Box Spread Arbitrage

C

chicagodon

I'm an option newbie, read natenberg & McMillan so I grasp a decent chunk of the theoretical option strategies, but also don't pretend like I know very much about the practical side of trading options.

Are box spread arbitrage strategies even possible anymore? I realize its 4 legs so commission costs can be high, but even for floor traders, is it possible anymore to make money doing these spreads? If so, can someone provide a recent real world example?

Moreover, what do the professional guys at the CBOE really do? Are they doing spreads and adjusting their delta constantly? It seems like to make big money down there, they aren't doing directional bets? Or are they premium sellers? Like I said I have zero practical experience so just curious as to what these guys are really doing to earn? How can someone get an in with a small trading group down there to learn?

How else can I learn more about the practical side of option strategies vs just reading them in a book?
 
Quote from chicagodon:

I'm an option newbie, read natenberg & McMillan so I grasp a decent chunk of the theoretical option strategies, but also don't pretend like I know very much about the practical side of trading options.

Are box spread arbitrage strategies even possible anymore? I realize its 4 legs so commission costs can be high, but even for floor traders, is it possible anymore to make money doing these spreads? If so, can someone provide a recent real world example?

Moreover, what do the professional guys at the CBOE really do? Are they doing spreads and adjusting their delta constantly? It seems like to make big money down there, they aren't doing directional bets? Or are they premium sellers? Like I said I have zero practical experience so just curious as to what these guys are really doing to earn? How can someone get an in with a small trading group down there to learn?

How else can I learn more about the practical side of option strategies vs just reading them in a book?
More...

You might be over analyzing this a bit. Traders don't "put on" box spreads. They are a byproduct of how they trade from day to day. First off, the floors are gone. So there is no "going down to the floor" in any practical manner. Market makers today trade very different then the way they did 10 or 20 years ago. Regarding your box spreads, all they are is a combo of call and put spreads. In the academic sense, they are an interest rate trade. The box trades at a forward discount using current interest rates. When interest rates are high, boxes are cheap. That doesn't really mean anything for you because it's simply referring to the time value of money. You theoretically could put these on to create a synthetic interest paying instrument which in today's environment would earn you less then 1% before commissions and spreads. In the old days traders would have thousands of boxes on as a result of trading various call and put spreads. They simply made a market, nobody went out into the market and I said, I want to buy the Oct 50/60 box.

Not sure how helpful this was, but the hey day of floor trading is over. It's all bots now.
 
Thx Mav.

I guess what I meant was what are places like CTC or professional options players doing to earn, I know it varies widely though. Doesn't seem like they are directional based strategies, but more spreads, thats kind of what I meant with the box arbitrage, but thanks for clarifying it more. I've been playing around with calendar spreads with a little success.

I found a copy of a book by Charles Cottle, its his .pdf of 'should of could have trades', its a little over my head. I thought about ordering his other book that expands on it more, or maybe trying out some of his classes he offers, but again not looking to go pro yet, just wanted to dip my feet a little more. I noticed in his pdf he mentions how a trader can put on a new position after his initial position has gained nicely to protect his profits but also stay in the trade. Its things like that I feel are hard to gain from books alone.

My brother in law is a trader, and he is reaching out to a friend of his that does trade options on the SPX at the CBOE. He didn't know many more details. I'm just wondering what guys like that are actually doing, but I guess I will ask him.
 
butterfly... take a position on distribution and derive profit from short gamma.... meaning your putting bounds on the distribution.. or just believe the underlying is going to trade in a range..
or take a + or - delta position with the fly to express a directional bias.. all this along with a view on volatility... just because vol is low doesn't mean you can't earn by putting on butterfly... just because vol is high doesn't mean your going to make money putting on flys either.. it could go either way if vol is really high.. and you sell the atm options the underlying might go far from your sold strikes. Then the vols you sold don't compensate for the distribution that you had exposed yourself to.. i personally don't delta hedge.. but butterflys are a relatively hedged position to start out with

i personally like trading calender spreads directly in futures and butterflys in options.. i haven't made millions though.. I doubt many are going to come out and hold your hand to help you make a fortune... but you'll be surprised at how much help you can get if you ask the right questions..
 
Quote from cdcaveman:

butterfly... take a position on distribution and derive profit from short gamma.... meaning your putting bounds on the distribution.. or just believe the underlying is going to trade in a range..
or take a + or - delta position with the fly to express a directional bias.. all this along with a view on volatility... just because vol is low doesn't mean you can't earn by putting on butterfly... just because vol is high doesn't mean your going to make money putting on flys either.. it could go either way if vol is really high.. and you sell the atm options the underlying might go far from your sold strikes. Then the vols you sold don't compensate for the distribution that you had exposed yourself to.. i personally don't delta hedge.. but butterflys are a relatively hedged position to start out with

i personally like trading calender spreads directly in futures and butterflys in options.. i haven't made millions though.. I doubt many are going to come out and hold your hand to help you make a fortune... but you'll be surprised at how much help you can get if you ask the right questions..
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Cool thanks man, appreciate the response. I understand about the hand holding, I probably wouldn't do it either, just hoping to learn enough so I can put up a decent chunk and trade my own, but obviously am far away from doing that. Just curious how have people really learned how to trade options professionally? I can understand directionally trading stocks, a lot of that you can learn by watching and studying charts, but I feel like options are completely different. Maybe not?
 
Quote from chicagodon:

Thx Mav.

I guess what I meant was what are places like CTC or professional options players doing to earn, I know it varies widely though. Doesn't seem like they are directional based strategies, but more spreads, thats kind of what I meant with the box arbitrage, but thanks for clarifying it more. I've been playing around with calendar spreads with a little success.

I found a copy of a book by Charles Cottle, its his .pdf of 'should of could have trades', its a little over my head. I thought about ordering his other book that expands on it more, or maybe trying out some of his classes he offers, but again not looking to go pro yet, just wanted to dip my feet a little more. I noticed in his pdf he mentions how a trader can put on a new position after his initial position has gained nicely to protect his profits but also stay in the trade. Its things like that I feel are hard to gain from books alone.

My brother in law is a trader, and he is reaching out to a friend of his that does trade options on the SPX at the CBOE. He didn't know many more details. I'm just wondering what guys like that are actually doing, but I guess I will ask him.
More...

"options on the SPX at the CBOE." Most option market makers trade in a similar fashion. They make markets to the 'public", one or two sided, then trade the order flow. If they think prices are too high, they lean on the offers. Too low they raise their bids. They tend to trade delta neutral, but don't have to hedge every trade at trade time. They can either auto hedge or not, everyone is different. But in general they make their money by position trading order flow at prices they want to play.

MM don't generally look to do spreads or they only care about prices of each option vs the underlying and the market. Like a bookie, they don't care on a single trade, or bet, what side you take. They want everything priced to their advantage and control risk.

You can't trade like them so it's not worth putting too much time understanding into electronic market making. You need to develop a strategy that can work with your capital, risk tolerance and return exceptions.

1245
 
Quote from chicagodon:

Thx Mav.

I guess what I meant was what are places like CTC or professional options players doing to earn, I know it varies widely though. Doesn't seem like they are directional based strategies, but more spreads, thats kind of what I meant with the box arbitrage, but thanks for clarifying it more. I've been playing around with calendar spreads with a little success.

I found a copy of a book by Charles Cottle, its his .pdf of 'should of could have trades', its a little over my head. I thought about ordering his other book that expands on it more, or maybe trying out some of his classes he offers, but again not looking to go pro yet, just wanted to dip my feet a little more. I noticed in his pdf he mentions how a trader can put on a new position after his initial position has gained nicely to protect his profits but also stay in the trade. Its things like that I feel are hard to gain from books alone.

My brother in law is a trader, and he is reaching out to a friend of his that does trade options on the SPX at the CBOE. He didn't know many more details. I'm just wondering what guys like that are actually doing, but I guess I will ask him.
More...

Options are all HFT now. In essence, the HFT's are doing what the floor guys use to do, they are just doing it much faster. Almost all Chicago option firms are market makers and more of the HFT variety.

I'll walk you through a real quick example. XYX is trading at $100. The Sept 100 calls are currently 2.25 at 2.35 let's say. Fair value is 2.30. There is 500 up on each side. When the stock ticks down to 99.80 an algo spots sitting order at 2.25. What "you" will see if you are watching it is the market changes to 2.20 at 2.35 with 500 on both sides but there is a little old 2 lot sitting at 2.25 still. That is a static limit order from mom and pop. It's not updating with the underlying. So the algo sees this and sees food. Now the stock returns to $100 and the market is 2.25 at 2.35 with 500 on both sides. But inside the 500 the algo now knows there is a 2 lot sitting there. That 2 lot is going to get picked off the second we see the stock move lower then 99.80. The problem is, to get that order you better be super fast because it's going to be free money. Sure enough the stock trades down to 99.60 and the market is now 2.15 at 2.25. That 2 lot is gone. It was picked off. To the naked eye you will not notice it unless you have the time and sales in front of you in which you will see the two lot print at 2.25. Otherwise it will look like the market just updated from 2.25 at 2.35 to 2.15 at 2.25 with 500 up.

These algos do this all day long and there is lot of free money there. A LOT! But algos are not putting on "calendar spreads" or "butterfly" spreads or box spreads, they are picking off orders. Guys on the floor did this for years. It was free money then and it's free money now, but you have to be fast. There really is no "trader" do this, it's all a machine. The people who work for these firms either program the algos or watch them and make sure smoke doesn't come out of the machine. It's pretty boring work. Hope this helps.
 
Thanks for the responses.

So for the professional traders with options, are they doing the same trade most of the time, the same spread on the same product and making adjustments along the way?

From what I could gather my brothers buddy is more of a delta neutral floor trader, so maybe he is doing what 1245 suggested?

I guess this is my dilemma and was hoping someone could shed a little light on how they did it. I've read the books, understand the core concepts, but then I read stuff by Charles Cottle Coulda Woulda Shoulda and I think to myself I don't know sh*t on the practical side of making money with options. Are there classes at the CBOE that I could take, not online classes but more classroom style? Suggestions on how I might be able to meet a group of traders where if I put money up 50-100k I'd be able to trade with them to learn as I understand clerking is a thing of the past nowdays? Any insight would be appreciated.
 
Quote from chicagodon:

Thanks for the responses.

So for the professional traders with options, are they doing the same trade most of the time, the same spread on the same product and making adjustments along the way?

From what I could gather my brothers buddy is more of a delta neutral floor trader, so maybe he is doing what 1245 suggested?

I guess this is my dilemma and was hoping someone could shed a little light on how they did it. I've read the books, understand the core concepts, but then I read stuff by Charles Cottle Coulda Woulda Shoulda and I think to myself I don't know sh*t on the practical side of making money with options. Are there classes at the CBOE that I could take, not online classes but more classroom style? Suggestions on how I might be able to meet a group of traders where if I put money up 50-100k I'd be able to trade with them to learn as I understand clerking is a thing of the past nowdays? Any insight would be appreciated.
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http://www.cboe.com/LearnCenter/Default.aspx


I'm fairly new to options so I will leave it to the more experienced members to advise you.

For me, books only took me so far. Trading with real money on very small size and exhaustively analysing all positions daily has actually helped me a lot more than the books could. Theory only gives you a basis on which to really learn.

I still do the analysis even after I close a position, until expiration, so that I can see what actually happens. And anytime I'm curious about something, I'll put on a small position for 50 or 100 bucks debit and let it run to expiration day. Some people can paper trade, I can't.

Edit:Sorry, mistake in URL
 
Quote from chicagodon:

Thanks for the responses.

So for the professional traders with options, are they doing the same trade most of the time, the same spread on the same product and making adjustments along the way?

From what I could gather my brothers buddy is more of a delta neutral floor trader, so maybe he is doing what 1245 suggested?

I guess this is my dilemma and was hoping someone could shed a little light on how they did it. I've read the books, understand the core concepts, but then I read stuff by Charles Cottle Coulda Woulda Shoulda and I think to myself I don't know sh*t on the practical side of making money with options. Are there classes at the CBOE that I could take, not online classes but more classroom style? Suggestions on how I might be able to meet a group of traders where if I put money up 50-100k I'd be able to trade with them to learn as I understand clerking is a thing of the past nowdays? Any insight would be appreciated.
More...

My old firm was kind of what you were looking for but nowdays, JBO's are kind of out of favor. You can get similar margin in a portfolio margin account.

There are no classes and there is nothing to really teach you. Trading options is like anything else, you have to work hard at getting knowledge, you have to put in the screen time, you have to have the capital, it helps if your smart and mathematically inclined, and for most retail guys, better be good at trading direction.

Check out Jeff Augen's books. His books are kind the new school for options. He is light on theory and heavy on practical use. His stuff you can put to work right away.

Look man, the markets change. The time to do what you wanted to do was the 80's and 90's and and even early 00's. Today is an algo driven world. Options are great tools and I trade them almost exclusively, you just need to be a good trader. And that is going to take years of ungodly amounts of work and effort.

I'm not trying to discourage you, just trying to give you the truth.

http://www.amazon.com/s/ref=a9_sc_1...en&keywords=jeff+augen&ie=UTF8&qid=1376342555
 
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