I have tried very hard to hedge my option positions. Sometimes I am successful, but the reward significantly diminished. Having traded various strategies, I am convinced of market efficiency, and having significant reward with very little risk is extremely unlikely because of the No Arbitrage assumption in the mathematics. Therefore, I have come to the conclusion that, (1) if an investor desires little or no risk, he would be better off just park his account in Treasury; this way, he can also save the time and headache of market analysis and monitoring. All the hedging will result in tremendous hassle and in a return that is hardly any better than that of risk-free investment. (2) if an investor wants to make more than risk-free return, then he or she would just have to take a stand and "make a bet" on direction, volatility, or timing, as FullyArticulate said before. As the old saying goes, "no pain, no gain." Some stake must be taken in order to make greater than risk-free reward. Any comments?
Taleb agrees with this. He believes one should take no risk, and at the same time take tremendous risk. In other words, have most of your money in treasury securities, and at the same time have money in high risk/high reward positions.
This is a <i>huge</i> leap that shouldnât be made. Numerous strategies not working does not mean that markets are efficient. Markets are far from efficient; prices do not reflect information uniformly nor is there informational symmetry between investors. If markets were efficient, the wedge between the transaction price and the efficient price would not exist. If you assume markets were efficient, then your statements (1) and (2) would be correct. If youâre interested there are some great theory papers on this subject, such as Sharpe (1964), Litner (1965) and Mossin (1966).
But is the true efficient price ever knowable? Perhaps it's like the antiques market where the true price is only what someone is willing to pay for it.
Does this really come as a surprise to you? A hedge after all is nothing more than a boundary constraint to your risk exposure and to your returns as well. You can't have it both ways... :eek:
The work of the thriumphal trio is in order here...a good reading material to answer these questions. Triumph of the Optimists: 101 Years of Global Investment Returns (Hardcover)
If you are trying to reduce your risk, I think you need to take the time to consider time horizon. Over extended periods of time stocks will beat treasuries. The risk in treasuries is that you miss out on possible gains you could have made in stocks. That's similar to not selling puts because you are afraid of missing out on the growth of the stocks or are afraid of a stock being assigned to you. You have to figure out when you will need the money to actually assess risk correctly. To me the risk of selling naked puts is worth it because over longer periods the reward is the greater return I get compared to buying stocks straight out or buying treasuries and not paying attention. If you don't want to research, put your money in an index fund or ETF that covers the broad markets. You'll beat treasuries over time. http://mytradersjournal.com/stock-options/