IV Plays

There are plenty of stocks each month with extremely high IVs. Some of these are biotech stocks or or stocks waiting on important news. Price is guaranteed to move dramatically, and IV is nearly guaranteed to collapse when the news is released. Since a straddle is often too expensive, why not do an IV play?

Okay, so we can try to do a calendar? How would one set it up so that only IV would affect the spread, and not movement of the underlying asset?

 

calendars are long vega so if IV collapses you'd get killed

 

That's right. Oops. I meant to say short calendar. But in anycase, a calendar spread has restrictions regarding the price of the underlying. Delta Neutral may be possible, but that has the problem of adjusting the underyling. Anyone has any good ideas?

 

Short calendars are treated as naked options.

 

Short calendars are treated as naked options only when margins are concerned. They are not, however, the same as naked options. The idea is to try to isolate the sigma component of the option. A short calendar allows that to a degree, but does not do so entirely. Short of dynamic hedging, does anyone know of a better way to isolate the IV?

 

If you want to profit from an IV implosion , long flies are your best bet. Since no naked options are involved margin should be a non-issue. Main art is to guess which strike or strike(s) -(condor) to short.

 

Can't say I know what a fly is (or is it flies). Can you show me what the spread looks like? Thanks.

 

Ex. You think IBm is going to settle around 75 next month. So you buy 1 70 call sell 2 75 calls and buy 1 80 call . There are at least 8 different ways to do it involving puts/stock. Find an option book and read up on butterflies. It is a good limited risk spread that can be directional (since you have to predict underlying) and usually short vol. i say usually since the skew of the strikes affect its PnL scenario.

Good luck

 

anyway you play it, selling options is the only way to play vol. Unfortunately, you need to put up the margin. Use ratio call spreads if the flies are too expensive. I like to leg into the condor first by selling the put spread then the call spread. Using a bullish bias to capture some vig.

 

Margin is never a problem. It's just another way to saying cost basis. However, it seems that the only way to truely play the IV is to use dynamic hedging, which has the problem of being hard to operate.