earnings event is pending, this stock’s options typically trade at about a 25
percent IV. Therefore, anticipating a 10-point decline from 35 was
reasonable, given the information available. If Susie gets it right, she stands
to make $1,150 from vega (10 points × 1.15 vegas × 100).
As we can see from the right side of the volatility chart in Exhibit 12.3 ,
Susie did get it right. IV collapsed the next morning by just more than ten
points. But she didn’t make $1,150; she made less. Why? Realized volatility
(gamma). The jump in realized volatility shown on the graph is a function
of the fact that the stock rallied $2 the day after earnings. Negative gamma
contributed to negative deltas in the face of a rallying market. This negative
delta affected some of Susie’s potential vega profits.
So what was Susie’s profit? On this trade she made $800. The next
morning at the open, she bought back the 50-strike calls at 2.80 (25 IV) and
sold the stock at $52. To compute her actual profit, she compared the prices
of the spread when entering the trade with the prices of the spread when
exiting. Exhibit 12.5 shows the breakdown of the trade.
EXHIBIT 12.5 Profit breakdown of delta-neutral trade.
After closing the trade, Susie knew for sure what she made or lost. But
there are many times when a trader will hold a delta-neutral position for an
extended period of time. If Susie hadn’t closed her trade, she would have
looked at her marks to see her P&(L) at that point in time. Marks are the
prices at which the securities are trading in the actual market, either in real
time or at end of day. With most online brokers’ trading platforms or
options-trading software, real-time prices are updated dynamically and
always at their fingertips. The profit or loss is, then, calculated
automatically by comparing the actual prices of the opening transaction
with the current marks.