34 lines
2.3 KiB
Plaintext
34 lines
2.3 KiB
Plaintext
216 Part II: Call Option Strategies
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In Chapter 6 on ratio writing, it was seen that it was possible to alter the ratio
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to adjust the position to one's outlook for the underlying stock The altering of the
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ratio in a ratio spread accomplishes the same objective. In fact, as will be pointed out
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later in the chapter, the ratio may be adjusted continuously to achieve what is con
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sidered to be a "neutral spread." A similar tactic, using the option's delta, was
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described for ratio writes.
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The following formulae allow one to determine the maximum profit potential
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and upside break~even point for any ratio:
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Points of maximum = Net credit+ Number oflong calls x
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profit Difference in striking prices or
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= Number of long calls X Difference in
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striking prices - Net debit
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Upside break-even = Points of maximum profit ff h t "ki .
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point Number of naked calls + ig er s n ng pnce
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These formulae can easily be verified by checking the numbers in Table 11-3.
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THE "DELTA SPREAD"
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The third philosophy of ratio spreading is a more sophisticated approach that is often
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referred to as the delta spread, because the deltas of the options are used to estab
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lish and monitor the spread. Recall that the delta of a call option is the amount by
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which the option is expected to increase in price if the underlying stock should rise
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by one point. Delta spreads are neutral spreads in that one uses the deltas of the two
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calls to set up a position that is initially neutral.
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Example: The deltas of the two calls that appeared in the previous examples were
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.80 and .50 for the April 40 and April 45, respectively. If one were to buy 5 of the
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April 40's and simultaneously sell 8 of the April 45's, he would have a delta-neutral
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spread. That is, if XYZ moved up by one point, the 5 April 40 calls would appreciate
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by .80 point each, for a net gain of 4 points. Similarly, the 8 April 45 calls that he is
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short would each appreciate by .50 point for a net loss of 4 points on the short side.
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Thus, the spread is initially neutral - the long side and the short side will offset each
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other. The idea of setting up this type of neutral spread is to be able to capture the
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time value premium decay in the preponderance of short calls without subjecting the
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spread to an inordinate amount of market risk. The actual credit or debit of the
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spread is not a determining factor. |