The Perfect Option position

[uptik2000]

This is probbly one of my favorite threads to come along in a while. It has been making the mouse in my head spin the wheel faster. Sometimes I'd rather not think though. Just do 4 counts in my head swinging a 9iron into 20mph wind gusts.

So thanks to Mav and the other contributers for giving my brain a little work out.

Trade well.

 

[murray t turtle]

Quote from Maverick74:

Yeah but Nitro look, if you are actively trading an account every day, sure, commissions are important. But if you put on a position and hold it for 6 weeks, can you explain to me how commissions is going to hurt this trade. I mean, let's say you are looking to make 10k to 20k and you are paying $200 to $400 in commissions, how is this trade not viable.

I can understand a scalping strategy where a dime here or there can brake you but come on man, if you holding something for a month at a time, commissions are a non event regardless of the size of your position. What am I missing here?

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Maverick;
Since you asked concerning personal option business position;
dont see or figure how current commissions make much difference at all to swing/position traders/investors

 

[Maverick74]

Quote from nitro:

Maverick,

I am beginning to wonder if you are reading what I am writing. I have done that same thing in the past myself, so I cannot call the pot black.

Look at what I wrote above. I asked highfreq if it I even make reference to These two statements taken together I believe make it clear that I am inquiring whether "plugging holes" is a commission intensive operation, and if plugging holes is a dynamic process.

You are answering my question as if I had made a statement of fact instead of a question. I have no idea what the answer is!

So, if these kind of positions have holes as highfreq suggests and you need "dynamic" rehedging, commissions _may_ play a large part. If not, then the answer is that commissions _may_ not play a large part. I don't know the answer!

If your position has the profile you suggest below, then $400 in commission would be nothing. If on the other hand you need to spend $50 a day everyday for six months in commissions to rehedge your position, well, I don't need to do the math. Hence my original statement to you about getting killer commissions to do this type of trading.

Again, these are questions, not statements of fact as I have never put on a position like this on or tried to manage the associated "hole" risk that highfreq sheds light on.

nitro

Nitro, sorry, my bad. I didn't know you were referring to the commissions on the hedging vs establishing the position. No, there is no gamma trading until you get past the wings, then you have long gamma and could be scalped if you wanted to.

However, I disagree with highfreq about not knowing until expiration if your f*cked. Like I said in an earlier post, my preferred way to deal with the holes is trading verticals around the exposed wing. This is not very hard to. In fact it's very easy. I prefer to sell the vertical. In other words, stock XYZ is at $50 when you initiate the trade. At expiration, you will profit between 48 and 52 and anywhere above 56 and below 44 lets say. So let's say the stock is very strong and it's been trading between 50 and 55, right where your expiration risk lies. I would be inclined to sell the 50/55 put spread on the front month to close this hole. Now if the the stock closes anywhere above 50 I'm gold. It's a very simple adjustment, hardly commission intensive and removes the risk on that wing.

 

[amc3141]

Quote from Maverick74:

Can I ask you why you want to spread the Feb's against April? . . . [SNIP] . . .
The further you go out, the flatter the smile becomes.. . . [SNIP] . . . The idea of using the backspread on the deferred months is to allow you to have negative gamma for as much of the front month as possible. Your negative gamma exposure here will be minimal. Like I said, maybe you see something in the energies[SNIP]

the further in time you spread [say Feb vs Jun rather than Feb Apr], the more likelyit is that weather decouples the two months

 

[Maverick74]

Quote from highfreq:

Nitro,
This position doesn't require any gamma hedging; you won't know you're f^cked until expiration of the fly, therein lies the hole in the position. Commission isn't the issue; skew/smile and slippage are overriding concerns.

The problem lies in the arbitrary payoff of the fly and the term structure of gamma relating to the back month position. Neutral flys are expensive and there simply isn't enough back month gamma to compensate.

You would structure these in a stock in which you're expecting a lot of stat volatility, but then a simple backspread is preferable. Why trade a short gamma fly when you're expecting a large move?

Sometimes the best trade is to stand aside.

A simple backspread contains way too much risk. If the underlying doesn't move you will lose 100% of your money on the trade, that is unacceptable to me. Sure if it was a biotech going into an FDA meeting sure, I know I will get a big move and that's not a problem. But otherwise no way.

The purpose behind this strategy is it gives you the opportunity to profit from a 4 to 5 pt range in the center if the stock doesn't move. The purpose of having the fly on is for insurance. You are buying dead stock insurance. If the stock doesn't move or if it gets pinned to a strike, it allows you not only to not lose money but to actually make a handsome profit while still being in an unlimited reward position.

I agree with you on slippage being a concern but I have always been able leg into these for even and sometimes for a credit. Again, not that hard to do. I mean we are traders right, that's what we do, trade. LOL.

As for the skew, I always get a chuckle out of this. For those of you that are wondering how much money we are talking about, we are talking about a nickel, maybe a dime at the most in skew. It really does not hurt your bottom line, I look at it more like a commission cost. Again, not that big of a deal.

Well, those are my thoughts. I welcome any additional criticism. This is a fun thread.

 

[Maverick74]

Quote from amc3141:

the further in time you spread [say Feb vs Jun rather than Feb Apr], the more likelyit is that weather decouples the two months

OK, like I said I will stay out of the commodity options discussion as that is not my forte. LOL.

 

[highfreq]

Quote from amc3141:

the further in time you spread [say Feb vs Jun rather than Feb Apr], the more likelyit is that weather decouples the two months

Time spread risk is defined by the term structure of stat-vol, and implied-gamma. Back months exhibit much less stat-vol than the front month. It's typically a simple matter of trading the futures time spread to reduce/eliminate the term-structure anomaly.

 

[Vixpills]

It is impossible to be positive gamma if you are theta neutral or positive. positive gamma requires negative theta and vice-versa. if you want to be theta neutral, you have to be gamma neutral. Simulate all the possible positions, you'll see. You're position must have a negative theta if your gamma is postive.

 

[Maverick74]

Quote from Vixpills:

It is impossible to be positive gamma if you are theta neutral or positive. positive gamma requires negative theta and vice-versa. if you want to be theta neutral, you have to be gamma neutral. Simulate all the possible positions, you'll see. You're position must have a negative theta if your gamma is positive.

Vix, this has been stated on the fist post on the first page of this thread. The position has a tri-modality structure that actually flips over twice. The position goes from long gamma to negative and back to long past the wings. The inverse is true of the theta. I think everyone on the options forum is away of the inverse relationship of gamma/theta.

 

[RiskDoctor]

Sell strangles or straddles and buy more further out (in distance) strangles (same month) in such a ratio that you still have positive theta. This postion will need adjusting over time as the closer to the money options' gamma grows and the further away options' gamma dwindles.

This can also be achieved by bying some just OTM options on both sides of the market and financing the most of or more than the purchase price with the sale of OTM vertical credit spreads. See the attached SlingshotHedge article to evolve your thoughts on this.