32 lines
2.1 KiB
Plaintext
32 lines
2.1 KiB
Plaintext
Gamma Scalping
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Intraday trading is seldom entirely in one direction. A stock may close
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higher or lower, even sharply higher or lower, on the day, but during the day
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there is usually not a steady incremental rise or fall in the stock price. A
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typical intraday stock chart has peaks and troughs all day long. Delta-
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neutral traders who have gamma don’t remain delta neutral as the
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underlying price changes, which inevitably it will. Delta-neutral trading is
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kind of a misnomer.
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In fact, it is gamma trading in which delta-neutral traders engage. For
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long-gamma traders, the position delta gets more positive as the underlying
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moves higher and more negative as the underlying moves lower. An upward
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move in the underlying increases positive deltas, resulting in exponentially
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increasing profits. But if the underlying price begins to retrace downward,
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the gain from deltas can be erased as quickly as it was racked up.
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To lock in delta gains, a trader can adjust the position to delta neutral
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again by selling short stock to cover long deltas. If the stock price declines
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after this adjustment, losses are curtailed thanks to the short stock. In fact,
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the delta will become negative as the underlying price falls, leading to
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growing profits. To lock in profits again, the trader buys stock to cover
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short deltas to once again become delta neutral.
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The net effect is a stock scalp. Positive gamma causes the delta-neutral
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trader to sell stock when the price rises and buy when the stock falls. This
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adds up to a true, realized profit. So positive gamma is a money-making
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machine, right? Not so fast. As in any business, the profits must be great
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enough to cover expenses. Theta is the daily cost of running this gamma-
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scalping business.
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For example, a trader, Harry, notices that the intraday price swings in a
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particular stock have been increasing. He takes a bullish position in realized
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volatility by buying 20 off the 40-strike calls, which have a 50 delta, and
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selling stock on a delta-neutral ratio.
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Buy 20 40-strike calls (50 delta) (long 1,000 deltas)
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Short 1,000 shares at $40 (short 1,000 deltas) |