EXHIBIT 15.4 Analytics for long 20 Acme Brokerage Co. 75-strike
straddles.
As with any trade, the risk is that the trader is wrong. The risk here is
indicated by the −2.07 theta and the +3.35 vega. Susan has to scalp an
average of at least $207 a day just to break even against the time decay. And
if IV continues to ebb down to a lower, more historically normal, level, she
needs to scalp even more to make up for vega losses.
Effectively, Susan wants both realized and implied volatility to rise. She
paid 36 volatility for the straddle. She wants to be able to sell the options at
a higher vol than 36. In the interim, she needs to cover her decay just to
break even. But in this case, she thinks the stock will be volatile enough to
cover decay and then some. If Acme moves at a volatility greater than 36,
her chances of scalping profitably are more favorable than if it moves at
less than 36 vol. The following is one possible scenario of what might have
happened over two weeks after the trade was made.
Week One
During the first week, the stock’s volatility tapered off a bit more, but
implied volatility stayed firm. After some oscillation, the realized volatility
ended the week at 34 percent while IV remained at 36 percent. Susan was
able to scalp stock reasonably well, although she still didn’t cover her seven
days of theta. Her stock buys and sells netted a gain of $1,100. By the end
of week one, the straddle was 5.10 bid. If she had sold the straddle at the
market, she would have ended up losing $200.