underlying declines by just $0.60, the $0.40 that the trader hoped to make
on rho is wiped out by delta loss. With the share price $0.60 lower, the
0.760 delta costs the trade about $0.46. Furthermore, the passing of six
weeks (42 days) will lead to a loss of about $0.55 from time decay because
of the −0.013 theta. There is also the risk from the fat vegas associated with
LEAPS. A 1.5 percent drop in implied volatility completely negates any
hopes of rho profits.
Aside from the possibility that delta, theta, and vega may get in the way
of profits, the bid-ask spread with these long-term options tends to be wider
than with their short-term counterparts. If the bid-ask spread is more than
$0.40 wide, which is often the case with LEAPS, rho profits are canceled
out by this cost of doing business. Buying the offer and selling the bid
negative scalps away potential profits.
With LEAPS, rho is always a concern. It will contribute to prosperity or
peril and needs to be part of the trade plan from forecast to implementation.
Buying or selling a LEAPS call or put, however, is not a practical way to
speculate on interest rates.
To take a position on interest rates in the options market, risk needs to be
distilled down to rho. The other greeks need to be spread off. This is
accomplished only through the conversions, reversals, and jelly rolls
described in Chapter 6. However, the bid-ask can still be a hurdle to trading
these strategies for non–market makers. Generally, rho is a greek that for
most traders is important to understand but not practical to trade.