Get started

Impliedvolatility

Options Blueprint Series [Intermediate]: Vega-Neutral Gold Play1. Introduction Gold is currently in an uptrend, presenting a potentially favorable environment for bullish traders. However, with implied volatility (IV) sitting around its mean, there’s uncertainty about whether IV will rise or fall in the near future. In such a scenario, traders may want to neutralize their vega exposure to avoid being negatively affected by changes in volatility. This article focuses on setting up a Call Ratio Spread, a bullish option strategy that provides positive delta while allowing for further adjustments that could keep vega neutral. This allows traders to capitalize on Gold’s potential uptrend while minimizing risk from changes in implied volatility. 2. Current Market Context The Gold futures market shows strong levels of support, which reinforces the bullish outlook. On the continuous Gold futures chart above GC1!, we observe key support levels at 2646.2 and 2627.2-2572.5. These levels could act as price floors, helping the uptrend continue if tested. Similarly, when examining the contract-specific below chart for GCQ2025, we identify supports at 2725.4 and 2729.5-2705.5. These levels provide solid ground for bullish trades on this specific contract, giving traders additional confidence in entering long positions. With implied volatility near its average (see the chart below), the market’s future volatility direction is unclear. Traders using options may choose adapt to this environment, ensuring that changes in volatility do not work against them. 3. Options Strategy: Call Ratio Spread To take advantage of Gold’s uptrend while neutralizing the risk from changes in volatility, we could employ a Call Ratio Spread. This strategy offers a bullish stance while maintaining vega neutrality, protecting the trader from swings in implied volatility. Setup: Buy 1x 2600 Call at 256.15 Sell 2x 3500 Calls at 23.32 Expiration: July 28, 2025 This configuration generates positive delta, meaning the strategy will benefit from upward price movement. At the same time, by selling two calls at a higher strike, we offset the vega exposure, ensuring that changes in volatility won’t dramatically affect the position. The strike prices and expiration selected help create a risk profile that works well in a bullish market. The maximum gain potential occurs if Gold continues to rise but stays below the higher 3500 strike, while the vega neutrality minimizes any volatility risks as the trade begins. Notice the breakeven point for this strategy is 2809.5, meaning the trade becomes profitable if Gold exceeds this level by expiration. 4. Why Use Micros? Traders looking for a more flexible approach can consider using Micro Gold Futures (symbol: MGC) instead of standard Gold futures contracts. Micro Gold Futures offer smaller contract sizes, which translate into lower margin requirements and a more precise way to control risk. This makes them an attractive alternative for traders with smaller accounts or those looking to scale into positions gradually. Additionally, Micro Gold Futures allow traders to fine-tune their exposure to Gold without the larger capital commitment required by standard contracts. For those implementing strategies like the Call Ratio Spread, Micros provide a cost-effective way to execute similar trades with a lower financial commitment. Contract Specs and Margin Requirements Gold Futures (symbol: GC) represent 100 troy ounces of gold, and their margin requirements can vary depending on market volatility and the broker. Typically, the initial margin requirement for a standard Gold futures contract is around $10,000 to $12,000, but this can fluctuate. For traders seeking more flexibility, Micro Gold Futures (symbol: MGC) offer a smaller contract size, representing 10 troy ounces of gold. The margin requirement for Micro Gold Futures is significantly lower, usually in the range of $1,000 to $1,200, making it a more accessible option for those with smaller accounts or those looking to fine-tune their exposure. 5. Risk Management As with any options trade, managing risk is essential. In the case of a Call Ratio Spread, the primary risk comes from the naked short calls at the 3500 strike price. If Gold rallies aggressively beyond 3500, the trader faces unlimited risk due to the uncovered nature of the short positions. To mitigate this risk, traders should consider using stop-loss orders or adjusting the trade if Gold's price approaches the 3500 level too quickly. Another way to eliminate the unlimited risk component to the upside would be to convert the Call Ratio Spread into a Call Butterfly by buying an additional call above the 3500 strike price, effectively capping the risk. This adjustment still allows for positive delta exposure while limiting potential losses if Gold moves sharply higher. Additionally, monitoring implied volatility is key. While the position starts with neutral vega exposure, this will change as the underlying asset price moves and time passes, especially as expiration approaches. The vega exposure can increase or decrease depending on these factors. If maintaining the vega-neutral characteristic is a priority, further adjustments—such as rolling options or modifying strike prices—could be made to keep the position aligned with the trader’s volatility outlook. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com - This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
COMEX:GC1!Education
by traddictiv
Options Blueprint Series: Pre and Post OPEC+ WTI Options PlaysIntroduction The world of crude oil trading is significantly influenced by the decisions made by the Organization of the Petroleum Exporting Countries (OPEC) and its allies, collectively known as OPEC+. These meetings, which often dictate production levels, can lead to substantial market volatility. Traders and investors closely monitor these events, not only for their immediate impact on oil prices but also for the broader economic implications. In this article, we explore two sophisticated options strategies designed to capitalize on the volatility surrounding OPEC+ meetings, specifically focusing on WTI Crude Oil Futures Options. We will delve into the double calendar spread, a strategy to exploit the expected rise in implied volatility (IV) before the meeting, and the transition to a long iron condor, which aims to profit from potential post-meeting volatility adjustments. Understanding the Market Dynamics OPEC+ meetings are pivotal events in the global oil market, with decisions that can significantly influence crude oil prices. These meetings typically revolve around discussions on production quotas, which directly affect the supply side of the oil market. The anticipation and outcomes of these meetings create a fertile ground for volatility, especially in the days leading up to and immediately following the announcements. Implied Volatility (IV) Dynamics Pre-Meeting Volatility: In the days leading up to an OPEC+ meeting, implied volatility (IV) often rises. This increase is driven by market uncertainty and the potential for significant price moves based on the meeting's outcome. Traders buy options to hedge against or speculate on the potential price movements, thereby increasing the demand for options and pushing up IV. Post-Meeting Volatility: After the meeting, IV can either spike or drop sharply, depending on whether the outcome aligns with market expectations. An unexpected decision can cause a significant IV spike due to the new uncertainty introduced, while a decision in line with expectations can lead to a sharp drop as the uncertainty dissipates. Strategy 1: Double Calendar Spread The double calendar spread is a sophisticated options strategy that can potentially take advantage of rising implied volatility (IV) leading up to significant market events, such as the OPEC+ meeting. This strategy involves establishing positions in options with different expiration dates but the same strike price, allowing traders to profit from the increase in IV while managing risk effectively. Structure Long Legs: Buy longer-term call and put options. Short Legs: Sell shorter-term call and put options. The strategy typically involves setting up two calendar spreads at different strike prices (one higher and one lower), thus the term "double calendar." Rationale The rationale behind this strategy is that the longer-term options will experience a greater increase in IV as the event approaches, inflating their premiums more than the shorter-term options. As the short-term options expire, traders can realize a profit from the difference in premiums, assuming IV rises as expected. Strategy 2: Transition to Long Iron Condor As the OPEC+ meeting date approaches and the double calendar spread positions reach their peak profitability due to the elevated implied volatility (IV), it becomes strategic to transition into a long iron condor. This shift aims to capitalize on potential volatility changes and capture profits from the expected IV drop. Structure Closing the Double Calendar: Close the short-term call and put options from the double calendar spread. Setting Up the Long Iron Condor: Sell new OTM call and put options with the same expiration date as the long legs of the double calendar spread. The result is a position where the trader holds long options closer to the money and short options further out, creating a long condor structure. Rationale The rationale for transitioning to a long iron condor is to capture profits from a potential decrease in IV after the OPEC+ meeting. Practical Example To illustrate the application of the double calendar spread and the transition to a long iron condor, let's walk through a detailed example using hypothetical WTI Crude Oil Futures prices. Double Calendar Spread Setup 1. Initial Conditions: Current price of WTI Crude Oil Futures: $77.72 per barrel. Date: One week before the OPEC+ meeting. 2. Long Legs: Buy a call option with a strike price of $81, expiring on Jun-7 2024 @ 0.32. Buy a put option with a strike price of $74, expiring on Jun-7 2024 @ 0.38. 3. Short Legs: Sell a call option with a strike price of $81, expiring on May-31 2024 @ 0.05. Sell a put option with a strike price of $74, expiring on May-31 2024 @ 0.09. Note: We are using the CME Group Options Calculator in order to generate fair value prices and Greeks for any options on futures contracts. Transition to Long Iron Condor 1. Closing the Double Calendar: Close the short-term call and put options just before they expire @ 0.01 (assuming they are OTM on Friday May-31, before the market closes for the weekend). 2. Setting Up the Iron Condor: Sell a call option with a strike price of $82, expiring on Jun-7 2024 @ 0.13. Sell a put option with a strike price of $73, expiring on Jun-7 2024 @ 0.18. 0.11 and 0.17 are estimated values assuming WTI Crude Oil Futures remains fairly centered around 77.50 and that IV has risen into the OPEC+ meeting weekend. Transitioning from the Double Calendar to the Long Iron Condor would be done on Friday May-31. 3. Resulting Position: You now hold a long call at $81, a long put at $74, a short call at $82, and a short put at $73, forming a long iron condor. The risk of the trade has been reduced by half (assuming the real fills coincide with the estimated values above) from 0.56 to 0.27 = $270 with a potential for reward of up to 0.73 (1 – 0.27) = $730. This practical example demonstrates how to effectively implement and transition between the double calendar spread and the long iron condor to navigate the volatility surrounding an OPEC+ meeting. Importance of Risk Management Effective risk management is crucial when implementing options strategies, particularly around significant market events like the OPEC+ meeting. The volatility and potential for sharp market moves require traders to have robust risk management practices to protect their capital and ensure long-term success. Avoiding Undefined Risk Exposure Undefined risk exposure occurs when traders have no clear limit on their potential losses. This can happen with certain options strategies that involve selling naked options. To avoid this, traders should always define their risk by using strategies that have built-in risk limits, such as spreads and condors. Precise Entries and Exits Making precise entries and exits is critical in options trading. This involves: Entering trades at optimal times to maximize potential profits. Exiting trades at predetermined levels to lock in gains or limit losses. Adjusting trades based on market conditions and new information. Additional Risk Management Practices Diversification: Spread risk across different assets and strategies. Position Sizing: Allocate only a small percentage of capital to each trade to avoid significant losses from a single position. Continuous Monitoring: Regularly review and adjust positions as market conditions evolve. By adhering to these risk management principles, traders can navigate the complexities of the options market and mitigate the risks associated with volatile events like OPEC+ meetings. Conclusion Navigating the volatility surrounding significant market events like the OPEC+ meeting requires strategic planning and effective risk management. By implementing the double calendar spread before the meeting, traders can capitalize on the anticipated rise in implied volatility (IV). Transitioning to a long iron condor after the meeting allows traders to benefit from potential post-meeting volatility adjustments or price stabilization. These strategies, when executed correctly, offer a structured approach to managing market uncertainties and capturing profits from both pre- and post-event volatility. The key lies in precise timing, appropriate strike selection, and diligent risk management practices to protect against adverse market movements. By understanding and applying these sophisticated options strategies, traders can enhance their ability to navigate the complexities of the crude oil market and leverage the opportunities presented by OPEC+ meetings. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
NYMEX:CL1!Education
by traddictiv
Quiet Before the Volatility Storm: WTI Crude Oil Options PlaysStay tuned! Beyond this exploration of WTI Crude Oil options plays, we're excited to bring you a series of educational ideas dedicated to all types of options strategies. More insights coming soon! Introduction to Market Volatility In the realm of commodity trading, WTI Crude Oil stands out for its susceptibility to rapid price changes, making market volatility a focal point for traders. This volatility, essentially the rate at which the price of oil increases or decreases for a given set of returns, is a crucial concept for anyone involved in the oil market. It affects not only the risk and return profile of direct investments in crude oil but also plays a pivotal role in the pricing of derivatives and options tied to this commodity. Volatility in the crude oil market can be attributed to a myriad of factors, ranging from geopolitical developments and supply-demand imbalances to economic indicators and natural disasters. For options traders, understanding the nuances of volatility is paramount, as it directly influences option pricing models through metrics such as Vega, which indicates the sensitivity of an option's price to changes in the volatility of the underlying asset. By delving into both historical and implied volatility, traders can gain insights into past market movements and future expectations, respectively. Historical volatility provides a retrospective view of price fluctuation intensity over a specific period, offering a statistical measure of market risk. Implied volatility, on the other hand, reflects the market's forecast of a likely range of movement in crude oil prices, derived from the price of options. Incorporating volatility analysis into trading strategies enables options traders to make more informed decisions, particularly when considering positions in WTI Crude Oil options. Whether aiming to capitalize on anticipated market movements or to hedge against potential price drops, volatility remains a critical element of successful trading in the oil market. News as a Catalyst for Volatility The crude oil market, with its global significance, is incredibly sensitive to news, where even rumors can precipitate fluctuations in prices. Recent events have starkly demonstrated this phenomenon, showcasing how geopolitical tensions, OPEC+ decisions, and inventory data can serve as major catalysts for volatility in WTI Crude Oil markets. 1. Geopolitical Tensions: Middle East Conflicts Geopolitical events, especially in oil-rich regions like the Middle East, have a pronounced impact on oil prices. For instance, conflicts or tensions in this area can lead to fears of supply disruptions, prompting immediate spikes in oil prices due to the region's significant contribution to global oil supply. Such events underscore the market's vulnerability to geopolitical instability and the swift reaction of oil prices to news suggesting potential supply threats. 2. OPEC+ Production Decisions The Organization of Petroleum Exporting Countries (OPEC) and its allies, known as OPEC+, play a pivotal role in global oil markets through their production decisions. An announcement by OPEC+ to cut production usually leads to an increase in oil prices, as the market anticipates a tighter supply. Conversely, decisions to increase production can cause prices to drop. These actions directly influence market sentiment and volatility, illustrating the significant impact of OPEC+ policies on global oil markets. 3. Inventory Data Releases Weekly inventory data from major consumers like the United States can lead to immediate reactions in the oil market. An unexpected increase in crude oil inventories often leads to a decrease in prices, reflecting concerns over demand or oversupply. Conversely, a significant draw in inventories can lead to price spikes, as it may indicate higher demand or supply constraints. These inventory reports are closely watched by market participants as indicators of supply-demand balance, affecting trading strategies and market volatility. Each of these events has the potential to cause significant movements in WTI Crude Oil prices, affecting the strategies of traders and investors alike. By closely monitoring these developments, market participants can better anticipate volatility and adjust their positions accordingly, highlighting the importance of staying informed on current events and their potential impact on the market. Technical Analysis Tools: Bollinger Bands and the 14-Day ADX A sophisticated approach to navigating the fluctuating markets of WTI Crude Oil could involve the combined use of Bollinger Bands and the 14-day Average Directional Index (ADX). While Bollinger Bands measure market volatility and provide visual cues about the market's overbought or oversold conditions, the ADX offers a unique perspective on market momentum and trend strength. The 14-Day ADX is pivotal in assessing the strength of a trend. A rising ADX indicates a strengthening trend, whether bullish or bearish, while a declining ADX suggests a weakening trend or the onset of a range-bound market. For options traders, particularly those interested in the long strangle strategy, the ADX provides valuable information. A low or declining ADX signals a weak or non-existent trend. Bollinger Bands® serve as a dynamic guide to understanding market volatility. In this case an idea could be to apply Bollinger Bands® to the 14-Day ADX values instead of the WTI Crude Oil Futures prices. When combined, a pierce of the lower Bollinger Bands®, may suggest an opportune moment to establish a long strangle position in anticipation of a forthcoming breakout while options prices may be underpriced. This combined approach allows traders to fine tune their entry and exit points. By waiting for the ADX to signal a nascent trend and Bollinger Bands to indicate a period of low volatility, traders can position themselves advantageously before significant market movements. Strategizing with Bollinger Bands and ADX: In the dance of market analysis, the interplay between the ADX and Bollinger Bands choreographs a strategy of precision. Traders can look for moments when the market is quiet and options are underpriced. This dual-focus approach maximizes the potential of entering a long strangle options trade at the most opportune time, aiming for potential gains from subsequent volatility spikes in the WTI Crude Oil market. Strategies for Trading WTI Crude Oil Options In the volatile landscape of WTI Crude Oil trading, strategic agility is paramount. One strategy that stands out for its ability to harness volatility is the long strangle. This strategy is especially relevant in periods of low implied volatility (IV), providing traders with a unique opportunity to capitalize on potential market shifts without committing to a specific direction of the move. Understanding the Long Strangle The long strangle options strategy involves purchasing both a call option and a put option on the same underlying asset, WTI Crude Oil in this case, with the same expiration date but at different strike prices. The call option has a higher strike price than the current underlying price, while the put option has a lower strike price. This setup positions the trader to profit from significant price movements in either direction. The beauty of the long strangle lies in its flexibility and the limited risk exposure it offers. The total risk is confined to the premiums paid for the options, making it a controlled way to speculate on expected volatility. This strategy is particularly appealing when the IV of options is low, implying that the market expects calm but the trader anticipates turbulence ahead. Risk Management and the Importance of Timing Risk management is a critical component of successfully implementing the long strangle strategy. The key to minimizing risk while maximizing potential reward is timing. Entering the trade when IV is low—and, consequently, the cost of options is relatively cheaper—allows for greater profitability if the anticipated volatility materializes and the price of the underlying asset moves significantly. The Implications of a Limited Risk Strategy A limited risk strategy like the long strangle ensures that traders know their maximum potential loss upfront—the total amount of premiums paid. This predefined risk exposure is particularly advantageous in the unpredictable oil market, where sudden price swings can otherwise lead to substantial losses. Moreover, the limited risk nature of the long strangle allows traders to maintain a balanced portfolio, allocating a portion of their capital to speculative trades without jeopardizing their entire investment. It's a strategic approach that leverages the inherent volatility of WTI Crude Oil, potentially turning market uncertainties into opportunities. Case Studies: Real-world Applications of the Long Strangle in WTI Crude Oil Trading In the ever-volatile world of WTI Crude Oil trading, several events have starkly highlighted the efficacy of the long strangle strategy. These case studies exemplify how sudden market movements, driven by unforeseen news or geopolitical developments, can provide significant opportunities for prepared traders. Here, we explore instances where shifts in volatility facilitated lucrative trades, underscoring the potential of strategic options plays. Case Study 1 : Geopolitical Escalation in the Middle East Event Overview: An unexpected escalation in geopolitical tensions in the Middle East led to concerns over potential supply disruptions. Given the region's pivotal role in global oil production, any threat to its stability can significantly impact crude oil prices. Trading Strategy: Anticipating increased volatility, traders employing the long strangle strategy before the escalation could imply significant gains. As prices surged in response to the tensions, the value of a strangle would have potentially increased. Case Study 2 : Surprise OPEC+ Production Cut Announcement Event Overview: In a move that caught markets off-guard, OPEC+ announced a substantial cut in oil production. The decision aimed at stabilizing prices instead triggered a sharp increase in volatility as traders scrambled to adjust their positions. Trading Strategy: Traders with long strangle positions in place could have capitalized on the sudden price jump. Case Study 3 : Major Hurricane Disrupts Gulf Oil Production Event Overview: A major hurricane hit the Gulf Coast, disrupting oil production and refining operations. The immediate threat to supply lines led to a spike in oil prices, reflecting the market's rapid response to supply-side shocks. Trading Strategy: The long strangle strategy could be invaluable for traders who had positioned themselves ahead of the hurricane season. The abrupt increase in crude oil prices following the hurricane highlighted the strategy's advantage in situations where directional market movements are expected but their exact nature is uncertain. Conclusion These case studies illustrate the practical application of the long strangle strategy in navigating the tumultuous waters of WTI Crude Oil trading. By strategically entering positions during periods of low implied volatility, traders can set themselves up for success, leveraging market movements to their advantage while maintaining a controlled risk profile. The key takeaway is the importance of vigilance and readiness to act on sudden market changes, employing comprehensive risk management practices to safeguard investments while exploring speculative opportunities. The essence of trading in such a dynamic market lies not just in predicting future movements but in preparing for them through well-thought-out strategies and an acute understanding of market indicators and global events. The long strangle options strategy, with its limited risk and potential for significant returns, exemplifies this approach, offering a compelling method for traders aiming to capitalize on the inherent volatility of WTI Crude Oil. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
NYMEX:CL1!Education
by traddictiv
Celebrating 50 Years of Equity Options TradingAmid serious pushback, Chicago Board of Options Exchange (CBOE) went live on 26th April 1973. Options are now a standard tool for portfolio risk management. Not so, back then. They were seen as gambling instruments for reckless speculators. Shortly after CBOE launch, Fischer Black, Myron Scholes, and Robert Merton provided a mathematical model for computing options prices. This Nobel Prize winning model allowed options to be priced theoretically for the first time. It was a key driver in making options markets sophisticated, more efficient and much larger. The Black Scholes Merton model ("BSM") forms the fundamental basis of options pricing. It allows traders to compute a theoretical price to options based on the underlying asset’s expected volatility. Expected volatility is referred to as implied volatility (IV). Why implied? Because it is the volatility implied from an options price given other parameters from the BSM model. COMPREHENDING BSM & BLACK76 Options have existed since the 17th Century. Option were limited to speculation and gambling in the absence of a sound and suitable pricing model such as BSM. BSM offers a mathematically sound framework to compute theoretical price of European options using five inputs: 1. Underlying Asset Price 2. Implied Volatility (IV) of the Underlying Asset 3. Interest rates 4. Exercise (Strike) Price of the option 5. Time to expiry A variant of the BSM for pricing options on futures, bond options, and swaptions is the Black Model (also known as Black76) which forms the basis of pricing options on commodity futures. BSM is far from perfect. For starters, it makes unrealistic assumptions. Such as that stock prices follow a log-normal distribution and are continuous. That future volatility is known and remains constant. BSM assumes no transaction costs or taxes, no dividends from the stocks, and a constant risk-free rate. Even though these assumptions are impractical, the BSM provides a useful approximation. In fact, the model is so commonly used that options prices are often quoted as IV. On the assumption that given IV, options price can be computed using BSM. Actual options prices vary from theoretical ones based on supply-demand dynamics and with reality being different from the assumptions baked into BSM. For instance, actual prices for the same expiry and at different strike prices have been observed to have different IV. Primarily given a higher likelihood of a downside plunge relative to upside rally. This difference in IVs across different strikes is referred to as volatility skew. OPTIONS IN SUMMARY Options involve two parties whereby one party acquires a right to buy or sell a pre-agreed fixed quantity of a stock/commodity at a pre-agreed price (the strike or the exercise price) at or before a pre-agreed future date (Expiry Date). One party acquires the right (Option Buyer or Option Holder) and the other party takes on the obligation (Option Seller). In consideration for granting the right, the Option Seller collects a premium (Option Price) from the Option Buyer. To ensure that the Seller keeps up their promise to trade, such Sellers are required to post margins with the Clearing House. Once buyers pay premium upfront, they are not required to post any additional margins with the Clearing House. Where the Option Holder secures a right to buy, it is known as a Call Option. However, if the Option Holder acquires the right to sell, such an option is referred to as Put Option. Where the Option Holder can exercise their right at or before any time before expiry, such Options are referred to as American Options. Options that can be exercised only at expiry are referred to as European Options. While exercising is permitted at expiry, these European options positions can be closed out before expiry by selling out a long position or by buying back a short position. Premiums for European options are typically lower than premiums compared to American options. COMPREHENDING WALLSTREET’S FEAR GUAGE, FADING VIX, AND VIX1D The CBOE Volatility Index (famously referred to as VIX and is also knows as fear gauge) is a real time index measuring the implied volatility of the S&P 500 for the next 30 days based on SPX Index options prices for options expiring in 23 to 37 days. There are a range of financial products based on the VIX index allowing investors to hedge volatility risk in their portfolios. In recent months, VIX has been fading into insignificance. Despite huge price moves in the S&P 500, VIX has remained staid. Why such inertia? Primarily because options markets have started to shift towards shorter expiries. Zero-Days-To-Expiry (0DTE) options now account for more than 40% of overall S&P options market volumes. These very short-dated options allow traders to express views around specific events such as monetary policy meetings and economic releases. Their popularity has increased dramatically over the past few years, with volumes today nearly 4x that of 2020. To account for this shift in market behaviour, the CBOE has launched the VIX1D i.e., the One-Day VIX. This index tracks the expected volatility over the upcoming day as determined by zero-day options prices. More on Options Greeks and Risk Management using Options in a future paper. DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
TVC:VIXEducation
by mintdotfinance
De-Annualizing IVImplied Volatility is the expected volatility of a given asset and can be used for ones advantage De-Annualizing IV allows one to apply annualized IV and alter it towards ones desired time frame As some may know, Implied Volatility or IV is an annualized figure, meaning we have to do extra work to get what we want Applying IV To gain a greater understanding of this topic we will be applying this method to SPY(461.90) as of 11/3/21 In order to get IV of our desired time, we first have to get the 1-day expected volatility and to do so we use the formula as follows IV ÷ √256(256 trading days in a year) and will be 0.1245 ÷ 16 for our case, which gives us a 1-day expected volatility of 0.00778 or .78% After getting our 1-day expected volatility we then use the formula as follows IV ÷ √256 x √Number of Trading days in period and once applied to SPY will become 0.00778 x √22 which gives us 0.036497298 or a monthly expected volatility of 3.65%. We are using 22 in our formula since there is 22 trading days in a month. Conclusion After calculating our monthly volatility we can then multiply the desired asset by it to receive the range in which this asset will most likely stay at For example, regarding SPY at 461.90 we can multiply it by 1.0365 or 0.9635 to receive the prices in which there is a 68% chance that the desired asset will stay at. Regarding SPY this means there is a 68% chance of SPY closing between 478.75 and 445.
AMEX:SPYEducation
by ddcakez
2
Why Implied Volatility Is A Critical Tool For All TradersTraders and investors use different sets of tools when approaching markets. Some are fundamentalists, pouring through balance sheets, supply and demand data, and other macro and microeconomic information to predict the future prices of assets. Others have a strictly technical approach to markets, following trends and the path of least resistance of prices. Still, others combine the two to look for opportunities where fundamental and technical analysis merge to improve the chances of success. The past is history; the present is all that matters for traders and investors Historical volatility is a map of the past price variance for asset prices Implied volatility is a real-time sentiment indicator The primary variable determining put and call option prices The three critical factors implied volatility reveals Yogi Berra, the hall of fame catcher and armchair philosopher, once said, “The future ain’t what it used to be.” All market participants have the same goal, to increase their nest eggs. Projecting the future is the route to achieve their goal. Implied volatility is a tool that all market participants need to embrace as it is a real-time indicator of market sentiment. The past is history; the present is all that matters for traders and investors History depends on interpretation. When it comes to markets, Napoleon Bonaparte may have said it best, “history is a set of lies agreed upon.” An asset’s price moved higher or lower in the past because of a collection of variables viewed through a prism that leads to a collective conclusion that has broad acceptance but may not be accurate. Taking a risk-based position on an inaccurate conclusion could lead to mistakes and losses. When we consider buying or selling any asset, all that matters is the present. The current price of any asset is always the correct price because it is the level a seller is willing to accept and a buyer is willing to pay in a transparent environment, the market. Historical volatility is a map of the past price variance for asset prices Historical volatility is an objective statistical tool that defines the price variance of the past. Any disclosure document tells us that past performance is no guaranty of future performance. We must view historical volatility precisely the same way, with more than a grain of salt. Historical volatility is a guide, but remember what Yogi said, “the future ain’t what it used to be!” We calculate historical volatility by determining the average deviation from the average price over a given period. When it comes to math, the formulas are: A simple explanation of the complicated formula comes in seven easy steps: 1. Collect the historical prices for the asset 2. Compute the expected price (mean) of the historical prices. 3. Work out the difference between the average price and each price in the series. 4. Square the differences from the previous step. 5. Determine the sum of the squared differences. 6. Divide the differences by the total number of prices (find variance). 7. Compute the square root of the variance computed in the previous step. Implied volatility is a real-time sentiment indicator While we can calculate historical volatility from historical data, implied volatility is a different story. Implied volatility is the expected or projected volatility or price variance of an asset over time. We back into calculating implied volatility using an options pricing model. We can establish an implied volatility reading by entering the option value into the Black-Scholes options pricing formula or other formulas that determine options prices. If we have a put or call options price, we can solve for the implied volatility level. The Black-Scholes formula in mathematical notation is: The primary variable determining put and call option prices There are no option prices without implied volatility as it is the critical variable that determines put and call option values. Yogi also said, “You can observe a lot by watching.” The current implied volatility level is the market’s consensus perception of what volatility or price variance will be during the life of the put or call option. Observing and watching reveals the constant changes in implied volatility levels, which can be highly volatile over time. Option traders call an option’s sensitivity to changes in implied volatility Vega, which measures the change in an option price for a one-point change in implied volatility. Implied volatility is constantly changing. Yogi had another great saying, “If the world were perfect, it wouldn’t be,” which rings true for implied volatility which can change in the blink of an eye. Option traders pay lots of attention to their Vega risk as the volatility of implied volatility can be…highly volatile! How’s that for a tongue twister? The three critical factors implied volatility reveals Implied volatility is a valuable tool for all traders and investors for three significant reasons: It is a real-time indicator of the market’s perception of the future price range of an asset. It can change suddenly, and changes often occur before the price of an asset reacts, making implied volatility a leading indicator. Implied volatility reflects the wisdom of the crowd, and crowds tend to make better decisions than individuals. Moreover, it is reading that reflects the present, not the past, and is a constantly changing measure of consensus forecasts for the future. As traders and investors, we exist in the present. We attempt to increase our wealth with long and short risk positions that either add or subtract from our nest egg in the future. Implied volatility is a critical measure we should understand, utilize, and always keep in our toolbox. Any project requires the right tools. Implied volatility’s value is that it reflects a snapshot of the current market’s consensus. Historical volatility depends on “Deja vu” happening “all over again.” Implied volatility is a measure that understands that the “future ain’t what it used to be.” ----- Register for our Monday Night Call using the link below. You can view this full article (with specific examples) and get early access to future articles for free using the other link below. Trading advice given in this communication, if any, is based on information taken from trades and statistical services and other sources that we believe are reliable. The author does not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects the author’s good faith judgment at a specific time and is subject to change without notice. There is no guarantee that the advice the author provides will result in profitable trades. There is risk of loss in all futures and options trading. Any investment involves substantial risks, including, but not limited to, pricing volatility, inadequate liquidity, and the potential complete loss of principal. This article does not in any way constitute an offer or solicitation of an offer to buy or sell any investment, security, or commodity discussed herein, or any security in any jurisdiction in which such an offer would be unlawful under the securities laws of such jurisdiction.
Editors' picks
ICEUS:CT1!Education
by Andy_Hecht
18
How to use Chobotaru IndicatorOur indicator can now be used by everyone. There are a lot of indicators trying to predict what will be the range of the stock in the future. Some of the indicators, that are well known, are using STD of volatility like Bolinger Bands or using an advanced simulation like Monte-Carlo, and others that are using different methods. Our approach to this subject is different. There is an official volatility predictor called Implied Volatility. (I explained it in a different post) This number can be seen in the options chain in your broker platform. You don’t need to trade options to use this indicator. This indicator shows you a probability cloud, giving you the probability of the stock moving to a certain price. This can help in several ways like determine if your target price is possible, where to put stop-loss, you can also use other technical analyses, like support and resistance to choose which area is best for your trade. The sky is the limit. We tested it on 30(+/-10) days of small market cap and higher. In our testing, the price finished inside the range more than 80% of the time (the result are higher but I’m trying to stay conservative). The user can choose a different option’s time period than 30 days, but the longer the period the higher the chance for a rare event that is not currently priced in. The indicator is based on the partial differential equations from the mathematical model of options, the Black-Scholes model. In simple words, the prices of options give you some indication of how the market thinks the stock should perform. If you take the implied volatility and insert it into the indicator, you can see the probability range, transforming this data into a visual representation. What inputs do you need to enter? Instrument price – The current price of the stock or futures contract. In this example, the close price of the SPY on March 30, 2021, is 394.73 The interest rate – Searching in google: “U.S. Department of the treasury daily yield curve rates”, Use the 3-month value (of the day of the entry or day before). On 03/30/2021 the 3-month value was 0.02% Days to expire (minus trading holidays) – At the end of 03/30/2021, I searched for the option that is the closest to 30 days on the SPY. The option that ending on April 30, has 31 days, in this period we have a holiday “Good Friday”, so I subtract the original number of days from the holiday, 31-1 = 30 Implied Volatility – This number in your trading platform will usually be shown in a percentage, you need to enter a positive decimal number. In this example, the implied volatility of the option was 15.2%, the input is 0.152 The date – The last thing is the date of the entry, in this case, Day – 30, Month – 3, Year – 2021. This indicator can be used on daily bars and everything smaller than that. We recommend using it on daily bars. Try it for yourself on your charts and share your result, if you have any questions, tell us in the comments.
AMEX:SPYEducation
by ZoharCho
4
Implied volatility of optionsHello traders, Volatility is a measure of how quickly (the speed) the stock (but can be any security) moves up or down in price. Statistically, it is usually calculated as the standard deviation of stock prices over some time, usually annualized. This statistical measure is expressed as a percent. A stock that has a 90% volatility is more volatile than a stock with 20% volatility. Since implied volatility is a projection, it may deviate from actual future volatility. This is the only variable that is truly unknown (“implied”), it can be substantially out of line with what one might reasonably expect should happen, because of that, traders can use their analysis to exploit it to their advantage. If implied volatility is relatively high, options will be more “expensive”. On the other hand, if implied volatility is relatively low, options will be more “cheap”. The terms “expensive” and “cheap” are not correct, because it is a relative term and the price of today that looks “expensive” can tomorrow be more expensive. We can see this example on the chart. Two stocks that are relatively close in price. ZM implied volatility for the option presented is 77.4% NVDA implied volatility for the option presented is 51.2% ZM option price – $63.2 , NVDA option price - $43.4 Traders need to check the implied volatility of the stock to itself and other stocks, depending of course on the strategies they want to use. The vega Vega is the amount by which the option price changes when the volatility changes. Volatile stocks have more “expensive” options, meaning the price of the option will raise if the volatility will increase and will fall if the volatility will decrease. The vega is an attempt to quantify how much the option price will increase or decrease as the volatility moves, all other factors being equal. Vega is expressed as a positive number. (when buying options) For example, if the stock XYZ is at 100, and the 110 Call is selling for 12. The vega of the option could be 1.5, and the current volatility of XYZ is 60%. If the volatility increases by 1% to 61%, then the vega indicates that the option will increase in value by 1.5, to 13.5. If the volatility decreased by 1% to 59%, then the call would have decreased to 10.5. Vega is related to time. The more time the option has remains, the higher the vega is. Vega is greatest for At the money options and approaches zero as the option is deeply In the money. Since a deep In the money option will not be affected much by a change in volatility, it will be most affected by the stock price. Also, for at-the-money options, longer-term options have a higher vega than short-term options. Vega does not directly correlate with other “greeks” like delta or gamma. Chart explanation: Lines: Blue 3 points, light green 2 points, dark green 1 point, yellow break-even, red -0.95 points (95% loss). Strong colored lines – The option inputs at Friday close Weaker colored lines – Increasing only the implied volatility by 30% The meaning of this is to show what will happen if after we entered the trade the volatility will change. (Increase in this case) ZM – Option price -> 63.2 , stock price -> 511.52 , strike price -> 510 ,intrest -> 0 ,days to expiration -> 56 , implied volatility -> 77.4% ,23/10/2020 NVDA – Option price -> 43.4 , stock price -> 543.61 , strike price -> 540 ,intrest -> 0 ,days to expiration -> 56 , implied volatility -> 48.5% ,23/10/2020 I want to note, that the absolute increase is 30%, but the relative increase is different, meaning the 30% increase has more effect on NVDA, because it has a lower IV, 48.5% to 78.5% the increase here is 61%, ZM higher IV 77.4% to 107.7% the increase here is 38%. This means that you will profit much faster in NVDA if the IV will go up 30%. In the next educational post, I will write about option strategies, specifically about Strangle VS Iron Condor.
Editors' picks
NASDAQ:NVDAEducation
by ZoharCho
13