Remember the crash of 1987? The market opened the day down about 20% on monday? Not everyone had time or ability to close on friday, as the brokers where swamped with calls. Thousands of traders could not even call their brokers because the lines were all busy. And when the market opened, the bid/ask gaps were so wide they were mostly useless. And don't even ask about the VIX. Lots of lawsuits. That was a different time, when not everyone had access to computers. But what about the flash crash we had just a year or 2 ago. Didn't the market suddenly drop about 1,000 points or more in minutes? What if that had been expiration day? Or the following monday. All I'm saying is be prepared. If you can't afford to consider buying and holding your trades, because of margin of 5, 10, or 15 times your account value, then your only choice to close or sell.... for a potentially devastating loss.
All traders have losses..... eventually. But not all traders are at risk of having their account wiped out by some unpredictable market event. My discussion is NOT about taking losses. A trader who never takes losses is probably not managing their risk properly. My discussion is about not putting oneself in the position of a potential account wipe out,... due to being on excessive leverage via credit spreads. If you just happen to be on that excessive leverage, at the wrong time of the wrong day.
So you are saying we are over due? We have had numerous severe market events since then. Remember the week the S+P downgraded the USA debt last year? That was a week or two of hell in the market for many. They don't need to be as severe as 1987, to wipe out many accounts. Anyway, I'm done with this issue for the day. Going to share a trade i did today on the other thread.
Update time again... Moderate down day SPX -9 Put spread: 1380-1355 1.63 against us (*700) for a value of $1141 short put 14 delta Call spread: 1455-1480 0.75 against us (*700) for a value of $525 short call 8 delta Our total debit: $1666 which an improvement on a down day (interesting!) No adjustment necessary... Our profit position= -$58, which is improved from the $-191 on Friday..
Extreme selloffs are anything but predictable. In the flash crash correlation went to zero; normally it goes to one. In 1987, there was no way to execute, like you mentioned In 2008, all the arbitrage free assumptions that form the basis of all derivatives pricing were violated. There were convertible bonds where the call option was trading at a negative value. Goldman Sachs nearly cancelled all their OTC contracts because they couldn't hedge. The selloff in 2009 was slow and vol continued to come in. Normally vol and cash are inverse. But it was still like 25% In those kinds of scenarios, you are right that leverage implicit or explicit can be a disaster and all your assumptions about the risk in your book go out the window (along with a few traders who lost everything).
Diaoptions, don't be so nit picky. There was a spike in volatility. Whether you call it the VIX the VOX or a BOX. Traders could not close their trades. Not only was it too expensive, but the bid / ask were just meaningless words. And so the point is, one never knows when is the wrong time to be excessively leveraged. I'm not talking about reasonable leverage, which you can buy and hold for a period of time. I'm talking about crazy margin of 5 , 10 , or 20 times ones account value.
<<< The selloff in 2009 was slow and vol continued to come in. Normally vol and cash are inverse. But it was still like 25% In those kinds of scenarios, you are right that leverage implicit or explicit can be a disaster and all your assumptions about the risk in your book go out the window (along with a few traders who lost everything). >>> Those who sold puts naked as a strategy, got smacked, because the spike in vol made it expensive to close. Ironically, those whose cash were tied up in credit spread type strategies, may have gotten smacked even harder, since it took a "smaller % drop in their stocks", to be in a maximum loss situation. When the market start dropping slowly, there may be a tendency to hope it may be just a S-T correction. Or that it is probably going to be mostly concentrated in this or that sector, such as housing related. One only knows in hindsite that the drop not sector specific and was not S-T. Turns out, the 2008/2009 correction wasn't even just this country specific. Didn't it actually start in late 2007?