39 lines
3.1 KiB
Plaintext
39 lines
3.1 KiB
Plaintext
936 Part VI: Measuring and Trading Volatility
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MATHEMATICAL RANKING
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The discussion above demonstrates that it is not possible to ultimately define the best
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strategy when one considers the background, both financial and psychological, of the
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individual investor. However, the reader may be interested in knowing which strate
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gies have the best mathematical chances of success, regardless of the investor's per
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sonal feelings. Not unexpectedly, strategies that take in large amounts of time value
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premium have high mathematical expectations. These include ratio writing, ratio
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spreading, straddle writing, and naked call writing (but only if the "rolling for cred
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its" follow-up strategy is adhered to). The ratio strategies would have to be operated
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according to a delta-neutral ratio in order to be mathematically optimum. Unfor
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tunately, these strategies are not for everyone. All involve naked options, and also
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require that the investor have a substantial amount of money ( or collateral) available
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to make the strategies work properly. Moreover, naked option writing in any form is
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not suitable for some investors, regardless of their protests to the contrary.
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Another group of strategies that rank high on an expected profit basis are those
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that have limited risk with the potential of occasionally attaining large profits. The T
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hill/option strategy is a prime example of this type of strategy. The strategies in which
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one attempts to reduce the cost of longer-term options through the sale of near-term
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options fit in this broad category also, although one should limit his dollar commit
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ment to 15 to 20% of his portfolio. Calendar spreads such as the combinations
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described in Chapter 23 (calendar combination, calendar straddle, and diagonal but
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terfly spread) or bullish call calendar spreads or bearish put calendar spreads are all
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examples of such strategies. These strategies may have a rather frequent probability
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of losing a small amount of money, coupled with a low probability of earning large
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profits. Still, a few large profits may be able to more than overcome the frequent, but
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small, losses. Ranking behind these strategies are the ones that offer limited profits
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with a reasonable probability of attaining that profit. Covered call writing, large debit
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bull or bear spreads (purchased option well in-the-money and possible written option
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as well), neutral calendar spreads, and butterfuly spreads fit into this category.
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Unfortunately, all these strategies involve relatively large commission costs.
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Even though these are not strategies that normally require a large investment, the
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investor who wants to reduce the percentage effect of commissions must take larger
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positions and will therefore be advancing a sizable amount of money.
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Speculative buying and spreading strategies rank the lowest on a mathematical
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basis. The T-bill/option strategy is not a speculative buying strategy. In-the-money
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purchases, including the in-the-money combination, generally outrank out-of-the
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money purchases. This is because one has the possibility of making a large percent
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age profit but has decreased the chance of losing all his investment, since he starts |