Trading Strategies Profit Making Techniques For Stock_11

264 OPTION STRATEGIES A more aggressive position would be to liquidate the call. This will give you a long put in a declining market. Your risk will be higher because you will not have the hedge of the long call to protect you against a sharp rally. This is a risky tactic because you are calling for the market to change trend. Nonetheless, your potential profits will be higher than holding the original spread because you will have liquidated the call while it had a lot of premium. Another strategy is to roll up the position. You will liquidate the orig-inal straddle and initiate a new straddle using at-the-money strikes. Only use this strategy if the new position makes sense given the selection crite-ria outlined earlier in this chapter. Pay particular attention to time decay because time has passed since you put on the original position. You might want to roll out to a farther expiration if time decay is a problem, but the original premise for the trade still holds. Short Straddle If the UI price rises and you are bullish, you could: 1. Liquidate the position; or 2. Liquidate the call. You might be able to liquidate the position for a profit if prices are still within the break-even points. It makes sense to liquidate now rather than risk a move to below the down-side break-even point. However, it is likely that you are losing money at this point, and liquidation of the position is the best defensive strategy to limit further losses. The most aggressive approach is to liquidate the call. This will leave you with a short put. The put will likely be out-of-the-money, so the risk of losing money on the put should be minimal. By the same token, your profit potential is limited to the remaining time premium, which is likely to be very little. This can be an excellent tactic to try to recover some money lost on a short straddle. If the UI price rises and you expect prices to remain stable, you could: 1. Hold the position; 2. Liquidate the position; or 3. Roll up. You should definitely hold the position if you have profits in the po-sition. The success of the short straddle is dependent on the price being within the two break-even points at expiration. If you have a profit on the trade, then prices are likely to be within the two break-even points. Straddles and Strangles 265 Stable-price action will help you because you are selling time premium. Your profits should mount as time passes. You might be able to liquidate the position for a profit if prices are still within the break-even points. It might make sense to liquidate now rather than risk a move to above the up-side break-even point. You will have to evaluate the chances of stable prices versus volatile prices. If the position is currently unprofitable, you are probably on the outside of the break-even points. Liquidating the trade now might limit your losses to a smaller amount rather than running the risk of a larger loss later. An expectation of stable prices means that probably the best strategy is to roll up the position. It appears now that your original premise for the trade was correct but you entered a little early. Still, you should examine the new position as if you are entering a brand new position, so consider the selection criteria given earlier in this chapter. Clearly, time decay and implied volatility should be considered. If the UI price rises and you are bearish, you could: 1. Hold the position; or 2. Liquidate the put. You should likely hold the position if you look for lower prices. The success of the short straddle is dependent on the price being within the two break-even points at expiration. With prices now higher than when you initiated the spread, you need a price drop to help your position. In addition, time decay will be working even more for you. Liquidating the put is a more bearish approach. You are now saying that the market is not neutral but bearish and you want to jump on the bandwagon. Shifting to a naked short call will keep you on the side of writ-ing time premium, but it will also keep you exposed to risk if the UI price rallies sharply. Delta-Neutral Straddle Trading The classic way to speculate on changes in implied volatility is the straddle, usually done in a delta-neutral fashion. Buy an at-the-money straddle with a far expiration if you believe that implied volatility is going higher. Sell an at-the-money straddle with a far expiration if you believe that implied volatility is going lower. Keeping the position delta neutral and in far expirations will result in a trade that is dominated by changes in implied volatility. (See Chapter 4 for details on how to adjust a position to keep it delta neutral.) The use of a far expiration means that gamma and theta are low. 266 OPTION STRATEGIES Typically, the position is rolled to a farther contract when theta and gamma start to increase. The object is to have a position that responds mainly to vega, not any other greeks. The selection of the long or short straddle is entirely dependent on your analysis of the future direction of implied volatility. You will buy the straddle if you look for higher implied volatility and will sell the straddle if you look for lower implied volatility. The main follow-up strategy is to keep the position delta neutral. Roll out to a new expiration when theta and gamma start to get high enough to notice. You have two possible strategies if the UI price moves enough to re-duce the vega of the existing position. 1. You can roll up or down the position to restore the vega in the position. Obviously you will have to readjust the long or short position in the UI to bring the position back to delta neutral. 2. You can buy or sell more straddles at the new at-the-money strike price. This will have the effect of adding vega, theta, and gamma to a position that has had these decline due to a change in the UI price. In either case, the follow-up strategy must be examined as if it were a brand new position. The same selection criteria must apply. C H A P T E R 22 Synthetic Calls and Puts A synthetic call can be created by: r Buying a put and buying the underlying instrument (UI). Buying a call and shorting the UI. There is no reason to initiate a synthetic put or call if an exchange or over-the-counter (OTC) option exists. A synthetic put or call costs more because of the extra commissions. On the other hand, it is possible that you have sold short the UI but decide later to limit your risk by buying a call. It might also make sense to buyacalltolockinaprofitonyourshortsalebutstillallowyousomeprofit potential. Alternately, you might have bought a call, turned bearish, and decided to short the UI. The same kind of situation might exist for buying the UI and later buying a put to limit your risk or help lock in a profit. Generally, all of the ramifications of a synthetic put or call are the same as for a regular put or call (see Chapter 7 and Chapter 8 for more details). Therefore, this chapter will concentrate on the differences between syn-thetic and regular options. EQUIVALENT STRATEGY An equivalent strategy would be to buy a put or a call. As just stated, buying a regular option will be less expensive than initiating a synthetic option. In addition, the regular option will likely have greater liquidity. 267 268 OPTION STRATEGIES RISK/REWARD Maximum Risk The maximum risk of a synthetic option is the maximum amount of money that can be lost. Note that this is essentially the premium of the put. The maximumriskofholdingaregularoptionisequaltothepremium;thesame can be said of the synthetic option. Look at the synthetic put as an example. The maximum risk, or pre-mium, is equal to the call strike price minus the UI price plus the price of the call. You buy an OEX 550 call at 5 when the underlying index is at 540. The premium is 550 – 545 + 5, or 10. Thus, the maximum risk of the synthetic put is 10 points. Break-Even Point Again, look at the synthetic put as an example. The break-even point is equal to the UI price minus the premium of the synthetic put. In the pre-ceding example, the underlying index will have to trade down to 535 before you split even (545 – 10 = 535). The break-even point for the synthetic call is the UI price plus the premium of the synthetic call. DECISION STRUCTURE Selection Thekeyforthistradeistheselection oftheexchange-traded option’s strike price. For example, selecting an in-the-money call when creating a syn-thetic put will give greater protection to the short sale, whereas selecting an out-of-the-money call will give the greatest profit potential. If the Price of the Underlying Instrument Drops The analysis of the follow-up actions for synthetic options is the same for both the synthetic put and the synthetic call. The following discussion will focus on the synthetic put, but you merely have to invert the discussion to apply it to synthetic calls. You have two choices if you are bullish: 1. Liquidate the short sale and retain the call; or 2. Liquidate both sides of the trade. ... - tailieumienphi.vn