Theta is NOT the P/L of an option

Amahrix · Jul 12, 2019

Magic said:
Theta is inverse of gamma is pretty straight forward. If you’re positive theta that means you’re short gamma. If you’re positive more theta that means you’re short more gamma. That’s the whole point, probably why Taleb says options are the same regardless of expiration. Theta is the fair value compensation for the amount of gamma you’re on the hook for, or vice versa if you’re long options.

The edge comes in selling options that are priced at higher vol than what is realized, or buying lower implied than what is realized. In the former case you’ll collect more theta than you pay out in gamma, etc.

As you get closer to expiration, the vol you realize has a comparatively greater impact on the moneyness of the option, so gamma losses (gains) if you’re short (long) are more violent. You lose (gain) more for every consecutive dollar price goes against your position if you’re short (long) than you would with more time on the option since the terminal moneyness is affected to a greater degree. Hence compensation i.e theta for that reality rises (falls) as we approach expiration when short (long).
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Thanks kindly for taking the time to write that out for me. I appreciate it.

Amahrix · Jul 12, 2019

Wheezooo said:
It is really quite simple. Unlike most parameters that can go higher or lower, time only goes one way. All other parameters remaining the same. As a result of time, tomorrow an option will be worth less than today - The owner of the option loses over time.

In return. A long option position that is hedged benefits from any price movement that occurs where whether price goes up or down you make money (if this doesn’t make sense, then the problem is not you understanding the relationship between the two but rather you not understanding why gamma is beneficial to the options owner).

So basically, every day an options owner loses on decay, and in return will benefit from price movement and capturing the p+l created by gamma. Where that point of indifference is. Where the market maker sees no benefit to owning gamma or attempting to capture theta is approximately the vol where the option should be priced.

What Taleb is saying about the forward curve warrants about 30 caveats, but basically nowhere along the curve should there be a gamma/theta advantage if the product in question is perfectly identical regardless of time. So many other things wrong with it or limited in its scope that I wouldn't know where to begin typing.
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Thanks for your reply. I appreciate it. If you have anything else to add to it, please do. Thx again. And as far as what Taleb is saying, I do not think he was saying what you thought he was saying, he goes on to highlight everything wrong with everything options in the book and highlights it to the future market maker/trader/etc. I just took a small part to understand the theory and compare to reality. Thx again.

Overnight · Jul 12, 2019

Amahrix said:
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Theta isn’t the source of a options P/L for trader.

CAPEESH?
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Oi, that is so insulting to someone with Italian heritage.

It is capiche.

Amahrix · Jul 12, 2019

Overnight said:
Oi, that is so insulting to someone with Italian heritage.

It is capiche.
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GABISH. (duly noted)

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Theta is NOT the P/L of an option

Amahrix

Amahrix

Overnight

Amahrix