Option replication and exotics journal

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GBPUSD barrier[binary k/o call] -- 1.8052
Premium: $32,000 USD
Payout: $50,000 USD [includes prem paid]
Expires: Aug 16, 2005 at 10am EDT settle
Negative edge: $2,600 USD

Long $1mm GBP/USD from 1.7844 into the no touch call -- short synthetic binary straddle. Loss of $32k debit if 1.8052 is touched.

GBPUSD barrier[binary k/i put] -- 1.7600
Premium: $5,200 USD
Payout: $25,000 USD [includes prem paid]
Expires: Aug 16, 2005 at 10am EDT settle
Negative edge: $650 USD

Sell stop on my 1mm GBP spot position. Earns the $25k payout if 1.7600 is touched.



Summary: A short binary synthetic straddle w/stop; or a long GBP spot with risk-reversal[collar].
 
Hello Riskarb.

Can I ask you why you prefer trading exotics rather than vanilla options? I understand the differences between exotics and vanillas but I sometimes fail to see why exotics can be more attractive to trade.
For instance with your position on GBP/USD, why trade a k/i put and a k/o call instead of setting up a collar with vanillas (IOW why do it "synthetically"?)? You'd have roughly the same position in terms of risk and greeks, right?
Is it because exotics are a better instrument when combined with stops on the spot position (if GBP hits 1.76 for instance)?

Very interesting journal BTW...
 
Quote from kalashnicac:

Hello Riskarb.

Can I ask you why you prefer trading exotics rather than vanilla options? I understand the differences between exotics and vanillas but I sometimes fail to see why exotics can be more attractive to trade.
For instance with your position on GBP/USD, why trade a k/i put and a k/o call instead of setting up a collar with vanillas (IOW why do it "synthetically"?)? You'd have roughly the same position in terms of risk and greeks, right?
Is it because exotics are a better instrument when combined to stops on the spot position (if GBP hits 1.76 for instance)?

Very interesting journal BTW...
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The exotic doesn't make the position synthetic. The inclusion of a spot position is analogous to a vanilla synthetic straddle:

Long GBP future // short 2* GBP 1.7xxx calls [synthetic 1.7xxx straddle]

1) Leverage, which is a function of 2) debit haircut for short gamma+vega under truncated-greeks. Since the payout is inverse to vol, these positions carry incredible leverage when vols increase. Obviously they're highly sensitive to vega, and the gamma is profound near the event. 3) OTC conventions; pick your strike and expiration. I can replicate gamma through futures/spot as the 7d positions are virtually all gamma and zero vega. No need to pay additional edge in vega hedging.

Trading these incurs a ton of edge-loss when initiated, but I model a day's decay to be certain I'll be +edge within the first 24h under static vol + spot. A Double Barrier [K/O] is the short gamma equivalent of the Powerball lotto.

The K/I options are used in 24h markets like FX where my stops could be run.
 
Quote from riskarb:

Bought the Sep 280/320 outside strangle at $8.00 -- $2.70 risk on the fly from inception.

Vols are 27[28%] on the body[wings]. Have no intention of replicating the original straddle or adding any new positions in GOOG.
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Did you complete because your target was (almost) reached or any other specific reason (about GOOG)?
What would be the value of a new iron fly today?

Very interesting, exotics too. I lag a bit behind you, so maybe in 10 years... :)

Ursa..
 
Quote from MajorUrsa:

Did you complete because your target was (almost) reached or any other specific reason (about GOOG)?
What would be the value of a new iron fly today?

Ursa..
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I didn't like the trade below 290. Position earns well if/when GOOG returns to 300 as a fly. Didn't see any reason to hold cheap[er] naked gamma. The iron is trading at $5.80 fair-val. There was only a few dimes in edge in converting/offset... so I know what you were getting at. ;)
 
Quote from riskarb:

I didn't like the trade below 290. Position earns well if/when GOOG returns to 300 as a fly. Didn't see any reason to hold cheap[er] naked gamma.
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Agreed.

So you didn't consider hedging/rolling? That would'v been my dilemma.

Now you have the iron, would you consider closing the body any time in the future, or is this always an expiration run?

Thanks for the peek in your kitchen,

Ursa..
 
Quote from MajorUrsa:

Agreed.

So you didn't consider hedging/rolling? That would'v been my dilemma.

Now you have the iron, would you consider closing the body any time in the future, or is this always an expiration run?

Thanks for the peek in your kitchen,

Ursa..
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The fly offers clarity of risk-reward, if nothing else. There is no point in defining the risk-reward in a straddle as the risk is unbounded. Now risk-reward carries some relevance as the position is bound.

Had a $2.80 gain on the straddle. The wing-vols came in a bit more than the body, making the fly a bit better than even-choice. I'd look to earn at least 2* my risk-basis, and then multiples thereof.
 
Quote from riskarb:


Had a $2.80 gain on the straddle. The wing-vols came in a bit more than the body, making the fly a bit better than even-choice. I'd look to earn at least 2* my cost-basis, and then multiples thereof.
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The wings were 2.50 cheaper than when you started the straddle, so that seems like a good deal.

I'm not sure about the latter sentence; what would you consider your cost-basis, because you still own a credit of 17.30 if I'm right. Or do you mean the 2.70 risk, and multiples?

Ursa..
 
Quote from MajorUrsa:

The wings were 2.50 cheaper than when you started the straddle, so that seems like a good deal.

I'm not sure about the latter sentence; what would you consider your cost-basis, because you still own a credit of 17.30 if I'm right. Or do you mean the 2.70 risk, and multiples?

Ursa..
More...

Multiples of the risk. It's easier to refer to them by the call or put, debit-variety. Edited post to read, "risk basis"
 
The exotic doesn't make the position synthetic. The inclusion of a spot position is analogous to a vanilla synthetic straddle:

Long GBP future // short 2* GBP 1.7xxx calls [synthetic 1.7xxx straddle]
More...

OK

1) Leverage, which is a function of 2) debit haircut for short gamma+vega under truncated-greeks. Since the payout is inverse to vol, these positions carry incredible leverage when vols increase. Obviously they're highly sensitive to vega, and the gamma is profound near the event. 3) OTC conventions; pick your strike and expiration. I can replicate gamma through futures/spot as the 7d positions are virtually all gamma and zero vega. No need to pay additional edge in vega hedging.
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1) & 2) OK. But when you buy a k/i put and a k/o call, you have long gamma/vega with the put and short gamma/vega with the call-correct me if I'm wrong. One option offsets the other...
Besides, being long put/short call on vanillas is high leverage too. If there is an underlying position in the opposite direction, there is no unbounded risk.
3) With forex options, you get to pick your strike and expiration as well. Got your point about no vega hedging being required.

A Double Barrier [K/O] is the short gamma equivalent of the Powerball lotto.
More...

Yes that's why you have been hedging your Dax exotics so actively, I imagine. :D
 
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