Hi room, Does anyone have experience with the following strategy: - Wait for the market/stock to be in an overbought situation: prices are spiking, vols are falling, etc... - Buy an otm strangle at the market open. The options should have a short expiration. A movement in the underlying should lead to a substantial percentage change in call or put, i.e. the options should have a high gearing. - Close the position before the market closes to limit time decay. Things to consider: - Rising prices go with falling vols. If you open the strangle when markets/stock is bullish, you buy at low vol. Should the market turn, i.e. fall, you will gain on the vol increase. - The strangle should be slightly delta positive. If the market continues to increase, the vol will fall. Hence, you should be slightly delta positive... What are you thoughts on this? Thanks!
Sounds well thought-out in terms of maintaining neutrality - even factoring in and adjusting for the relationship between volatility and the price of the underlying. So if it's neutrality you're looking for, I think you've found it. I'm just not sure where your edge is. If you were a market maker, then buying the bid and selling the offer would be your edge, and you'd be managing your position as neutral as possible until you could take it off. But as a retail trader, I'm not sure where your edge comes from in your scenario. If you're playing your opinion that the market is overbought and more likely to fall than to rise, then maybe you should have that bias in your position. If you're talking about a really short time to expiration, then the neutrality doesn't really work. In a slow drop time decay will make it tough to make a profit. Same with a slow rise. Those neutral positions work best (or at least more predictably) with a little more time remaining.
That's not how it works. For volatility to fall you need the stock to trade relatively flat for a short period of time, maybe a week or so.
Hi dmo, Thanks for your opinion! There is a tiny edge. The ede is that sharp movements tend to continue or to reserve substantially. Lets take a stock as an example that hit a 52 week high. It is highly unlikely that the stock will change into the "flat"mode. It will either continue to rise or it will correct and fall... The same is true for collapsing stocks. Stocks that move down sharply will continue to drop or rebounce... The idea is that there is some kind of volatility clustering... Sharp movements are likely to be followed by sharp movements.... However, you have to consider the negative correlation with implied vol as I said previously...
You should take into account slippage, which is relatively large with options in general and can be especially large in a big move.