The Greeks Speak

The final part of Don's questions,

"Today at noon, I ran a trade using the RUT December options Trading the 560/550
Put and the 650/660 call spreads according to TOS (thinkorswim) that trade
could be executed with a net inflow of nearly 5.00 I know that you feel
comfortable with 3.00 credits.  Is this trade something
that you would consider?

Yes, I would consider it.  There is nothing magical about a $3 credit.  But this position is not that far OTM, and the probability is high that this iron condor is going to run into trouble.  I prefer to have better odds of success going in, and would not do this spread because: a) My comfort zone manager tells me that I'd rather be short options that are farther OTM and b) I have room to satisfy that need because I'm willing to take less than the $5 premium.  I can more farther OTM, accept a smaller premium, and still be happy with the trade. 

"Lastly I know that you would never hold to expiration but is negative gamma
the main reason that you do not trade into the last week,?  Or is
the cost of doing business, by closing the open trades, ensures the profit,
removes risk and allows you to look into your next trade?

'Never' is the goal.  I sometimes find myself holding longer than I prefer.

It's the negative gamma.  Too risky for me. 

Commissions are not a factor.  I trade what I want to trade.  It's wrong to fail to make trade because costs are too high.  It's much easier to go with a less costly broker.

Closing positions and removing risk is something I like to do.


In addition to the above I ran the following and traded in my paper
money account:

Received 4.50 credit for the RUT Dec 560/550/650/660 IC trade with the
following Greeks:
-Delta 12.70 Gamma -.85 Theta 31.01 Vega -164.52

I also traded the following SPY bought 100/sh at 106.5 sold the Nov 107 call
(2.98)and bought the June 105 Put (8.25) my Greeks are:
Delta 6.65 Gamma
-3.16 Theta 1.60 Vega 20.12

I am interested in how you would use these Greeks to assess risk now and in
the coming months. Note: the Greeks are sums of the individual positions.

Using real words like…geez I have too much Gamma when that's added to my
Delta I'm gonna lose-LOL or something like that! Maybe geez my vega risk is
really high I could lose 'X' if this happens…

What are these Greeks saying to you and your experience that I do not yet



Don, you do not make it easy for me.

1) You said the IC could be traded for $5, but you accepted a $4.50 credit when trading.  That doesn't sound good to me.  But is it not relevant to the question.

2)Regarding the iron condor, the Greeks tell me the same thing they tell you.  You are collecting some time decay – and I know you understand that. You are short vega, but all your iron condor positions are short vega. 

By choosing December options you are short more vega than someone who sells short term options.  The good news is that you are gamma neutral. 

Don, I always thought I used 'real' words, but I'll see if I can accommodate by re-wording what I said above:  [For all readers, I apologize for the English and hope my European and South American readers can follow]

Geez Don, That nasty guy – that gamma – youze know, da enemy – he's not too ugly right now.  I wouldn't trust him as far as I could t'row him,  and he can get real ugly real fast – but right now he's ok.  We got a truce.  He's our temp buddy.

Now da one we gots to watch out fer – he's dat vega guy.  He's ready to make a move – but dunno which way.  We could make a fast buck if someone kicks him in the shins and he falls over.  But if he makes a getaway and speeds up – we could be in trouble.

Outside of dat, I got nuttin' to say.

3) The buy-write, or covered call.

I see you adopted the collar strategy outlined in the recent academic paper.  I'd be interested to see how this works for you.  I don't like it.  I find the longer-term put to be too costly.  I do understand you hope to write calls about six times and collect far more in call premium than you paid in put premium.

These Greeks speak a different dialect and I'm not understanding what they are saying.  They mention being long vega and there's some risk in that.  The Greeks also talk about how that negative gamma can get worse in a hurry, if SPY moves higher. 

Here's the risk in this position: A rising market will kill the premium you paid and will make it difficult to make any money.  If that put premium disappears, you will  not be able to recover it.  The calls will move well into the money and you will be assigned an exercise notice – leaving you with naked long puts.

To protect those puts, you would have to take some action with your call spread.  It's as if you are forced to roll the position on a rally – even when you prefer not to do so.  That is the risk of buying puts with a high premium.  Of course, a lower market will provide extra profits.  But to me, that's a play on vega and is not a true collar.

Don – collars are very flexible and there is nothing wrong with the collar you chose.  From my personal point of view, I like the collar as protection for assets, and not as a market play.  That being said, it is a perfectly reasonable idea to turn it into a market play.


3 Responses to The Greeks Speak

  1. Don 10/19/2009 at 11:13 AM #

    Hi Mark…that wasn’t exactly what I meant about “real words” here’s what I meant: Given the following:
    Received 4.50 credit for the RUT Dec 560/550/650/660 IC
    Greeks: -Delta 12.70 Gamma -.85 Theta 31.01 Vega -164.52
    The Greeks tell me the same thing they tell you.
    You are collecting some time decay (is this a reasonable amount in your estimation?)You are short vega, but all of your iron condor positions are short vega. By choosing December options you are short more Vega than someone who sells short term options. The good news is that you are gamma neutral. (where is the line between Gamma nuetral and not nuetral? In the trade below my negative gamma is listed at -3.16 while above -.85 is there such a difference between these two negative gamma numbers?
    The buy-write, or covered call.
    SPY bought 100 shares at 106.5
    Sold the Nov 107 call (+2.98) Bought the June 105 Put (-8.25)
    Delta 6.65 Gamma -3.16 Theta 1.60 Vega 20.12
    I don’t like it. I find the longer-term put to be too costly. I do understand you hope to write calls about six times and collect far more in call premium than you paid in put premium (yes, that was my plan, hoping to roll-down as an adjustment perhaps once or even to close that portion and sell another call. They mention being long Vega and there’s some risk in that. (again, I don’t know that 20.12 is a large enough number to seriously effect the trade, I thought that was a reasonable number- It seems as if that is wrong, what would you consider a reasonable number) The Greeks also talk about how that negative gamma can get worse in a hurry, if SPY moves higher.
    that is exactly what I mean when I was asking for “real words” I would never have known that -3.16 Gamma is too much for this type of position
    how much short vega is too much in your experience? I know that we all have our individual risk tolerances, what is yours and why?

  2. Mark Wolfinger 10/19/2009 at 12:03 PM #

    1) Too much vega? There is no answer. When I, you, or any trader believes that IV is a reasonable value, it pays to own positions that are near vega neutral.
    I go short vega when I believe the reward justifies the risk. That’s most of the time. But we are approaching levels at which the reward (premium I can collect) is not good enough for ME. I have no way to transfer my eelings to you. I understand you lack the expereince to know how it ‘feels.’ But that’s one good reason for being near neutral.
    Rught now, I am looking at buying diagonal spreads. I am willling to get long vega at these levels. Not much. But some. If I can find suitable diagonal spreads at prices I like, I’ll do some.
    I don’t have any way to measure how much is enough. If IV is dropping; if my positions are not too risky outside of vega risk, then I’ll add more positions with positive vega. I just cannot give you a number because I have none.
    So why don’t you set a max vega for yourself. For each $10k in your account, allow yourself to be long or short 100 or 200 or 400 vega. You will know right away if the position is uncomfortable for you. Make the trade in your practice account and then look at the risk graphs. Look at how you do if the market moves higher or lower. If you are uncomfortable with the portfolio, then it’s too much vega for YOU.
    I simply don’t know how much is too much for me. If VIX were suddenly 15, I’d probably own a bunch of vega and not be happy about it. (Becuse I would have lost money on the vega I bought too early).
    I want to share learning experiencs, but this is one I have never quantified.
    2) It’s not that -3 is ‘too much gamma.’ But, a big rally costs you money. You estentially have two positions. The covered call reaches maximum profit quickly. The naked put starts to lose more than you earned from the covered call. In this scenario, the market rally gives you a poor result.
    But it’s because of the put you bought and not directly related to the position’s gamma.
    I like hard and fast rules also, but eschew them when trading options because I do not believe they apply. This is much more of an art than a science.

  3. Don 10/19/2009 at 4:52 PM #

    Wonderful and thanks…