I was going through some simulated transactions for short vega positions. I tried a short straddle and long butterfly, simulated underlying movement and tried to stay delta neutral. What I've found is this forces me to -buy high/sell low -sell low/buy high If I wanted to do a vol trade, and be short vega, how can I remain delta neutral without eliminating my edge through these losing hedges?
Its not so much vega you appear to be hedging,its your delta/gamma..Big difference.. And there is no solution to the problem,its the nature of the beast. You could opt NOT to hedge,and cover/liquidate at a predetermined option price/level of the stock.
Unless you want to sell calendar spreads, most of your negative vega positions are the result of being short some options. Sadly, that means negative gamma. Mark
erol, My instinct is that Tao is correct with his comment about delta/gamma. I have noticed this buy high/ sell low situation when adjusting IC's, as well. For instance, when the market index moves up, you wind up rolling up calls that have become noticeably more expensive. If the market then proceeds downward after a few days of rising (which happens a good chunk of the time), you then eventually shift your position back downward, but only after losing some on the hedge. However, the put side of the IC helps because, as you roll up the calls, you usually also roll up the puts. Then you are buying back cheap puts and selling more expensive ones. This situation is acceptable if you only have to make an adjustment very occasionally. If you are fearful and adjust too often, you will adjust most of your profits away, too. The suggestion to close part of the position can also help, but it is most likely being closed at a loss. Nevertheless, it is better to lose a modest amount than your shirt. Options traders have numerous choices, but since knowing the future is really tough, they are decisions which are not easy to make. The unfortunate truth is that there is no such thing as a perfect hedge which still allows you to make massive profits without risk. At some point you must take risks of some kind, either in direction (delta), volatility (vega), or time decay (theta). Perhaps you could give us specific example of a situation that we could analyze and offer suggestions about. Perhaps having credit spreads in both directions somewhere might offer some additional protection. I strongly recommend saving margin to make these adjustments possible, and preserve flexibility for closing on your terms, not on terms imposed by your broker.
thank you all for the info I think for me, who at least for now doesn't want to worry about margin calls and naked positions, the short calendar works best. Thanks Mark, I didn't even think of that. All of this is paper trade for now while I figure this stuff out.
Set up a position that is gamma neutral and vega negative. Then get yourself delta neutral using the underlying.
Have you guys ever set up a short straddle and then added a second for delta hedging. If it goes past the second, take off the first and add a third. Use the underlying for delta hedge if necessary.
I also have looked closer at maintaining delta neutrality. But I onoy look to adjust after wide delta swings. For example, take a long straddle. Since I use the ES as my underlying, my multiplier is 50. So, suppose I enter five long straddles (long front-month ATM call and ATM put. It is delta neutral here. Now suppose the ES takes off and the ITM call's delta is .7 and the OTM put's delta is -.3. Couple of ways to adjust this. One, I can sell some ES futures to achieve neutrality and leave the legs alone. I can take some profit on the ITM calls--selling just enough to achieve neutrality. Lastly, I can add some long ATM puts to achieve neutrality. The key is decent movement of the underlying. I prefer to cash out winners and replace with new legs to maintain neutrality. I like adjusting at the end of the day (for futures that is from 4-4:15. It is quiet and slower moving. Hope this helps.