Got it. Interestingly, the odds prior to placing IC's doesn't really matter either. Most of the really good IC traders I know place their short strikes above and below major resistance/support. Odds of all options expiring really is irrelevent--they do not hold these positions to expiration anyway (too much negative gamma and no positive theta to hedge).
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Probability of expiration for an iron condor
- Thread starter sync
- Start date
Quote from panzerman:
Look, only one of three outcomes is possible in a strangle:
1) The price of the underlying is above the higher strike at expiration
2) The price of the underlying is below the lower strike at expiration
3) The price of the underlying is between both strikes at expiration
There is a 30% chance that either 1 or 2 will occur, and a 40% chance of 3 occuring. Both 1 and 2 cannot occur at the same time.
It's like that famous
Monty Hall problem
The probabilities for each of the three doors is 33.3%. The probability that the car is NOT behind the first door you choose is 33.3+33.3=66.6%.
Quote from jwcapital:
The underlying will touch your short strikes very often. What is important is what you do when that happens. Panic by closing the IC? Close the losing spread? Close the winning spread? Add another IC? Do nothing? Once the IC is placed, it is all about management; the odds of events occuring really mean nothing--especially since the greeks are dynamic, not static.
for each short strike consider alone, the prob of touch is 0.60.
most likely time to touch short strike should be lower than half the option life time.
Here is the math:
stdev = (ln(future_price/current_price))/(volatility*sqrt(days_til_expiry/252))
probability = normsdist(stdev)
The probability is the area under the curve to the left of the future_price. I generally calculate 20-day historic volatility, and find the probability for 20 days in the future.
Keep in mind this assumes the markets move in a perfectly random-walk fashion, which they most assuredly do not.
stdev = (ln(future_price/current_price))/(volatility*sqrt(days_til_expiry/252))
probability = normsdist(stdev)
The probability is the area under the curve to the left of the future_price. I generally calculate 20-day historic volatility, and find the probability for 20 days in the future.
Keep in mind this assumes the markets move in a perfectly random-walk fashion, which they most assuredly do not.
Quote from panzerman:
Here is the math:
stdev = (ln(future_price/current_price))/(volatility*sqrt(days_til_expiry/252))
probability = normsdist(stdev)
The probability is the area under the curve to the left of the future_price. I generally calculate 20-day historic volatility, and find the probability for 20 days in the future.
Keep in mind this assumes the markets move in a perfectly random-walk fashion, which they most assuredly do not.
i have no idea what your post is trying to say. it is not understandable. could you try one more time?
Quote from dagnyt:
30 % of the time the put is going to finish ITM. No disagreement on that point.
[...]
The question is how often the calls finish ITM. The answer is 30% of that 70%, or 21%
Thus one of the options finishes ITM 51% of the time. 60% is not the correct answer.
Mark, you know I'm the first person to back you up when you're right, but you're wrong on this one.
An easy way to see that you're wrong is that if you swap the calls and puts in your calculation, the put has a 21% chance of finishing ITM and the call has 30% chance of finishing ITM. Put another way, you have a 30 delta option finishing ITM 21% of the time, and which one it is depends on whether you think of the calls first or the puts first.
The actual error is in "30% of that 70%". The call finishes ITM 30% of the time, not 30% of 70% of the time. 30% of all market outcomes leave the call ITM. Being short a put can't change the probabilities for the call.
The guy who mentioned the probabilities of two mutually exclusive events had it right.
Quote from commiebat:
Mark, you know I'm the first person to back you up when you're right, but you're wrong on this one.
The guy who mentioned the probabilities of two mutually exclusive events had it right.
cb,
I decided it's time to learn a bit about probability theory and to my embarrassment, you are correct.
Sync, I apologize for the incorrect reply (twice). I did not grasp the important difference when events are mutually exclusive.
30 + 30 is indeed 60!!
Mark
Quote from jwcapital:
The underlying will touch your short strikes very often. What is important is what you do when that happens. Panic by closing the IC? Close the losing spread? Close the winning spread? Add another IC? Do nothing? Once the IC is placed, it is all about management; the odds of events occuring really mean nothing--especially since the greeks are dynamic, not static.
You are so right. One other option (pardon the pun) is to have a IC management plan in place to adjust as needed WELL BEFORE you get too close to a short strike.
IC's are so tantalizing because of the premium you can collect but they can turn on you in a heartbeat.
Have a plan.
After doing some more research I understand this point now. I see that if an IC has a 30% probability of expiring ITM, it actually has a 60% probability of going ITM some time during the trade.Quote from jwcapital:
The underlying will touch your short strikes very often.
I see now that trade management is quite complex.