Any tips for closing out near-worthless short positions below $0.05?

[d0rian]

I'm often short a medium-to-large position in the days prior to expiration, which is way out of the money (Delta of 0%, essentially worthless), but which -- due to minimum margin regs -- still soaks up a relatively big chunk of my available margin.

I'll often just want to release the margin hold by closing the position, but the lowest Ask showing in my IB TWS window is usually $0.05. I want to know whether there's any realistic way to close out these positions prior to expiration for less than that $0.05?

To be clear, this isn't a case where the minimum increment is $0.05...it's just that IB's TWS (and I assume other brokerage's software) doesn't display any bids/asks below $0.05. What I'll typically do in these cases is put on a standing GTC Buy order for as many contracts as I'm trying to close out at $0.01 or $.02...and in very rare cases I'll get nibbles on those.

Cliff's: I'm short worthless options positions and want to close them out as they approach expiration as cheaply as possible in order to release the margin. Their value is essentially $0.00 and I don't want to pay the $0.05 minimum Ask as that will really add up...I'd assume some market maker would take a free penny or two I'm willing to pay. Any tips for closing these out as cheaply as possible?

 

[truetype]

If you have to pay a nickel anyway, buy the nearest to the money strike you can get for a nickel. Then at least you're left with a lottery ticket spread.

 

[tommcginnis]

These are in the wrong order but,
1) place your shorts such that your longs are on a big, round numbers -- so if your spreads don't get hit, you can give a shot at leg-by-leg.
2) {and much more important}. Don't find yourself in this position in the first place.

You've seen how those spreads went down to 10¢-15¢ and sat there? And you *know* that they remain liabilities. FOR 15¢!!! And look at the gamma on those things!! It's *huge*!!! That is an empirical measure of your risk of catastrophe. ("Not good.") Nooo not good at all.
Next time, lose those dead puppies while there's some life left in 'em, and move that capital to cover a richer vein.

$$/day $$/day $$/day.....

 

[neke]

Basically if your short option has returned 80%-90%, there is probably not much R:R holding for longer, given the margin requirement as you mentioned. Take it and move elsewhere.

It is a mistake to consider those low-price options as slam-dunk worth 0. They are not. In the recent stock volatility, I took a short put option position, watched it gain 90%, decided to close at 90% as I decided the R:R is no more in my favour given the margin requirement. Glad I did that, because otherwise I would have lost maybe +50% on it. Getting a turn-around of 140% just pressing for the last 10% would have been foolish.

 

[d0rian]

Basically if your short option has returned 80%-90%, there is probably not much R:R holding for longer, given the margin requirement as you mentioned. Take it and move elsewhere.

Just to be clear, by "take it and move elsewhere", are you advocating just sucking it up and paying the nickel to close them? (b/c that's largely what I was hoping to avoid...)

2) {and much more important}. Don't find yourself in this position in the first place.

You've seen how those spreads went down to 10¢-15¢ and sat there? And you *know* that they remain liabilities. FOR 15¢!!! And look at the gamma on those things!! It's *huge*!!! That is an empirical measure of your risk of catastrophe. ("Not good.") Nooo not good at all.
Next time, lose those dead puppies while there's some life left in 'em, and move that capital to cover a richer vein.

Apologies, I got a little lost trying to follow what (I think) was a mix of advice + tongue-in-cheek sarcasm. Is what you're suggesting that I close them at 10 or 15 cents, because those values (while higher) will be closer to the option's true value, whereas if I wait until they're worth $0.00, it's a guaranteed 5-cent loss if I want to buy to close prior to expiration?

Or put simply: closing the position by for $0.15 when they're worth $0.12 is better than closing for $0.05 when they're worth $0.00?

 

[beerntrading]

Greener pastures arguments aside, that nickle is your piece of mind and your sleep at night. So is the dime that you'd probably pay letting the order rest till it fills. Obviously ticking up your bid and searching for liquidity--or even rest it for 1:30 between each tick to see see what nibbles you get. Alternatively, if you're short, just rest an order at .05 and factor that into the cost. You will not find a fill a better than theoretical value, so while the bid ask of 0x.05 may suggest a mid-point fill at .03, no market maker is going to cross that until theoretical value is under .03.

Presenting your order to market and ticking up also comes with drawbacks. If you're not on something where market makers compete for liquidity, you're likely to bid up the market as they see your order and step out of the way knowing you want to exit and they can probably charge more.

The way big money buys contracts is also telling. It shows that .05 really is not an unfair price to pay to get out of that position. There's two types of orders you see: block trades, and intermarket sweeps. But they both have the exact same quality, they all pay the full spread. UPS showed one of each today on the Feb $108s...actually the second round was small buyers, but it looks the same as sweeps (and a big middle finger to CNBC for pumping this while I was trying to pay 0.57 to ride some coat-tails!)

 

[neke]

Just to be clear, by "take it and move elsewhere", are you advocating just sucking it up and paying the nickel to close them? (b/c that's largely what I was hoping to avoid...)

Yes, I mean by the time you are up 80-90%, I believe those were worth more than $0.05. In any case, if it happened fast enough, and you see bid 0.00 ask 0.05, yes exit at the ask. It is still small change compared to tying up your capital. What you are giving up (from your opinion of fair value ) is perhaps 0.02 per contract. Is that enough to tie up your capital till expiration? Opportunity cost consideration comes in here.

In my own example, When my position went 90% profit, the VIX has declined, and I saw the price of the option, I was thinking they were underpriced - so there was basically no incentive to keep holding, in addition to tying up my capital.

 

[tommcginnis]

Apologies, I got a little lost trying to follow what (I think) was a mix of advice + tongue-in-cheek sarcasm. Is what you're suggesting that I close them at 10 or 15 cents, because those values (while higher) will be closer to the option's true value, whereas if I wait until they're worth $0.00, it's a guaranteed 5-cent loss if I want to buy to close prior to expiration?

Or put simply: closing the position by for $0.15 when they're worth $0.12 is better than closing for $0.05 when they're worth $0.00?

Take a look at volume: you will not find a market at 0¢bid - 5¢ask. What a pain!
And in the meantime, you watched it cook down from some interminably long period of time, while your at-risk capital was giving you zilch. Would you open a trade at 15¢?
$$/day $$/day -- that is where each of beer'n, neke, and I, have been aiming.
There is still a trade -- some volume -- at 15¢. "GTFO."

You will put more in your pocket by buying back your 15¢ spreads for 15¢, and moving and re-engaging that capital earlier, than by waiting til they're a nickel, and buying them back for 10¢ because no one wants to cross the market (except you) to trade that dreck. You end up paying a nickel less, while losing 20¢-30¢ on the next set of spreads you could've been in. AND you still have that piece of your (capital) ass in the wind: all of us could regale you with tales of the dime spreads that went to a dollar. Ugh.

 

[d0rian]

Take a look at volume: you will not find a market at 0¢bid - 5¢ask. What a pain!
And in the meantime, you watched it cook down from some interminably long period of time, while your at-risk capital was giving you zilch. Would you open a trade at 15¢?
$$/day $$/day -- that is where each of beer'n, neke, and I, have been aiming.
There is still a trade -- some volume -- at 15¢. "GTFO."

You will put more in your pocket by buying back your 15¢ spreads for 15¢, and moving and re-engaging that capital earlier, than by waiting til they're a nickel, and buying them back for 10¢ because no one wants to cross the market (except you) to trade that dreck. You end up paying a nickel less, while losing 20¢-30¢ on the next set of spreads you could've been in. AND you still have that piece of your (capital) ass in the wind: all of us could regale you with tales of the dime spreads that went to a dollar. Ugh.

Thank you (to others also ITT) for the replies; I have indeed come to appreciate the value I lose in holding those near-worthless shorts to expiration...if I'm understanding correctly, that lost-value stems largely from the disproportionately large margin hold created by an unbalanced margin-calculation formula that mandates a minimum margin for short positions (to protect against black swan type events, I suppose).

Is there any literature that anyone knows of that attempts to quantify or even just discuss in broad terms just where the inflection point is re: when the cost/benefit of holding short positions as they decline in value becomes -EV versus closing the position and deploying that margin elsewhere? E.g. if I were short 20 very-OTM contracts with 21-days til expiration that still require a ~$30K margin hold despite an intrinsic value of ~$0.00, I gather that twiddling my thumbs for 2 weeks waiting for expiration/margin-relief is -EV. But -- to the extent it's possible to quantify -- at what point during the slide down would it have been most worthwhile / +EV to close them and re-deploy the capital elsewhere?

 

[tommcginnis]

I have indeed come to appreciate the value I lose in holding those near-worthless shorts to expiration...

It is *such* a pain in the ass. And you can *see* it, and then not act, and bash your head later when you calc the lost recovery from the spreads you did not take cuz you were too cheap to buy-out. ALL OF US have that little battle.

If I'm understanding correctly, that lost-value stems largely from the disproportionately large margin hold created by an unbalanced margin-calculation formula that mandates a minimum margin for short positions (to protect against black swan type events, I suppose)

Oh, it's not unbalanced or disproportionate at all!! No sir!! Nobody is being mean or stingy or unfair: your [capital-] ass in the wind is really out there. YOU (and me and all of us ) need to get stingy and demand more. (I have been involved with "a little OPM project" lately, and that helps discipline tremendously: regularly reporting @Risk versus OOV [outstanding option value] will really slap you in the face when it gets unbalanced.) Bottom line?? If you write a $5 spread wayyyyy out in the weeds, it's *still* worth $5 on a bad day. That's YOUR $5, for the time being. What's it bringing you? $$/day $$/day (yadda yadday)

Is there any literature that anyone knows of that attempts to quantify or even just discuss in broad terms just where the inflection point is re: when the cost/benefit of holding short positions as they decline in value becomes -EV versus closing the position and deploying that margin elsewhere?

"Nailed it!!" That is the perfect question -- AND metric -- to steer by.

The best single collection I know of (contemporary-wise) comes from a guy named Al Sherbin:
https://www.wiley.com/en-us/How+to+Price+and+Trade+Options:+Identify,+Analyze,+and+Execute+the+Best+Trade+Probabilities,+++Website-p-9781118871140

Al was Research Director at tastytrade -- and he was *always* trying to get them on the right track and keep them there. If you check out the tt videos out there, any that he is involved in are uniformly good, solid, proper, mathematically correct, and profit-wise robust.
Al is a mathematician who thinks like an economist -- I can give no higher recommendation.

(Oh, and, the ugly answer to your question is: "It depends." If there's a (probability-weighted) dollar's worth of difference? That's all you need, but the actual location?? "It depends."
Neke wrote of "opportunity costs" of holding a 15¢ spread -- if you've got a week left in a 15¢ spread, but 4 weeks out there's a $1.10 spread that your numbers indicate will be $0.65 next week, your keeping the 15¢ costs you 40¢. "Jeepers!"

I know. And it's one of the toughest things to do, to bow out of those 15¢-ers, and re-write for $1.10 4 weeks out. So, develop some empirical measures, AND GO WITH THEM. And know you're putting your capital to best use.

((I hope this hangs together -- *what* a morning!))