risk, and it's crucial to make informed decisions.
Selecting an underlying asset
When traders select an underlying stock or ETF for an options trade, they typically look at:
- Volatility: Stocks with higher implied volatility (IV) provide higher option premiums.
- Liquidity: A stock with higher trading volume and open interest ensures smooth order execution.
- Market conditions: Broader trends, catalysts, and sentiment affect price stability or movement.
KWEB, the KraneShares CSI China Internet ETF, was chosen because:
- It provides exposure to major Chinese internet companies, including Alibaba, Tencent, and Meituan.
- It has been on an uptrend, making it a candidate for either directional or neutral strategies.
- It has elevated implied volatility (IV rank of 44.09%), making it a prime choice for premium-selling strategies.
Choosing the right options strategy
Once an asset is selected, the next step is choosing the right options strategy based on market conditions and expectations. Traders generally consider:
- Range-bound movement? Sell options to take advantage of time decay.
- Directional conviction? Buy calls or puts, or use vertical spreads.
- Volatility expectations? High IV suggests selling options; low IV suggests buying options.
For this example, we examine a short strangle, a trade that benefits if KWEB stays within a certain price range.
Structuring the trade: strike, expiry selection, and risk considerations
A short strangle involves selling an out-of-the-money (OTM) put and call to collect premium. Here’s how a trader might select the strikes:
- Expected move calculation: The ATM straddle suggests a $3.90 expected move over the next 30 days.
- Strike selection: Choosing strikes just outside this range increases the probability of profit.
- Liquidity check: Selecting strikes with high open interest ensures smoother order execution.
For KWEB, this translates to:
- Selling the 35 put (April 2025 expiry) (obligating the seller to buy KWEB at $35 if assigned)
- Selling the 43 call (April 2025 expiry) (obligating the seller to sell KWEB at $43 if assigned)
- Premium received: $1.25 ($125 per contract)
- Breakevens: $33.75 (downside) and $44.25 (upside)
This setup has a statistically favorable probability of profit, as long as KWEB remains between $35 and $43 by expiration, since the strikes are positioned just outside the expected move and benefit from time decay.
Understanding risk: max profit and max loss
One of the most important considerations when trading options is understanding potential risk and reward.
- Max profit: Defined and corresponds to the premium received. In this case, the maximum potential profit is $125 per contract. However, many traders choose to take profits earlier—often between 40% and 60% of max profit—to reduce time in the market and limit exposure to unpredictable moves.
- Max risk: This trade has undefined risk in both directions:
- Downside risk: While theoretically, the ETF could go to zero, this is extremely unlikely given that it holds multiple major Chinese companies.
- Upside risk: Theoretically unlimited, but ETFs tend to move less aggressively than individual stocks, making extreme spikes rarer.
Traders should always assess whether they are comfortable with the risk profile before entering an undefined risk trade.
Managing risk and trade adjustments
Since options strategies require active management, traders need a real-time monitoring plan to address potential risks. If the underlying moves too much, adjustments may be necessary:
- If KWEB rallies above 43: A trader might roll up the put (e.g., from 35P to 38P) to collect more premium or convert the trade into an iron condor to cap risk.
- If KWEB surges way over 43 (f.e. to 50): A trader might close the short call, roll it to a later expiry, or hedge with shares.
- If KWEB drops below 35: Adjustments like rolling the call lower or shifting to a delta-neutral hedge could be considered.
By monitoring delta, IV changes, and breakevens, traders can stay ahead of risks before they become problems.
Alternative strategies for different outlooks
Traders with a different market view might consider alternative strategies:
- Bullish outlook? A bull put spread (e.g., selling the 38P and buying the 35P) provides a risk-defined way to profit if KWEB trends higher.
- Bearish outlook? A bear call spread (e.g., selling the 38C and buying the 41C) can generate income if KWEB struggles to move higher.
Choosing the right underlying for learning undefined risk strategies
For traders new to undefined risk strategies, the choice of underlying can make a significant difference. KWEB was selected as an example due to its lower nominal value compared to ETFs like SPY, making it a more approachable vehicle for learning. While the nominal value is lower, it is important to recognize that KWEB can still be volatile, and any undefined risk trade carries inherent risks.
Final thoughts
Understanding how to select stocks, structure trades, and manage risk is critical for any trader. Using KWEB as an example, we’ve outlined how market conditions influence strategy choice, how traders determine strike prices, and how risk can be managed through adjustments.
While this short strangle benefits from time decay and high IV, it’s crucial for traders to stay proactive—monitoring market movements and making adjustments as needed.
Was this breakdown of trade selection and risk management helpful? Let me know your thoughts or if there's another approach you'd like to explore!
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