Profile cover photo
Profile photo
Market Chameleon
3 followers -
Options Research and Trade Analytics
Options Research and Trade Analytics

3 followers
About
Market Chameleon's posts

Post has attachment

Post has attachment

Post has attachment

Post has attachment
Options Q&A: How do I hedge against option volatility risk?

Implied volatility is one of the most important factors in options pricing, and traders need to understand exactly how much that volatility is affecting the price of the option they are looking to buy or sell, as there is a great deal of risk associated with future changes in volatility.

Once implied volatility is taken into account, however, it is possible to shape options strategies to downplay the volatility risk.

The way an option's price reacts to changes in volatility is called vega. This is given as a number between zero and one, indicating the amount the price of an option will change for every 1% change in implied volatility of the option.

So an option with a vega of 0.5 will see its price rise $0.50 if volatility of the option rises by 1%. On the other hand, this option will see its price fall $0.50 if volatility drops 1%.

Vega for both calls and puts is positive. This is different from delta, for example, which measures how the price of an option changes when the price of the underlying asset changes. Delta has a negative value for puts and a positive value for calls. In order to create a delta neutral strategy, a combination of puts and calls can be used. It is also possible to hedge delta using a position in the underlying asset. For instance, going long a stock, but hedging by buying a put on that same stock.

This isn't possible when attempting to hedge volatility risk. Since vega is positive for both calls and puts, it is necessary to hedge vega using a combination of long and short positions. Also, it isn't possible to use a position in the underlying asset. Other option positions must be used to create a vega neutral strategy.

To hedge vega, it is necessary to use some combination of buying and selling puts or calls. As such, a good way to limit the volatility risk is by using spreads.

There is a wide variety of spread strategies. The main attribute of the technique is to combine long and short option positions for the same underlying asset. These can be done using different strike prices or different expiration dates, depending on how the investor is looking to profit from the trade. However, the fundamental aspect of the spread position is that it involves simultaneously buying and selling certain options. This can involve either all puts or all calls, or a combination of the two, depending on the structure used.

An example of a relatively simple spread would be a Bull Call Spread, which involves buying calls at a certain strike price, and simultaneously selling the same number of calls at a higher strike price. There are more complicated spread strategies as well, some involving a combination of calls and puts. Examples of these would include Iron Butterflies and Iron Condors.

For all of these, the fact that the strategy involves the simultaneous long and short positions leads to offsetting vega. Whether or not they are completely vega neutral will depend on the structure. But using spreads will limit the volatility risk in the trade.

Learn More

To learn more, visit https://marketchameleon.com and our educational section at https://marketchameleon.com/Learn/Introduction

Post has attachment
Options Q&A: Why did my call options decline if the stock price went up?

One of the biggest factors that go into option pricing is implied volatility. This fact is often underappreciated by newcomers to options trading.

It can also lead to some nasty surprises if it isn't suitably taken into account.

Beginners in option trading are often enticed by the ability to take long positions on stocks with a lower cash outlay than would be necessary than buying the stock outright. They may realize the time risk from the option expiration date, but within those confines, they view call options as equivalent to buying a stock.

This isn't true of course. Implied volatility plays a huge role in the pricing of options, and changes in implied volatility can have just as big of an effect on the price of an option as changes in the underlying stock price.

Because of this, it's often possible that one could guess right on the direction of the stock, but still lose money. They buy a call, see the stock rise before their call's expiration date, but still lose money on the trade. They are left scratching their heads, wondering what happened.

Almost invariably, the answer is related to implied volatility.

There is a premium priced into an option that takes into account the underlying asset's implied volatility. This is referred to as the "volatility premium." Simply put, implied volatility can be seen in option pricing as the potential for significant changes in the future. If you knew for certain that a stock was going to trade at the same price every day until expiration, options would revert to their intrinsic value -- that is, the difference between the stock price and the strike price. But as volatility goes up, the potential for that option to have more value in the future goes up.

So as implied volatility rises, the options price benefits. If it goes down, it drags on the price of the option.

This can lead to complicated results as changes in the price of the underlying asset and changes in the implied volatility both work on an option's price.

In order to see how this works, first a quick review: generally speaking, puts and calls are used to make opposite bets on the direction of an underlying asset. A call benefits when the price of the underlying asset rises, while a put benefits if the price falls.

As we've noted, the dynamic is different for implied volatility. Both calls and puts react similarly to changes in implied volatility.

For both puts and calls, a rise in implied volatility has a positive impact on the price. Meanwhile, a fall in implied volatility has a negative impact on both types of options.

This means that a call benefits most when both the price of the underlying asset and its implied volatility go up. Calls see the biggest negative impact from a decline in both.

For puts, the effects are split. If an investor is holding puts, the best situation would be for the underlying asset to fall in price, while implied volatility rises. On the other hand, a rise in the price of the underlying asset and a fall in implied volatility would have the biggest negative impact on the put.

Given that implied volatility is a key component of option pricing, it is important to take it into account when making an option bet. Investors should check implied volatility while weighing the decision to make an options trade.

In addition, there are strategies that can be used to hedge against this risk.

Learn More

To learn more, visit https://marketchameleon.com and our Educational Section at https://marketchameleon.com/Learn/Introduction

Post has attachment
Options Q&A: What Factors Go Into Options Pricing?

When describing basic option strategy to newcomers, the general tendency is to describe calls and puts this way: a call is a bet that the stock will go up and a put is a bet that the stock will go down.

This is true in a very basic way. If an investor buys a call on an underlying asset at a particular strike price, they are looking to make money by having the asset rise above that price. An upward move in the price of the asset should increase the value of the call (and vice versa for a put).

However, the options market is more complicated than that. This stems from the fact that an option involves more than a bet on an asset's direction. There are other factors involved.

Options professionals use complicated equations to figure out the theoretical price an option should have.

Here are some basic things that go into option pricing:

1. Price of the Underlying Asset - This is the starting point. An option is only as valuable as how it relates to the underlying asset.

2. Strike Price - The price that defines the option's contract to buy or sell. The value of the option is related to the distance between the strike price and the actual price of the underlying asset. For a call, the higher the asset price above the strike price, the more valuable it will be.

3. Time Until Expiration - An option has an expiration date. After that date, the option has no value, whatever the price of the underlying asset - like holding an unused World Series ticket in December. The closer the option gets to expiration, the more the potential value of that option will erode, until it reaches the base intrinsic value.

4. Volatility - This is a big one and the one that beginners in options trading often need to learn more about.

The price of an option includes what's called a "volatility premium" based on the amount the underlying asset tends to fluctuate over time. Some assets have a greater propensity for wider price movements than others (think speculative tech stocks vs. utilities). This assumed volatility is baked into the price of the option.

The relationship between implied volatility and the price of an option is called "Vega." The higher the value of Vega, the more the price of an option will respond to changes in implied volatility.

Rising implied volatility adds to the value of an option. However, if implied volatility falls, it will weigh on the value of the option, regardless of what the actual price of the asset is doing.

5. Interest Rates - Interest rates are also baked into the price of an option. In terms of owning a call, a decline in interest rates could hurt the price of the option. The opposite is true for puts. A decline in interest rates would benefit the price of puts. As with vega and implied volatility, there's also a Greek letter that describes the relationship between interest rates and an option's price. That's called "Rho." Rho measures how much an options price will change as interest rates change.

6. Dividends - Future dividends that can be paid on the underlying stock greatly affect options pricing. When dividends go ex-div, the amount of the dividend is subtracted from the stock price. Any trader who sells call options will have to pay out those dividends to option buyers. Stocks that have dividends will see a slight decrease in call option premium and a slight increase in put option premium.

Learn More

To learn more about Options Pricing and the basic components of Options Trading, visit https://marketchameleon.com and our Educational page at https://marketchameleon.com/Learn/Introduction/

Post has attachment
We are trying to help great minds in the industry with there option research. We have developed a research tool that will be very useful to you marketchameleon.com. If you use the tools and DATA and find them useful please share with your trading friends. If you would like to see different features please let us know.

https://marketchameleon.com
Photo

Post has attachment
We are trying to help great minds in the industry with there option research. We have developed a research tool that will be very useful to you marketchameleon.com. If you use the tools and DATA and find them useful please share with your trading friends. If you would like to see different features please let us know.

https://marketchameleon.com
Photo

Post has attachment
We are trying to help great minds in the industry with there option research. We have developed a research tool that will be very useful to you marketchameleon.com. If you use the tools and DATA and find them useful please share with your trading friends. If you would like to see different features please let us know.

https://marketchameleon.com
Photo

Post has attachment
$AAPL Call Spread Trades 1,894 Times https://marketchameleon.com/Overview/AAPL/StockPosts
Photo
Wait while more posts are being loaded