Market Measures

How to Keep Short Deltas

| Oct 7, 2016
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    Market Measures

    How to Keep Short Deltas

    Oct 7, 2016

    It may seem strange since we like to take the short side of Delta Neutral strategies so much, but precisely because we are premium sellers we like to keep short Deltas. We do this because in selling premium we are short Implied Volatility (IV). Since we are aware of the fact that there is a high inverse correlation between the S&P 500 and the VIX, we keep the short Deltas to offset the negative effect of a large down move and the spike in IV that would hurt our short option positions which is Vega risk. The Best Practices segment on September 20, 2016 examined the concept of "Using Static Delta". We thought about an alternative. What would be the result if we incorporated short Delta into our positions at order entry?

    Our study was conducted in the SPY using data from 2005 to the present. We sold our typical 1 Standard Deviation (SD) Strangle and compared that to two different variations. One variation was to add an additional short 16 Delta Call to the Strangle. The other variation was to replace the 16 Delta Call in our 1 SD Strangle with a 30 Delta Call. All trades were managed at 50% of max profit if possible. Tom summarized it saying, “We are just trying to show you ways to get short Delta on top of short premium and which is better to do? Do you do a Strangle with an extra Call, or one bigger Call compared to the Put to make it a little bit skewed?”

    Side-by-side P/L graphs showed that although both were skewed, the short Strangle with an extra Call sacrificed some potential profit for a better upside breakeven. A table of the results comparing our standard Strangle to the two variations was displayed. The table included the win rate, top 25% P/L, median P/L, bottom 25% P/L and largest loss. The data revealed that the Strangle with the added call had the highest win rate, but the skewed strangle had the best P/L measures and the smallest largest loss. An added benefit of the skewed Strangle over the one with the added Call is that the Buying Power Reduction (BPR) will be less. Tom said, “Tony and I would both default for the skewed Strangle because it’s less capital to make the trade and it has a higher payout, and we will always opt for the use of less capital so we can do more and more things.”

    For more information on Short Deltas see:

    Watch this segment of Market Measures with Tom Sosnoff and Tony Battista for the valuable takeaways and the results of our study on to alternatives to our usual short Strangles that incorporate short Deltas to hedge short Vega risk.

    This video and its content are provided solely by tastylive, Inc. (“tastylive”) and are for informational and educational purposes only. tastylive was previously known as tastytrade, Inc. (“tastytrade”). This video and its content were created prior to the legal name change of tastylive. As a result, this video may reference tastytrade, its prior legal name.

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