Educational use only — not investment advice. See full disclaimer in README.md.
You told me you’re not sure yet what your account can do. This file fixes that. Your option approval level and margin type are a hard filter on the entire manual — they decide which strategies are even legal in your account before any market analysis matters. Read this once, find out your exact levels, and you’ll know which 🔴 strategies to skip and which 🟢 substitutes to use.
1. Option approval levels — what they are and how to find yours
When you enable options on a brokerage account, you’re assigned a trading level based on a short questionnaire (experience, income, net worth, objectives). Higher levels unlock riskier structures. Brokers number and name them differently — some use 0–3, some 1–5, some “Tier 1/2/3” — so don’t fixate on the number. Fixate on the capability.
This manual uses four capability tiers:
| Tier (this manual) | Capability unlocked | Example strategies | Typical account needs |
|---|---|---|---|
| L1 | Covered & secured income; protection | Covered call, cash-secured put, protective put | Cash or margin; you hold the stock or full cash |
| L2 | Buying premium (long, debit) | Long call, long put | Usually any approved account |
| L3 | Defined-risk multi-leg (spreads) | Verticals (debit & credit), iron condors, butterflies, calendars, diagonals, PMCC | Margin account usually required |
| L4 | Undefined / naked risk | Naked short call/put, short straddle/strangle, ratio spreads with a naked leg | Margin + higher net worth/experience; large BP |
How brokers commonly map these (verify yours — these change)
- Tastytrade: “The Works” ≈ everything incl. naked (L4); lower tiers gate naked options.
- Schwab / thinkorswim: Levels 0–3 (Level 2 ≈ long options + spreads; Level 3 ≈ uncovered/naked).
- Fidelity: “Tiers” 1–5 (spreads around tier 2–3; naked at the top tiers, often needs portfolio margin).
- E*TRADE / Robinhood / IBKR: all have their own ladders; spreads typically sit a level or two above buying calls/puts.
Action: log into your broker → account/options settings → find your current approval level, and check what the next level up requires. Write your level here:
My broker: __________ My options level: __________ Capabilities I have: [ L1 ] [ L2 ] [ L3 ] [ L4 ]
How to apply it to this manual
- L1 only: you can do covered calls, CSPs, protective puts. The income chapter’s covered call / CSP / Wheel are yours; most spreads are not (yet).
- L2: add long calls/puts (directional buying, low-IVR plays).
- L3 (the sweet spot for this manual): unlocks essentially every 🟢 defined-risk strategy in the toolbox — verticals, condors, flies, calendars, diagonals, PMCC. Most of this manual assumes L3. If you have it, you never need L4.
- L4: adds the 🔴 undefined-risk strategies (naked shorts, short strangles/straddles). More credit, but tail risk and big buying-power draws. Optional — every 🔴 here has a 🟢 substitute.
Recommendation: aim for L3. It opens the full defined-risk toolbox while keeping a hard floor under your losses. Pursue L4 only once you’ve traded defined-risk consistently and understand naked-position margin mechanics cold.
2. Account types & margin — the other half of the filter
| Account type | What it allows | Key limitation |
|---|---|---|
| Cash account | Long options, covered calls, cash-secured puts; some brokers allow defined-risk spreads if cash-secured | No margin; no PDT rule, but funds must settle (options settle T+1) — watch for good-faith violations from reusing unsettled cash |
| Reg-T margin account | Everything your approval level allows; spreads; naked (if L4) | Subject to the PDT rule if < $25k; BP = standard Reg-T formulas |
| Portfolio margin (PM) | Risk-based margining — far lower BP for hedged/defined books | High bar (often $100k–$125k+ min equity); amplifies leverage — a double-edged sword |
Buying-power reduction — defined vs undefined
- Defined-risk spread: BP reduction = max loss (e.g., a 5-wide spread sold for $1.50 ties up $350). Clean and predictable.
- Naked/undefined: BP reduction is a formula (commonly the greater of ~20% of underlying − OTM amount + premium, or ~10% of strike, etc.) — much larger, and it rises when IV/price moves against you, which can trigger forced liquidation. This is the practical reason undefined-risk demands small size and big buffers.
3. The Pattern Day Trader (PDT) rule — know it before it bites
On a margin account under $25,000, making 4+ day trades within 5 business days flags you as a Pattern Day Trader and can freeze your account to closing-only for 90 days (or until you deposit to $25k). A “day trade” = opening and closing the same position the same day — and closing one leg of a spread can count.
Implications:
- Under $25k on margin → treat day trades as a scarce resource; favor positions you hold overnight or longer (which nearly all strategies in this manual are anyway).
- Cash accounts are not subject to PDT (but have settlement constraints — see above).
- This is not a reason to hold a trade you should close. It’s a reason to plan so you’re not forced into a 4th day trade.
4. The “what can I trade today?” filter (run during Step 2)
Once per setup, slot every strategy into your reality:
MY LEVEL: ______ ACCOUNT: [ cash / Reg-T margin / PM ] EQUITY ≥ $25k? [ Y / N ]
AVAILABLE TO ME (✓) / NOT YET (✗):
[ ] Covered call [ ] Long call / long put [ ] Vertical spreads (debit & credit)
[ ] Cash-secured put [ ] Iron condor / iron fly [ ] Calendars / diagonals / PMCC
[ ] Protective put / collar [ ] Butterflies (incl. BWB) [ ] Backspreads (long-bias)
[ ] Naked short put [ ] Naked short call [ ] Short straddle / strangle ← all L4
When the 02-strategy-selector.md matrix hands you a candidate you can’t trade, use the substitution table:
| If the matrix says (🔴 / higher tier) | …and you can’t, trade instead (🟢) |
|---|---|
| Short strangle | Iron condor |
| Short straddle | Iron fly (iron butterfly) |
| Naked short put | Cash-secured put (if L1 + capital) or bull put spread |
| Naked short call | Bear call spread |
| Cash-secured put (no capital/approval) | Bull put spread |
| Risk reversal (naked short put leg) | Bull call spread or collar |
5. Costs, taxes & frictions that affect strategy choice
- Commissions/fees: typically per-contract (e.g., ~$0.50–$0.65) + tiny regulatory/exchange fees. Multi-leg trades pay per leg — a 4-leg iron condor entry+exit = up to 8 contract fees per lot. It’s small but real; it argues against over-trading and against tiny-credit trades where fees eat the edge.
- Assignment fees: many brokers charge a fee on assignment/exercise; another reason to close short options rather than let them get assigned.
- The bid/ask spread is your biggest cost — far bigger than commissions on illiquid names. Honor the liquidity gate.
- Taxes (US, general — confirm with a professional):
- Most equity options = short-term capital gains if held < 1 year (most are).
- Section 1256 contracts (broad-based index options like SPX, NDX, RUT, VIX) get 60/40 treatment — 60% long-term / 40% short-term regardless of holding period, and are marked-to-market at year-end. This can make SPX meaningfully more tax-efficient than SPY for active index traders.
- Covered call / Wheel assignments trigger stock sales (cap gains on the shares) and can affect holding-period/qualified-dividend status; wash-sale rules can apply across options and stock. Track this.
None of this changes the decision system — but it’s why an active index trader may prefer SPX over SPY, and why you don’t churn 4-leg trades for tiny credits.
6. Your one-time setup checklist
- [ ] Found and recorded my broker, approval level, and capabilities.
- [ ] Know whether I’m cash / Reg-T / portfolio margin, and whether I’m over/under $25k (PDT).
- [ ] Understand my buying-power mechanics for defined vs (if applicable) undefined risk.
- [ ] Filled in the “what can I trade” filter above.
- [ ] Know my substitutions for any strategy I can’t yet trade.
- [ ] Decided whether to apply for the next level up (recommended target: L3).
- [ ] Aware of the 1256/SPX tax angle and assignment/wash-sale considerations.
Next: 00-daily-workflow.md to run the loop, or 03-risk-and-sizing.md to set your size limits.
Power and Pelf 