Question About Options Risk

P

Pa(b)st Prime

Let's say you have 170k in your options account and these are your positions. These are S&P futures options. (250xSP)

Calls. All shorts.

1 Jan 1480 1.20
1 Jan 1490 1.40
1 Feb 1480 1.80
3 Feb 1485 1.90
2 Feb 1495 2.50

Puts. All shorts.

4 Feb 1330 3.60
1 Feb 1350 2.80
1 Feb 1360 3.00
3 Mch 1330 3.70

What's the risk on an immediate (unhedgable) 50pt move in futures?
 
Down would be worse because IV would rise substantially. The biggest guess is what IV will do. In Oct '89, it doubled on the first bad day, tripled on the second. Current IV for ES on those puts, at least, is around 15%. So, let's assume it jumps to 30%

A move to 1382 with the IV jump would cause the options to move to:

Feb 1330: $23.49
Feb 1350: $30.82
Feb 1360: $34.53
Mar 1330: $38.77

So, your unrecognized P&L on the put side would be:

Feb 1330: -$19890
Feb 1350: -$7005
Feb 1360: -$7882
Mar 1330: -$26303

Or, $61,080. You'll make a few bucks on the calls, but you can't make more than $3775 which is their total value. And, with the IV jump, you'll probably make much less than that.

Of course, that assumes the options market remains liquid, and IV only jumps 100%.
 
Quote from FullyArticulate:

Down would be worse because IV would rise substantially. The biggest guess is what IV will do. In Oct '89, it doubled on the first bad day, tripled on the second. Current IV for ES on those puts, at least, is around 15%. So, let's assume it jumps to 30%

A move to 1382 with the IV jump would cause the options to move to:

Feb 1330: $23.49
Feb 1350: $30.82
Feb 1360: $34.53
Mar 1330: $38.77

So, your unrecognized P&L on the put side would be:

Feb 1330: -$19890
Feb 1350: -$7005
Feb 1360: -$7882
Mar 1330: -$26303

Or, $61,080. You'll make a few bucks on the calls, but you can't make more than $3775 which is their total value. And, with the IV jump, you'll probably make much less than that.

Of course, that assumes the options market remains liquid, and IV only jumps 100%.
More...

Many thanks. I guess this position defines the adage about premium sellers picking up nickels in front of a steamroller......
 
A couple of comments, a few question and a few thoughts...

One: The Fs expired today. Writing options with only one day remaining in their life requires some pretty specific conditions or selections in order to be profitable.

Two: Who in their right mind would allow the SP to move that many points without doing something about it?

A few questions:
What criteria did you use to select the strikes to short, which market to short them in and/or how much time value should be in the option you select -and- what is the quality of that time value?

Fwiw:

There are better risks to take than not betting because the worst (though the worst could, does and might happen... and worse) might happen.

One thought is to use this basic formula which can help you define your edge as it relates to the potential for a desirable outcome over the long haul. Namely calculate your Probability Success x Expected Payoff versus Proability Failure x Expected Loss. Proceed accordingly. In the case of short options, one simple way to begin defining the likelihood of one ending up ITM is to use the option's Delta. No guarantees, every approach has it's pros and cons. This is just one way to begin working in those terms. Identify other means of stacking the odds in your favor. Ie. Write when IV is at the high end of a range. Write far enough OOM so you can mount a defense. Write them w/ enough time remaining so you can mount a decent defense -or- write them with 5 or 6 weeks before expiry (thus taking advantage of the way IV melt tends to accelerates a few weeks before expiry). Ratio Write OOMs. Whatever. Then know the strengths and weaknesses of whichever approach you take and prepare a defense that says you'll do A if the market does B for as many scenarios as is relevent.

Just a thought. If you are already more advanced than this I apologize for the over simplicity. I only responded to your last post because much about this whole business is like standing in front of a train. Picking your battles and not getting that "deer in the headlights" paralysis is part of being able to make money and survive.

Peace and gtty,

Lar
 
Another couple of thoughts... fwiw.

Although linking exits with entries is bad form, it seems to me that you suggest they are existing positions though you didn't mention what you sold those options for.

What is your main objective here? If its to define your risk properly there are additional elements to consider, even if you don't calculate or estimate them to the nth degree. Another set of objectives could be to decide if you are a) looking to respond to an unsatisfactory condition, b) looking to enhance ROI and/or reduce risk or c) deciding to take profit or hold. They each require a different approach and mindset.

Regarding risk:

The tails of Gaussian distribution are neither as fat nor as long as more accurate market price distribution models. In other words, even though you set your SP tolerance level at 50 points, the market can damage you deeper and longer than any arbitrary point we can pick even if the black swan event happens rarely. Many participants "never expecting the market to be capable of such a move" is actually a prerequisite for the black swan. Risk of Ruin is always present - the only variabilty is in how quickly or long it takes.

Funny though that most option pricing models are based on the standard distribution (aka Gaussian) curve. At least until IV (that FullyArticulate refered to) increases enough. What the market will bear, and maybe even then some, becomes God.

High IV can create good probability opportunities.

Pick your poison. Gotta be some kind of risk in order to bring the bacon home. Which risk will it be? I am a big fan of initiating positions when IV gets plumped up near the top of a historic range. Even though it could always go higher/further and screw me up. Never know. Win some - lose some. Part of the game.

All of this is JMHO and could likely be more helpful to me for putting it in writing, that for you in reading.

Peace and gtty,

Lar
 
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