Guys, when I increase vols the loss zone stretches on a huge drop in price but I would still be able to close out the position before expiration for a limited loss. Of course I am gonna look at how this looks for puts as well....
I am speaking specifically on how the position reacts with a trade to the strike, not away. Strip vols drop, but otm call vols will actually increase due to smile characteristics. Take a look at Nov 1350 vols vs. 1395 vols... 200bp attributable to smile. A reasonable move lower won't increase deep otm call vols; again, shape of the skew.
So if it moves to the ATM strike, won't the OTM strike vols drop as they become ATM? Even if I add 2% on the vols in the position it still has a profit at the 1390 strike at expiration of the first wing.
Your strikes are 1390, currently otm. 2 devs otm on the calls equates to -200bp lower on skew. You need to mode vols at discrete intervals, or use current atm vols in your analysis of a trade to 1390. 1390 strike vols will not be trading at 8.85%. Use the current atm vols to model a trade to your strike. Edit: corrected strike to 1390. No impact on vols. Model +2.00 on vols.
Risk: 1390 strikes... sorry if I wrote it wrong somewhere... Also I changed the model to assume IV of about 14% and the risk graph changes only a little (net vega of the spread is almost flat so not surprising).
Seriously? What a toy. Anyway, until you guys wise-up, model a single vol at 10.50%. Not perfect, but it will give MinMax figures in-line with reality.
You mean flat skew? Can't do that either. All Strip vols can be shifted up or down but only together. EDIT: Current market skew is used in the model.