What is the value of knowing the theoretical price as a retail?

[ajacobson]

Not being a dick - if you sell expensive and buy cheap and don't neutralize the trade you will make money frequently and die from any event. Go look at my chapter on volatility in "Master Traders". If you neutralize the trade and even trade around it it's hard to do it profitably without size. I would also read Black Scholes to Black Holes or Natenberg.

 

[NeedToLearn]

Sorry could you explain what you mean by "by accident"?

Like if someone fat fingers extra 0's in their order and the option ends up trading way above ask price, even above ask price of the next strike. Not that it happens often.

 

[ajacobson]

"Like if someone fat fingers extra 0's in their order and the option ends up trading way above ask price, even above ask price of the next strike. Not that it happens often."

That's why they have an obvious error rule.

 

[Atikon]

Not being a dick - if you sell expensive and buy cheap and don't neutralize the trade you will make money frequently and die from any event. Go look at my chapter on volatility in "Master Traders". If you neutralize the trade and even trade around it it's hard to do it profitably without size. I would also read Black Scholes to Black Holes or Natenberg.

I will take a crack at it, thank you. I only trade defined risk for that very reason. Market drops 20% my max loss should be no more than 17% (all puts itm) when trading delta neutral, since downmove>IV Increase effect on the Call Side.

 

[taowave]

Not sure where you are going with this...

Other than 2 way flow(and OPM),the distinction between "big firm" vs "retail"is meaningless...

Its a question of being gifted or challenged/good or bad..

Forget about your proprietary model. There are stocks out there which will have mispriced options relative to other strikes.Its typically not for size,but if you are somewhat adept/nimble and can split the market on another strike to hedge,you can pick up nickles and dimes all day long.

bang out the rich bid/take the cheap offer,hopefully split a market to hedge and more often than not you can put a spread order in to flip the position and "make your edge".

If you cant immediately get out,then you become the market maker and trade around it...

Forget about the big firm arbitrage advantage on listed options.That exists in your head..The playing field is level..

Suppose I've written a piece of software that calculates the theoretical price of an option using a model. I can then calculate an entire theoretical option chain for a given underlying, estimated volatility, interest rate, dividend, etc similar to a dope sheet you'd give to a floor trader to make markets.

Suppose then that I discover an option (or perhaps a set of calls and puts) are not priced correctly for the market under my model. How would a retail take advantage of this? For a big firm it makes sense because you could make a market on that option and arbitrage the difference away. But for a retail does this advantage really matter?

For example, a common retail strategy is to look at the VIX and compare it to SPX options IV for a given strike and month. If VIX is in disagreement with the volatility of an option that is a "mispricing" you can take advantage of by selling or buying an option and hedging away the greeks you dont want (iron condors, for example).

But in my example this is completely different. I know an option's theoretical value. If it's wrong it seems that the retail would only be able to take advantage of this through something like the VIX strategy above, rather than some sort of real arbitrage due to the inability to make a market using the price you've calculated.

Curious what options experts here think. It's been a slow sunday on my side of the world.

 

[taowave]

Yes indeed...
Ill let you guys in on a secret..

In a stock like TSLA,should one be so inclined,you can GRIND out 500 bucks per day picking off relatively mispriced options..I hear the algo story,but I beat them to the punch all the time.In fact,they are my friends...

Im not bullshitting anyone,and the only reason I mention a specific stock is due to the fact that trading TSLA to pick up nickels and dimes is freaking exhausting and a distraction to the bigger picture..

Theoretical is well... theoretical. Options chain are completely run by algos. There isn't really an arbitrage opportunity to be made off of theoretical value someone else calculates because they "believe" this is the right method. That being said, once in awhile an option trades way out of price by accident relative to other strikes.

 

[BlueWaterSailor]

In a stock like TSLA,should one be so inclined,you can GRIND out 500 bucks per day picking off relatively mispriced options..I hear the algo story,but I beat them to the punch all the time.In fact,they are my friends...

Im not bullshitting anyone,and the only reason I mention a specific stock is due to the fact that trading TSLA to pick up nickels and dimes is freaking exhausting and a distraction to the bigger picture..

I was actually starting to come around to that conclusion - playing around with gamma-scalping in TSLA, and wondering why my model was coming up with weird pricing vs. my platform. Spent a bunch of time thinking it was me screwing something up...

I hadn't reached the point of "hey, maybe I could make money with this!" yet, but I'll keep my eyes open to it now. Thanks, @taowave !