21 lines
1.5 KiB
Plaintext
21 lines
1.5 KiB
Plaintext
an extended period of time can produce a loser even if IV rises. Gamma is
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potentially connected to the success of this trade, too. If the underlying
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moves in either direction, profit from deltas created by positive gamma may
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offset the losses from theta. In fact, a big enough move in either direction
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can produce a profitable trade, regardless of what happens to IV.
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Imagine, for a moment, that this trade is held until expiration. If the stock
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is below the strike price at this point, the calls expire. The resulting position
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is short 1,000 shares of stock. If the stock is above the strike price at
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expiration, the calls can be exercised, creating 2,000 shares of long stock.
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Because the trade is already short 1,000 shares, the resulting net position is
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long 1,000 shares (2,000 − 1,000). Clearly, the more the underlying stock
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moves in either direction the greater the profit potential. The underlying has
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to move far enough above or below the strike price to allow the beneficial
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gains from buying or selling stock to cover the option premium lost from
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time decay. If the trade is held until expiration, the underlying needs to
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move far enough to cover the entire premium spent on the calls.
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The solid lines forming a V in Exhibit 12.2 conceptually illustrate the
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profit or loss for this delta-neutral long call at expiration.
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EXHIBIT 12.2 Profit-and-loss diagram for delta-neutral long-call trade.
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Because of gamma, some deltas will be created by movement of the
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underlying before expiration. Gamma may lead to this being a profitable |