34 lines
2.1 KiB
Plaintext
34 lines
2.1 KiB
Plaintext
868 Part VI: Measuring and Trading Volatility
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They are useful in establishing a new position, because one can see how much expo
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sure he is taking on. In addition, they are extremely useful for follow-up action, since
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one can see how his position's characteristics have developed in the current market
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place at the present time. In the following sections, the use of the risk measurement
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tools as aids in establishing a position or in following up on a position will be dis
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cussed in detail.
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DELTA NEUTRAL
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One popular type of neutral position is to be delta neutral - that is, to have the equiv
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alent stock position (ESP) or equivalent futures position (EFP) be zero. A delta neu
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tral position is one in which the sum of the projected price changes of the long options
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in the spread is essentially offset by the projected price changes of the short options
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in the same spread.
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Example: XYZ is trading at 50. The following three options are trading with the
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prices and deltas indicated. Furthermore, the "theoretical value" of each option is
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shown:
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XYZ:50
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"Theoretical
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Option Price Delta Value"
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January 50 call 3.00 0.55 3.50
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January 55 call 1.50 0.35 1.48
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February 50 put 3.50 -0.40 3.44
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Assuming that one can rely upon these "theoretical values" (a big assumption,
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by the way), it is obvious that the January 50 call is cheap with respect to the other
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options: They are close to their values, while the January 50 is 50 cents under. The
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neutral strategist would want to buy the January 50 call and hedge his purchase with
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one of the other two options presented. One choice would be to establish a spread
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wherein the January 50 calls are bought and a number of January 55's are sold. To
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determine how many are to be bought and sold, one merely has to divide the deltas
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of the two options:
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Delta neutral spread ratio = 0.55/0.35 = 11-to-7
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Thus, a delta neutral ratio spread would consist of buying 7 January 50's and sell
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ing 11 January 55's. To verify that this spread is neutral with respect to the change in
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price ofXYZ, notice that ifXYZ moves up in price 1 point, the January 50 will increase |