Writing options for a living

Profitaker · Aug 5, 2005

Quote from chiguy:

options are mostly math and part intuition...would you not agree...

It's actually the other way around. And how exactly could you expect anyone to predict your options trade when you hadn't given your view on the stock ?

Quote from chiguy:

just fishing for the "experts"...

LOL !

Quote from Walther:

Is IV the only thing you are using to place options trades ? I highly doubt that this could be profitable.
There is much more to know than mere IV.

"Mere IV" (?) You'll be fishing a long time I suspect !

Samson77 · Aug 5, 2005

Quote from Prevail:

I can appreciate your point, but there are times if you are long the stock it will be less costly to not buy the put or sell itm calls when iv implodes if everyone also anticipates a strong down move.

How far of a point move did the underlying make while you were in your position and how much did the put gain?

Yes I understand this point and it is valid but like I said earlier SOMETIMES options are expensive because they should be.

In the case of writing I have to agree that knowledge of the greeks would be very helpful as "Inandlong" stated but the direction is still 70% of the trade in my opinion.

MajorUrsa · Aug 5, 2005

Quote from dummy-variable:

you're arguments are all very cogent and logical and i don't disagree or have a simple reply.

but let me toss another thought (or half-thought) out. what if the intended position is ultimately the butterfly as riskarb has suggested. the position is legged over time by embracing an unknown but reasonably controllable set of risk factors with the intention to lay those risks off as the market permits or forces. it can be built any number of ways: buy the strangle first, trade the verticals initially, just buy or sell a single leg, etc. but the ultimate goal is the same: own a fly for less cost than current market value.

each individual trade is a discreet negative expectancy event and as you imply can be looked at without regard or memory of what happened previously.

but still the trader has retained these memories and in fact has planned to incorporate them into the ultimate position. so the relationship is now more complex. and indeed the sequence of trades and the history of what happened now has the utmost relevance.

now put a twist on this. say i enter a trade randomly. after sometime the market has moved in one direction or another and any number of variables has changed. yet i have that initial trade and i now have to do something with it. i will seek to either close it or adapt it by incorporating it into a new position based on whatever is available to me now. i may or may not construct a butterfly. but the fact that i didn't have a plan initially does not negate the relevance of the past trade for my decision process. my goal is still the same: own something at a net cost less than current market price. i am not making predictions about the future exactly, i'm employing my skills and experience to set up moves that take advantage of possible scenarios. kind of like a master chess player that plans a move based on mentally rehearsing groups of potential sequences.

maybe this is the definition of trader skill. the ability to adapt to circumstances using vehicles that in isolation are completely random negative expectancy events. it has nothing to do with having an opinion about the future but has everything to do with knowing the dynamics of options and managing their risks.

Thanks Mike, this makes a lot of sense to me and I'll probably use the weekend to digest it. The concept of a strategy depends of course on it having a target. I can see that having targets, maybe secondary and tertiary targets as well and skillfully switching between them as you go can have a positive 'expectancy'. Good one.

OK, that got a bit esoteric. Therefore one other practical example referring to the earlier debate of selling vs. buying. And related to the example Mike uses here.

Suppose I want to own a (iron) butterfly and you want to leg in the straddle and the strangle separately. You could first sell the straddle and wait for the strangle to become cheaper than the wingspan, or the other way around, first buy the strangle and then wait for the straddle to bring in enough to cover the wingspan.

Is either of these methods considered better/more attractive by you guys? This dilemma models the gamma vs. theta question rather nicely I think. And also shows two strategies to reach the same target. Maybe these strategies have different expectancies, in which case we have proven there is such a thing as a strategy having an expectancy.

Intuitively I'd prefer the first method, because it seems more difficult to overcome theta in the second case. Of course the second method starts out a lot safer, gamma-riskwise.

Ursa..

palawan · Aug 5, 2005

Quote from torontoman:

Wait a minute! About the underlying, when selling otm options, you don't have to be too accurate on the underlying. You don't have to know where it will go, but you have to know where it will not go. That's easier to predict...or am I an idiot.

i think what you're saying here is that you can collect those deep out-of-the-money premiums because there's no way the underlying will go there? based on 3 or more standard deviations calculated based on price movement per day, per week, per month, etc.?

http://www.gladwell.com/2002/2002_04_29_a_blowingup.htm

from personal experience:

someone sold (or maybe it was just an MM who turned around and hedged it right away or maybe someone who owned 700 shares+) 7 CME Sept 260 calls back on Apr 28 when the stock was at around low 190's. easy money... 1.5 each call. $1000 for sitting tight for 5 months and knowing that there is no way the CME stock can move 70 points up. i've sold the calls already (when the stock was much less than where it is now).

funny anecdote was that i told a co-worker about it a week after i put the position and he wasn't able to control his reactionary laugh. he wasn't trying to be mean, but come on, he couldn't imagine CME moving 70 points up in five months. by the way, he owned 100 (or 200) shares of CME when it was around 220 and then it backed down to 170... i think he sold for a loss around 180.

so, when you say "you just have to know where it will not go", i'll have to say back to you that i don't know where it will not go. apparently, victor niederhoffer didn't either. twice.

Good Luck.

dummy-variable · Aug 6, 2005

Quote from majorursa:

Suppose I want to own a (iron) butterfly and you want to leg in the straddle and the strangle separately. You could first sell the straddle and wait for the strangle to become cheaper than the wingspan, or the other way around, first buy the strangle and then wait for the straddle to bring in enough to cover the wingspan.

Is either of these methods considered better/more attractive by you guys?

i use both methods depending on the volatility of the underlying. if IV is relatively stable or declining i prefer to short the straddle first. but in a rising IV environment or with just a highly volatile stock, i prefer to buy premium first.

it's coincidental but i have used this strategy frequently on GOOG. my usual approach has been to leg the verticals when GOOG is going through one of its wacko phases. i have been able to put on countless flys for a credit (traditional NOT iron flies) with this method. most of these positions just die off way OTM but since i leg them for a quarter or $0.50 i don't really care. i've also built flys and condors in GOOG by buying OTM timespreads, i go far enough out to pay about $2 or $3 for each calendar strike. i'll then trade either the front month to have a time fly/condor or just leg into the back month position and eventually let the front month short strangle die. i'm generally reluctant to be short units in a stock like GOOG but now is really as good a time as any to take the chance.

Walther · Aug 6, 2005

One does not to be concerned with IV at all . Just look at the action of the underlying and place a credit spread( to determine your risk ) when you think that reversal is eminent .

Profitaker · Aug 6, 2005

Quote from Walther:

One does not to be concerned with IV at all . Just look at the action of the underlying and place a credit spread( to determine your risk ) when you think that reversal is eminent .

Unbelieveable !

The dollar cost of an option is almost irrelevant; itâs the implied volatility value that is the only true cost measure. In the âedgeâ debate on this thread IV has been dismissed many times just because the future volatility cannot be known in advance. While obviously this is true, you still need a view on volatility even when attempting to trade directionally. For example, you may be bullish on a stock â would you sell the Put or buy the Call ? Well, my decision would depend on whether I thought IV was expensive or cheap; if I thought expensive Iâd sell the Put, cheap and Iâd buy the call.

Long or short an option, the underlying has to move by more than the time value to generate a profit or loss respectively. The time value element of an option IS implied volatility.

Iâll get back under my stone !

Choad · Aug 6, 2005

Quote from palawan:

i think what you're saying here is that you can collect those deep out-of-the-money premiums because there's no way the underlying will go there? based on 3 or more standard deviations calculated based on price movement per day, per week, per month, etc.?

http://www.gladwell.com/2002/2002_04_29_a_blowingup.htm

Interesting how Taleb seems to now be a victim of his own theories!

I suspect the last few years bled his fund. He needed the volatility and 3+ sigma moves...and didn't get them. He got nailed by the reverse Niederhoffer.

For Taleb to think he could survive by waiting patiently for huge moves, was as wrong as VN thinking he could avoid them.

Samson77 · Aug 6, 2005

Quote from palawan:

i think what you're saying here is that you can collect those deep out-of-the-money premiums because there's no way the underlying will go there? based on 3 or more standard deviations calculated based on price movement per day, per week, per month, etc.?

http://www.gladwell.com/2002/2002_04_29_a_blowingup.htm

so, when you say "you just have to know where it will not go", i'll have to say back to you that i don't know where it will not go. apparently, victor niederhoffer didn't either. twice.

Good Luck.

Let me clear something up!

No one knows where any stock will go or what the market will do for certain .... no one!

The best you can do is understand the dynamics of the current market condition and know when and where the current market condition has changed.

If you can do this you can make a living selling or buy options or stocks or futures.

This to me is first and foremost and all you MATH guys are just trying to figure out the same thing but we use a different model to make this decision but it seems to me a chart is a heck of a lot easier to figure this out on but that's just me and I never had a strong mathematical mind for numbers crunching.

So at the end of the day the answer to the original poster is YES ... once you have the ability to use probability to your advantage either through a chart or a mathematical equation you can make a living from trading.

Would everyone agree with this?

riskarb · Aug 6, 2005

Quote from Samson77:

Would everyone agree with this?

No, I received a signal to go massively-long on 9/10/01... how do you think that would've turned out if I'd sold otm puts as a long proxy?

You're selling a stop-loss when selling premium, especially otm premium. Your system may be the SHIZNIT, but it only takes one macro event per decade to wipe you out, regardless of how robust the methodology. The hit rate of the directional + options system is immaterial. The unlikely but constant threat of going debit isn't normally associated with earning a living.