Analyze Trades Using Risk Profile on thinkorswim®

Narrator: Hello, traders. I'm Dan Suvulak.

Analyzing the risk and reward of a position is crucial for every trader, and in this video, I'm going to show you how to use the Risk Profile on thinkorswim^® to do that. Let's jump in.

The Risk Profile on thinkorswim's Analyze tab is one of the most powerful tools on the platform. This tool helps you calculate probability of profit on positions within your portfolio and strategies that you're looking to implement and analyze.

First I'm going to show you how to simulate a trade within the Analyze tab's Risk Profile. Let's jump over to the Trade tab.

Animation: On the trade tab, AMZN is typed into the search box. The 15 NOV 19 options chain is opened. The mouse then click on the 1780 put's bid price revealing a list. Once the trade is selected, the Risk Profile tool under the Analyze tab appears showing the risk profile of a vertical spread.

Narrator: In this example, I'm going to use Amazon. Suppose I want to sell a five-point-wide vertical expiring November 15, 2019. I'm going to open up the option chain, right click on the 1,780 put, select Analyze, Sell trade, and then Vertical, and the above graph is your risk-parity graph. You'll notice two lines. The blue line that is a little bit more dynamic is your profit and loss at expiration, and the pink or magenta line represents your theoretical profit and loss at the time input entered in the bottom calendar of the Analyze tab.

The above calendar input is your probability date. You're going to want to set this to the expiration of your options strategy. However, if you plan on executing your strategy prior to expiration, you may consider setting the probability date to that desired exit.

Along the left side of the risk profile is the y-axis—this is our profitability and loss potential in dollars—and along the x-axis, stock price. We can grab the x-axis, drag to the left to contract price to see more, or drag to the right to see less. In this example, I'm going to track those stock prices so we could see a little bit more real estate of our risk-parity graph.

In doing that, you'll notice a lightly shaded area in the middle of the risk-parity graph and a darker area outside of that. The lightly shaded area represents a future expected price range based on a one-standard-deviation probability between our time input in the bottom calendar and our probability date selected in the probability-date input.

In the middle of the Risk Profile page, you'll notice price slices. Think of price slices as the price input within the option-pricing model, price points in which you could analyze your strategy against.

Suppose that I wanted to see the breakeven of this $1,780–$1,775 vertical. I'm going to navigate to the right side and click on the three horizontal menu button. Hover over Set slices, Break Even, and select the breakeven of our analyzed strategy.

As you can see, the orange hash lines snap to the breakeven of our options strategy, cutting through the risk-parity graph and the probabilities associated with that. There is a 54% chance of probability inside of our breakeven and a 45% chance of probability outside of our breakeven.

If you want to go back to the default setting, simply go back to the three-horizontal-line action menu and select Reset slices. You'll notice that the stock setting is three price slices, 10% up, the live stock price, and 10% down from the current level.

We can adjust the price slices from percentage move, standard deviation, EPR, which stands for expected price range, or notional dollars. Let's go ahead and reset our price slices one more time by navigating over to the Action menu and selecting Reset slices.

Animation: The mouse clicks the gear icon revealing pricing model variables. Then the mouse clicks on the up arrows for the Volatility Adjustment variable changing the values on the price slices. Next, the time to expiration variable is changed, also altering the values.

Narrator: Along the bottom of the Risk Profile chart you see this gear icon. This represents something that's customizable. And again, the risk profile is a visualization of the option-pricing model. Within this area, we can adjust volatility up or down and see the effects of probability. We could change the time input within the option-pricing model and analyze what our theoretical profit and losses would be should we move closer to expiration. We can use the plus or minus arrow to move that up or down or click the calendar icon to select your desired date.

In doing so, you'll see the effect of the lightly shaded area as there's less time between the time it entered in the bottom and our probability date up top. As we walk our time input closer to expiration, you'll see the magenta line converge with our parity graph at expiration. To get our time input back to today, simply click on the calendar and select Go to today.

Animation: The mouse clicks the list button in the middle of the platform on the far-right margin.

Narrator: I'm going to set our slices back to Break Even one more time.

If you're comfortable with everything in terms of probability and the risk associated with it and want to place the trade, simply go down to the simulated trade. You can either double click on the simulation or right click and Confirm and send.

Suppose you wanted to make an amendment to the analyzed trade. Simply click Edit, and the trade will go to your order editor. From here you could edit the trade as you please and place the trade when you're ready by hitting Confirm and Send.

And that's how you use the Risk Profile in thinkorswim.

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