Short straddles - Risk management

Discussion in 'Options' started by jebaanandhan, Oct 15, 2010.

  1. Hi All,
    I am newbie to options. I have some questions regarding risk management in short straddles.

    Lets take an example.
    I am selling 1 ATM put and 1ATM call for Gold daily options

    when the current price is 1381.3
    Daily Gold (Dec Future)1380 CALL :5.13 opening price
    Daily Gold (Dec Future)1380 PUT:5.62 opening price

    The upper breakeven will be
    1385.13
    and lower breakeven will be
    1374.38

    If the underlying price moves below 1374.38 or moves above 1385.13 will create potential unlimited loss.

    The questions are
    *) If the price stays between 1374.38 and 1385.13, will the net amount be profit?
    *) How the each point movement in call or put after upper breakeven point or lower breakeven against underlying movement?.

    *) How good is the idea to put underlying buy (buy stop order at 1385.13) and underlying sell(sell stop order at 1374.38) with tighter stop loss?

    *)If the one of the breakeven point is breached, one option will be worthless and other option intrinsic value will increase. For example, upper breakeven point is breached, put option will be worthless and buy stop order will be triggered. So will call option and underyling buy order move in same ratio?

    *) Is there any chance in the directional rally,(i mean either upper breakeven point breach or lower break even point breach and assume one of the stop order of underlying is executed) underlying trade will overtake the loss in one of the options?
     
  2. Carl K

    Carl K

    I hope this helps a bit.

    The questions are
    *) If the price stays between 1374.38 and 1385.13, will the net amount be profit?
    Yes, only if it expires at the strike price, else
    No, at expiration one option will expire worthless,
    the other will be in the money (Dollar for Dollar).

    *) How the each point movement in call or put after upper breakeven point or lower breakeven against underlying movement?.
    See the above answer.

    *) How good is the idea to put underlying buy (buy stop order at 1385.13) and underlying sell(sell stop order at 1374.38) with tighter stop loss?
    Consider Butterflies

    *)If the one of the breakeven point is breached, one option will be worthless and other option intrinsic value will increase. For example, upper breakeven point is breached, put option will be worthless and buy stop order will be triggered. So will call option and underyling buy order move in same ratio?
    There is no way to make it risk free.

    *) Is there any chance in the directional rally,(i mean either upper breakeven point breach or lower break even point breach and assume one of the stop order of underlying is executed) underlying trade will overtake the loss in one of the options?
    Keep studying.

    Carl
     
  3. drcha

    drcha

    You might want to try to get hold of Paul Forchione's books or look on his site. He has some very good and interesting ideas for adjusting short straddles.

    http://www.amazon.com/Trading-Optio...=sr_1_1?ie=UTF8&s=books&qid=1287198834&sr=1-1

    They include buying a long option in the direction of the move or entering a synthetic in the direction of the move, and getting out early. You can base your adjustments on deltas, trying to stay between -25 and 25, for instance. He has similar ideas for double ratio spreads. You can extend these ideas to double calendars with a few extra shorts.
     
  4.  
  5. Wrong on the break evens:
    Your credit for putting on the short straddle is 5.13 + 5.62 = 10.75
    So your break evens are 1380 +- 10.75. (1369.25/1390.75)

    Beyond those two areas you will start to feel the pain. That's just zero-vol (expiration) of course. You can also feel a ton of pain if the market decides to bid the shit out of vol which happens sometimes.
     
  6. @butterflykondor
    You are right. My break even point calculation was wrong.


    Beyond those two areas you will start to feel the pain. That's just zero-vol (expiration) of course. You can also feel a ton of pain if the market decides to bid the shit out of vol which happens sometimes.

    Could you please elaborate zero-vol(expiration)?.
     
  7. Options only move 1 for 1 if very deep ITM or at expiration. And then there's that tricky combination of a bit of both. (see option prograsm idea)

    [
    Even options move 1for 1 , how much effect the time decay affect the pricing when it is near to expiration?
     
  8. donnap

    donnap

    The BE is based on expiry values - options trading at parity - no time value.

    Those are bucket shop options, aren't they? I'd say liquidity risk is a factor - the shop sets the B/A - no other market participants, correct?

    If you plan on hedging/closing solely with the UL - then not a factor - but one would prefer a reasonable opportunity to close the options out, as well.
     
  9. If option near expiration, have lee-tle time premium.
    If lee-tle time premium, have lee-tle time decay affect the pricing.
     
  10. My plan is

    Open short straddle
    Strike price would be almost near to the at the money

    put stop order buy on upper break even and stop order sell on lower break even.

    Both stop order will have tighter stop loss.


    If market stays inbetween the strike price ,i am lucky.
    If market breaches and continue the rally in any one of the direction, the loss position will be almost hedged by underlying stop order. By the time other option will be worthless. So i will close the worthless option.


    what are the advantages and disadvantages of hedging loss position by underlying instrument instead of opening other option position?
     
    #10     Oct 18, 2010