ATTN NetDebit Traders (or NetCredit Traders) using ComboOrder

[Quanto]

ATTN NetDebit Traders (or NetCredit Traders) using ComboOrder

Yesterday I discovered an important "secret" which I herewith share with you:

Let's concentrate on NetDebit trading via the CoveredCall (CC) combo order strategy type.
The formula is of course:

  CostBase = -LongStock.Ask + ShortCall.Bid      # negative means Debit, positive means Credit
Let's assume CostBase is negative, then
  NetDebit = -CostBase       # ie. as a positive value

On your CoveredCall Combo order you need to specify just this NetDebit value as your offer
for opening the CC, ie. meaning a LongStock + a ShortCall as a combo.

With each change in the Stock.Ask price or Call.Bid premium
the broker or the exchange calculates the current market NetDebit value
and checks whether your NetDebit offer crosses it for filling your order.

There are countless combination values possible which give the same NetDebit value, for example:
Stock.Ask = 10.00, Call.Bid = 0.50 --> NetDebit = 9.50
Stock.Ask = 10.05, Call.Bid = 0.55 --> NetDebit = 9.50
... many possible ...

This looks a good idea b/c one no longer needs to change any individual stock price nor option premium.

BUT: This is lulling you into a wrong comfort & safe zone,
b/c the profit profile (or one can also say the risk profile) is not the same for them (eventhough NetDebit is the same)...

What I discovered is: the higher Stock.Ask (and Call.Bid) the better the PnL (and also some other metrics), and conversely the lower Stock.Ask (and Call.Bid) the worse the PnL etc. gets,
compared to the initial calculation (aka the "center value").

CoveredCall combo traders better should check this IMO importantant finding,
simulate it etc. to see the important difference in payout.

I haven't checked so far, but the same could be true also with other ComboOrders, where one similarily uses just the NetDebit or NetCredit value as the own offer...

Ie. Caveat Emptor!

Update:
Of course this sole knowledge itself could also serve as a brand new trading strategy or system:
ie. you found a good CC trade (= signal #1), then if you wait for "upper values" (signal #2; see above) then the result will be even much better!... Ie. waiting pays out...

See also
https://money.stackexchange.com/que...hats-the-difference-between-a-net-debit-and-a
https://www.thelittleaussiebakery.com/what-is-net-credit-in-option/

 

[Quanto]

Some further testing indicates that there is some more to it...
But testing & analysis is a little bit complicated...

 

[newwurldmn]

 

[Quanto]

Some further testing indicates that there is some more to it...
But testing & analysis is a little bit complicated...

The observed behavior happens only for OTM (ie. when SC.K > S).
But there is still some more to research as the degree of the observed improvement depends on parameter values... Not fully clear yet...

 

[Quanto]

Analysis: some further discoveries, insights and preliminary results (cf. also the prev. postings)
This is a very low-level deep analysis.

The new discovery is the PeakSx_for_PeakS0_PL_at_ND. It's the upper Sx limit when keeping NetDebit (as the combo order, and this thread, is all about). Up until this Sx the PnL rises, but beyond this Sx the PnL will be capped (ie. does not rise any further).

help_CC_CSP fCC=1 fOpening=1 S.B=10.0000 S.A=10.0000 K=11.00 C.B=0.50 C.A=0.50 DTE=15.00 ATMIV=107.97 T=DEMO n=22 sStep="0.05" : Base=10.0000 Step=0.050000 StepPct=0.500000

Formula for CC Opening:  "CostBase = -S.A + C.B  -->  NetDebit = S.A - C.B"

CC Opening: Good if S.A falls, C.B rises, or both.
   a) If S.A rises (= bad) then C.B should rise as well at least the same amount (the more the better).
   b) If C.B falls (= bad) then S.A should fall as well at least the same amount (the more the better).

INFO: ATMIV impacts only BEP_z and BEP_pGE, but not BEP itself! (b/c Premium B/A gets used, not IV)

BaseSx = S.A = 10.0000
BasePr = C.B = 0.5000
Initial CostBase = -BaseSx + BasePr = -10.0000 + 0.5000 = -9.5000
--> NetDebit = BaseSx - BasePr = 10.0000 - 0.5000 = 9.5000
--> MaxPL = K - NetDebit = 1.5000    PeakSx_for_PeakS0_PL_at_ND = BaseSx + MaxPL - Pr0 = 11.0000  PrX_for_PeakSx = MaxPL = 1.5000
INFO: if Sx rises above PeakSx(= 11.0000) then for ND0(= 9.5000) the S0_PL gets capped at MaxPL(= 1.5000), and IntrVal rises to > 0 (ie. TimeVal loses to IntrVal, when the Pr splits into IntrVal + TimeVal)
      for ND0: upto PeakSx(= 11.0000) the S0_PL is rising, but at >= PeakSx it gets capped at the max value of S0_PL (= MaxPL = 1.5000)
      for PrX: upto PeakSx(= 11.0000) S0_PL=PrX, beyond it S0_PL declines
...

 

[Quanto]

The sceenshot in the last posting confirms all the previously said.

Ie. that NetDebit traders should be aware of the important fact that NetDebit trading has different risk profiles (even for the same NetDebit!), depending on the actual fill StockPrice (and CallOptionPremium), these both giving the NetDebit...

As can be seen, the lower the filled stock price, the lower the S0_PL, and conversely the higher the filled stock price the higher the S0_PL... But there is an upper stock price whereafter the S0_PL does not rise any further (formula see above).

Again: all of the above lines can lead to a fill of your order as they all have the same NetDebit (9.50).

Q.E.D. IMO

 

[Quanto]

How to make use of this discovery:
one should place the order only if an immediate fill (using limit order) can be get for the "upper values" (ie. upper stock prices; cf. the screenshot above demonstrating this (see columns "S" and "S0_PL" of the same row)...
Ie. it means one has to know the current market prices (Bid and Ask for Stock and Call option) and do the required maths...
See also the formula of the above said PeakSx_for_PeakS0_PL_at_ND for finding the "upper values".