Overnight Strategy for surprise events (ER's etc.)

[mutluit]

Quote from kapw7:
The point I am trying to make without getting into a lot of detail that I don't know very well is that when you buy (or sell) a fairly priced option then the best you can expect is to break even if your pricing is as good as the market's. If it's worse you will lose and if it's better you might profit. My understanding is that usually the market has the best possible price so it is impossible to beat that.

That's why I am asking what do you think is giving you an edge and obviously you wouldn't reveal this in detail but maybe give us a better idea.

I'm just playing around some constructs, ie. at the moment it's just some theoretical work.

 

[mutluit]

Quote from newwurldmn:
Ground breaking ideas here.

Am i missing something or did you just show the payout of a straddle?

Yeah, sort of...

Quote from newwurldmn:
Are you saying that you have an edge because you are using black-scholes?

Nay

 

[mutluit]

Quote from kapw7:
In your example, before an earnings report usually the IV is increasing a lot. So if you put something like 60% as your vol value then your "profit zone" is going to become narrower.

But: the rise of the IV means that all options that were bought before will gain in their premiums.
So, conclusion is: the market makers cannot artifically increase the IV that much...
Isn't it?

Example: premiums (theoretical prices) of a 20% vola option and of a 30% vola option:

Spot=100 Strike=100 ExpDays=40 IRpct=0.5% VolaPct=20% --> Call=3.210150 Put=3.131129
Spot=100 Strike=100 ExpDays=40 IRpct=0.5% VolaPct=30% --> Call=4.793769 Put=4.714749

That's:
C increase = 49%
P increase = 50%


So, if volatility rises, then both Calls and Puts become more expensive, so people who bought earlier will profit from the increase of the IV... Therefore MMs cannot increase the IV as they would like to, IMO...

...and that means the strategy could indeed work...

 

[kapw7]

Quote from mutluit:

But: the rise of the IV means that all options that were bought before will gain in their premiums.

That's true but as I said in the previous post you have to account for the time decay before the IV gain.
If you buy the option at 20% vol and it stays at 20% for 38 wdays and then jumps* to 60% and you sell it: will you make a profit or not? (I don't know the answer but you can play with realistic numbers and see how the P/L changes.
If you try to avoid time decay and buy the option 5 days before earnings then most likely the price will be already high.

Again that's not to say that it's impossible to make a profit.

Also I repeat that my posts are only for the sake of discussion from the point of view of a student not an expert.

*I guess a jump is not very realistic before earnings but it's simpler as an example. You can probably model a more realistic gradual increase in vol and check the P/L

 

[mutluit]

Quote from kapw7:
*I guess a jump is not very realistic before earnings but it's simpler as an example. You can probably model a more realistic gradual increase in vol and check the P/L

Preliminary calculations show that one then gets even much better results!...
Tested buying 2 weeks before the ER at vola=20% and taking >20% at ER date; 60% IV seems to give even exorbitant profits!

Will recheck the calcs and then post the result here soon...

Here's just one of the "least profitables"
for vola increase from 20% to 30% within 10 trading days, ie. 2 weeks (the more the IV increase the more exorbitanter the results become):

  10.00  110.00:   701.87
   9.00  109.00:   611.19
   8.00  108.00:   528.78
   7.00  107.00:   454.69
   6.00  106.00:   388.98
   5.00  105.00:   331.67
   4.00  104.00:   282.76
   3.00  103.00:   242.26
   2.00  102.00:   210.14
   1.00  101.00:   186.42
   0.00  100.00:   171.10
  -1.00   99.00:   164.22
  -2.00   98.00:   165.85
  -3.00   97.00:   176.08
  -4.00   96.00:   195.03
  -5.00   95.00:   222.86
  -6.00   94.00:   259.74
  -7.00   93.00:   305.87
  -8.00   92.00:   361.47
  -9.00   91.00:   426.74
 -10.00   90.00:   501.85

 

[mutluit]

I rechecked the calculations and couldn't find anything wrong.

My conclusion:
the increase of IV is obviously an advantage for the options holder,
and usually its added value overweighs multiple times the value loss caused by time decay.
This is based on calculations with 2 month options.