Index

Ackman, Bill, 111 as pricing model input, 27, Agricultural products (DBA), 157 28–29 AlOnOptions.com, 190 probability calculations and, 61 Al on Options LLC, 189 VIX and, 170 Amazon (VXAZN), 177 Bell Labs, 122 Annualized , 30–31 Berkshire Hathaway, 105 Apple, Inc. (AAPL) Beta, 157–158 days to cover, 44–45 Beta-weighted delta, 158 earnings announcements, 105 Beta-weighted gamma, 158 NBBO and, 147–148 Bid/ask spreads short interest, 44–45 market corrections and, 162 stock news and, 75–76 spot forex trades and, 150 VXAPL, 177 strangles, 146–147 Assumptions trade execution and, 149 directional, 76–77 of underlyings, 65 and, 81–82 width of, 18 in options trading, 76–79 Binary moves, 70, 71, 75 pattern recognition and, 77–78 anticipating, 104 volatility, 76, 77–78 option pricing models and, 103–104 At the money calendars, 93 Binomial model, 103 At the money (ATM) options Biotech stocks, 75 calls/puts, 37 Black, Fischer, 25, 37 , 28 Black-Scholes model, 25, 32, 103 distribution curve skew and, 37 Back spreads, 9COPYRIGHTED8 inp utsMATERIAL into, 66 Backwardation, 92, 118, 171, 174, 177 probability calculations, 61–63 “Balance my sheets,” 132 underlyings and, 66 Banks, 11–12 “Black swan”-type moves, 52 Basis Bloomberg Television, 131 calendar spreads and, 168–169 Breakout stocks, 43–48, 71 debit spreads and, 86 defi ned, 43 defi ned, 28, 61 systemic risk and, 164

195

bindex 195 10 January 2015 6:33 PM 196 Index

Brokerages vanilla, 90, 93 ability to withstand losses, 12–13 vega and, 91–92 account types, 14–16 VIX, 171–176 banks vs., 11–12 Call calendars, 90 bid/ask spread and, 18 Calls. See also specifi c types of calls commissions, 16–18, 139–140, basis and, 28 185–186 early of, 181–182 data-feed fees, 18 leverage and, 4 enterprise risk management, 13 ROC (return on capital) for, 4 interest rates charged by, 18–19 Call spreads, 87, 98, 170 large, 12–13 iron condor, 89 learning from recent events, 14 Capital Asset Pricing Model (CAPM), opening and account, 11 157 reliability of, 18 Cash accounts, 15, 82 restrictions required by, 82 Casino metaphor, 9–10, 161 safety of, 12 Catch-up underlyings, 164 selecting, 11–24, 185–186 Chicago Board Options Exchange spot forex trades and, 150 (CBOE), 38, 41, 81, 93 stock borrow and loan, 19–22 CBOE S&P 500 Implied Correlation trade execution and, 148–149 Index, 159–160, 167 trading platform of, 22–24 CBOE TV, 131 value of, 22, 24 CBOE Volatility Index, 176 Brownian motion, 2, 37, 77. See also VIX, 168–176 Random motion VVIX, 170 Buff ett, Warren, 105, 131 Chipotle (CMG), 158 Butterfl y, 87–89 CME group, 41 “Butterfl y the trade off ,” 99 Commissions Buy-ins, 20–21, 45 per transaction fees, 16–17 Buy/writes, 38 profi tability and, 17–18, 139–140, BXM, 38 185–186 selecting brokerage based on, 16 Calendar spreads, 90–94 types of, 16–18 basis and, 168–169 Companion website, 187 debit spreads and, 93–94 , 92, 118, 169–170, 171, diagonal, 90, 93 174–175, 177 directional diagonal, 90, 93 Continuous pricing, 50 implied volatility and, 92 Contrarian trading, 79 at the money, 93 Corporate management, 105, 107, nondirectional, 93 113 out of the money, 93 Correlation coeffi cients, 154–155 profi tability of, 91 Correlations term structure, 92 calculating, 155–156 theta and, 90–91, 92, 93–94 defi ned, 154

bindex 196 10 January 2015 6:33 PM Index 197

market movement and, 159 DIA, 156 portfolio diversifi cation and, Diagonal calendar spreads, 90, 93 154–156 Directional assumptions, 76, 77 unique risks and, 154–156 Directional diagonal calendar spreads, Cost of carry, 27, 28 90, 93–94 Covered calls, 38 Directional risk Crash of 1987, 26, 37–38, 162, 163 beta-weighting and, 158 Credit spreads, 83–85 mitigating, 163–167 iron condor, 89 Directional trades, 76–77 credit spreads, 85 Data-feed fees, 18 debit spreads, 86–87 Days to cover, 22, 44–45 naked short puts, 96–98 Days to . See Expiration date Discipline DBA, 157 trade logs and, 134–135 DDD (Dynamic Data Exchange), 129 Discontinuous price gaps, 50, 75, 85 Debit spreads, 86–87, 93–94, 166 Discovery Channel, 79 Decay curve, 102–103 Dispersion trading, 159 Defi ned risk trades Distribution curve, 31–43 butterfl y, 87–89 actual vs. historical, 49–52 calendar spreads, 90–94 butterfl y, 87–88 credit spreads, 83–85 defi ning, 26–27 debit spreads, 86–87 directional bias of the skew, 43–44 iron condor, 89 forward skew, 43 Kelly Criterion and, 123–124 historical volatility, 31–32 strategies, 82, 83–94 implied volatility, 31 trade logs and, 134 kurtosis in, 34–36 uses of, 83 leptokuric, 49 Delta lognormal distribution of, 26, 29, balancing with additional trades, 31–32, 33, 40, 49, 50 164 normal distribution, 32, 57 beta-weighted, 158 positive skewness of, 32–33 defi ned, 27 probability calculations and, extrinsic value and, 102 61–63 implied volatility and, 39–40 skewed, 32–43, 49–52 portfolio management and, 161, smile shape, 37, 41–42 163–166 smirk shape (reverse skew), 36–37, ratio spreads and, 100–101 41, 42 strangles and, 95–96 stock price and, 27 systemic risk and, 161 time to expiration and, 101 time to expiration and, 102–103 velocity of movement diff erential, trade probabilities and, 53–54 37–38 Delta neutral , 47–48 Dividends, 27, 28–29, 181 Depreciation, 5 Downside protection, 37

bindex 197 10 January 2015 6:33 PM 198 Index

Drawdown (loss) Enterprise risk management, 13, 14 brokerage’s ability to withstand, Equity indices, 38–42, 96–97, 167, 12–13 168, 171, 180–181 learning from, 14 Equity securities management of, 56 binary moves and, 70 maximum, 59–61 cost of carry, 28 probabilities and, 25 distribution curve, 26, 32–42 markets, 157, 176 Early exercise, 180–184 option chain, 35 benefi ts of, 181–182, 184 out of the money puts, 102 costs of, 182, 184 Reg NMS and, 147–149 example, 182–184 volatility and, 104, 167 formula for, 182 Errors, 132–133, 135 Earnings announcements, 103–119 ETB (easy to borrow), 20, 45 corporate management and, 105, European debt crisis, 14 107, 113 EWJ, 157 historical earnings moves, 112–113 EWW, 157 implied volatility and, 106–107, EWZ, 157, 177 115–118 Excel spreadsheets as overnight event, 105–106 standard deviation function, 153 profi tability and, 104, 106 for trade logs, 138 quiet earnings stocks and, 108 for trading platform interface, reviewing, 132 129–130 term structure and, 92 Exchange Traded Funds (EFTs). See theta and, 107 EFTs (Exchange Traded Funds) trade comparisons, 108–114 Executing trades. See Trade underlyings choice and, 70–71 execution vega and, 106, 107 Exiting trades, 121–138 Earnings calendar, 107–108 importance of, 128 Earnings Whisper website, 107–108 Kelly Criterion and, 122–128 Easy to borrow (ETB), 20, 45 logging trades, 133–138 Economists, 2 morning routine, 128–133 Edge trade logs and, 137–138 on short premium trades, 115 variables in, 121–122 trade execution and, 139 Exit points, 60 trade logs and, 134 Exotic options, 104 undefi ned risk trades and, 94–95 Expiration cycles Edge vs. odds relationship, 122 calendar spreads, 90 Effi cient marketplace, 9 early exercise, 182–184 EFTs (Exchange Traded Funds), 22, Expiration date 156–157, 160, 177, 181 as option pricing model input, 28 Embezzlement, 14 probability calculations and, 62 Emerging market ETF (EEM), 177 underlying choice and, 66

bindex 198 10 January 2015 6:33 PM Index 199

Extrinsic value . See also specifi c Greek terms defi ned, 5, 101 beta-weighted, 158 delta and, 102 ratio spreads and, 100–101 expiration date and, 28 strategies and, 82–83 for long premium trades, 53–54 Green Mountain Coff ee Roasters time to expiration and, 101–102 (GMCR), 51–52, 104, 108–111, Exxon Mobil, 104 115–117 GTC (good until canceled) orders, 146 Fast market, 140, 147–148 GVZ, 177 FDIC (Federal Deposit Insurance Com- pany), 12 Hard to borrow, 20, 45 Fear indicator, 29 Herbalife (HLF), 111–112 Federal Deposit Insurance Company High-frequency trading (HFT) (FDIC), 12 scalpers, 8 Financial crisis of 2008-2009, 12 High-volatility stocks, 111–112 Financial news, 130–132 Historical data, 23, 29–30 Financial Times, 131 Historical distribution curve, 49–52 Fixed commission schedules, 17 Historical earnings moves, 112–114 Flash crashes, 140 Historical volatility Float, 21 custom scripts for, 74 Front month calendar, 162, 171–174, defi ned, 55 176 distribution curve, 31–32 FSLR, 72, 73 historical data and, 29 Fundamental analysis, 2, 78–79 implied volatility and, 55–56, 61, Futures markets, 129, 149–150 186 FXE, 157 long premium trades and, 55 FXY, 157 stock charts of, 72–73 trends in, 73–74 Gambling metaphor, 10 Gamma IBM, 44–45 beta-weighted, 158 Icahn, Carol, 111 ratio spreads and, 100 Ideas in Motion, LLC, 190 Gap moves ILF, 157 anticipating, 104 Implied correlation index, 159–160, Kelly Criterion and, 126–127 167, 168 market orders and, 141–142 Implied volatility (IV) option pricing models and, 103–104 absolute, 72 Gap risk, 180 assumptions about, 81–82 Garciaparra, Nomar, 128 breakout stocks and, 43–44 Gold (GLD), 157 butterfl y and, 87–88 Gold (GVX), 177 calendar spreads, 92 Goldman Sachs (VXGS), 177 charts, 68–70 Google (VXGOG), 177 defi ned, 29

bindex 199 10 January 2015 6:33 PM 200 Index

Implied volatility (continued ) Industry delta and, 39–40 conferences, 75 earnings announcements and, news, 75–76, 130–132 106–107, 115–118 portfolio breakdown by, 155–156 as fear indicator, 29 ING TT&S U.S. Securities Inc., 190 high-volatility stocks, 111–112 Insurance company metaphor historical data and, 29–30, 49 for options trading, 6, 9, 40 historical distribution curve and, portfolio diversifi cation and, 161 49–52 risk and, 3, 161, 173 historical volatility and, 55–56, 61, “Insurance puts,” 38, 40 186 Interest rates iron condor and, 89 brokerages and, 18–19 IV Range, 68–70 cost of carry and, 28 market personality and, 74 In the money calls, 40, 42 mean reversion and, 67–68 In the money debit spreads, 86 option chain and, 35 In the money options, 28, 181 option pricing model and, 29 In the money puts, 37, 42 option purchases and, 49 Intrinsic value option sales and, 49 defi ned, 5, 101 percentile, 68–70 expiration date and, 28 platykurtic distribution and, 35 for long premium trades, 53–54 as predictor of stock movement, Inverted volatility, 46–48 30–31 IRAs, 15, 82, 85 probability calculations and, 62–63 Iron condors, 89, 165 rank, 70 IV. See Implied volatility (IV) risk and, 152 IWM, 156, 157 short premium trades and, 55 skewness and, 36–37, 39–42 Jobs, Steve, 105 standard deviation and, 30–31, 34 JP Morgan Chase, 12–13 stock charts, 72 “Jump and diff usion process,” 115 stock price and, 44, 46–47 Jump diff usion model, 104 strangles and, 76 strategy and, 81–82 KCJ, 159–160 and, 27–28, 35–36 Kelly, John, 122 time horizon and, 131 Kelly Criterion, 78, 113 time to expiration and, 101 break-even ratios, 125–126 trade logs and, 137 examples, 123–125 underlyings and, 29–31, 35–38, OCO orders and, 143 66–72 portfolio management and, 163–165, upside calls and, 35 175–176, 186 VIX and, 8 probabilities and, 127–128 Impossible to borrow, 20, 45 stop loss orders and, 147 Indices, 156–157 systemic risk and, 163–165

bindex 200 10 January 2015 6:33 PM Index 201

trade exits and, 123–128 Market trade logs and, 134, 136, 137, 138 beliefs about, 77 trade sizing and, 178–180 corrections, 162 KO, 72, 73 effi ciency, 7–9 Kurtosis, 34–36 personality of, 74 Market makers, 8, 81. See also Money Legging the spread, 149 managers; Professional options Leptokurtic distribution, 34, 35 traders Leverage Market movement cost of carry and, 28 historical records, 161–163 defi ned, 2–3 implied volatility as predictor of, directional options trading and, 76 30–31 means of achieving, 3–4 rallies and sell-off s, 162–163, Limit orders, 140 165–166 Liquidity velocity of, 37, 158–159, 161 effi cient marketplace and, 9 volatility and, 162, 166–167 market makers and, 8–9 Market orders, 140–141 VIX and, 172 Maximum drawdowns (losses), 59–61 Liquid options, 18 Mean reversion, 67–69, 89 Loeb, Daniel, 111 Mechanical trading style, 25 Logging trades. See Trade logs Merton, Robert, 25, 32 Lognormal distribution, 26, 29, 31–32, Mesokurtic distribution, 34 33, 40, 49, 50 MF Global, 14, 185 Long butterfl y, 87, 99 Mispriced options, 109 Long calendars, 90 Mobile platforms, 23–24 Long debit spreads, 166 Money managers, 1, 38. See also Market Long options makers; Professional options trad- loss and profi t potential, 5 ers accounts and, 15 Morning routine, 128–133 Long premium trades, 8 historical volatility and, 55 Naked calls, 54 performance of, 54–61 Naked puts, 54 portfolio management and, 70, 167 Naked short puts, 96–97 profi tability of, 54–55 NASDAQ, 22, 44 risk vs. return ratio, 53–54 National Best Bid and Off er (NBBO), Long , 159 147–149 Long vega, 91–92 National Futures Association (NFA), Loss. See Drawdown (loss) 14 Natural gas stocks, 75 Margin accounts Natural order fl ow, 38, 39 calculating margin for, 15–16 NDX, 38, 156, 157 interest fees and, 18–19 News events, 75–76 leverage and, 3–4 News sources, 130–132

bindex 201 10 January 2015 6:33 PM 202 Index

NFA (National Futures Association), 14 probabilities and, 6–7, 27 Normal distribution curve, 32, 57, 61 profi ting from, 2 reasons for trading, 1–10 OCC (Options Clearing Corp.), 15–16 as risk transference, 6, 94, 185 OCO (one cancels the other) orders, risk vs. return ratio and, 53 142–146 strategies for, 2, 81–119 OEX, 180 success in, 1 Oil (OVX), 177 time frame of, 78–79 Oil (USO), 157 trade size, 7, 151, 166, 175–176, Oil and gas E&P (exploration and 178–180 production) stocks, 75 underlyings, 65–76 Oil and gas stocks, 155–156 Options trading strategies. Seee Strategies Open short shares, 44 Order types, 140–147 Option chain creative use of, 146 historical distribution curve and, GTC (good until canceled) orders, 49–52 146 implied volatility and, 35 limit orders, 141 profi tability and, 133–134 market orders, 140–141 Option pricing models, 25–30 OCO (one cancels the other) orders, Black-Scholes model, 25, 32 142–146 distribution curve and, 31 stop loss orders, 147 exotic options, 104 stop orders, 141–142, 146–147 gap moves and, 103–104 trailing stop, 142, 144–146 inputs, 27–29 Ortiz, David, 128 probability theory and, 35 Out of the money calendars, 93 random motion and, 2, 25, 26 Out of the money calls, 37, 42, 47, 97 Options Clearing Corp. (OCC), 15–16 Out of the money credit spreads, 86 Optionslam.com, 108 Out of the money debit spreads, 86 Options trading Out of the money options, 5, 102–103 assumptions in, 76–79 Out of the money puts, 37, 38–39, 40, casino metaphor for, 9–10, 161 42, 47, 97 choosing trades, 65–79 Outtrades, 132–133 early exercise, 180–184 Overnight markets, 129–130 earnings announcements and, OVX, 177 103–119 exiting trades, 121–138 Park Research LLC, 72 insurance metaphor for, 3, 6, 9, 40, Partial margin accounts, 15, 82 161, 173 Pattern recognition, 77–78 leverage and, 2–4 Peak6, 189 logging trades, 133–138 Per contract fees, 16, 17 market effi ciency and, 7–9 Pershing Capital Management, 111 metaphors for, 9–10 Per transaction fees, 16–17 morning routine, 128–133 PFGBest (Peregrine Financial), 14, 185

bindex 202 10 January 2015 6:33 PM Index 203

Plain vanilla calendars, 90 Kelly Criterion and, 127–128 Platykurtic distribution, 34, 35 mechanical trading style and, 25 Portfolio diversifi cation. See also Portfo- option pricing and, 35 lio management options trading and, 6–7, 27, 185 correlation and, 154–156 quantifying, 6–7 defi ned, 159 trading platform and, 24 delta management and, 161–166 variables in, 121–122 determining, 154–160 Probabilities software, 6 by industry, 155–156 Professional options traders. See also margin accounts and, 15 Market makers; Money managers position number and, 155–157 competing with, 7–8 prediversifi ed products, 157 expertise of, 1 standard deviation and, 154 liquidity and, 8–9 unique risk and, 153–160 strategies of, 2, 7–9, 81 vega and, 167 Profi tability Portfolio management, 151–184. See brokerages and, 139–140 also Portfolio diversifi cation calendar spreads, 91 delta and, 161, 163–166 commissions and, 17–18, 185–186 early exercise, 180–184 contrarian trading, 79 Kelly Criterion and, 163–165, credit spreads, 84 175–176, 186 debit spreads, 86 long and short premium trades and, earnings announcements and, 104, 70, 167 106 minimizing unique risk, 153–160 Kelly Criterion and, 123–128 strategies, 173–176 long premium trades, 53–54 trade sizing and, 151, 175–176, option chain and, 133–134 178–180 ratio spreads and, 100 Portfolio margin accounts risk and, 161 leverage and, 4 short delta trades and, 164–165 margin calculation for, 15–16 short premium trades, 54 minimum capital requirements for, straddles, 95 16 strangles, 96 Position number, 155–157 theta and, 54–55 Position sizing, 122, 178–180 trade logs and, 135, 136–137 Positive drift, 67 unique risk and, 157 Positive expectation strategies, 121–122. Psychology See also Strategies market movement and, 165–166 Prediversifi ed products, 157 risk control and, 186 Priceline, 158 Put back spreads, 98 Probabilities, 53–63 Put butterfl y, 87 calculating, 61–63 Puts. See also specifi c types of puts distribution curve and, 27 basis and, 28 drawdown (loss) and, 25 early exercise of, 184

bindex 203 10 January 2015 6:33 PM 204 Index

Put spreads, 87 Risk management, 13, 151. See also iron condor, 89 Portfolio management Risk managers, 13 QQQ, 156, 157 Risk premium, 152 “Quiet earnings stocks,” 108 Risk vs. return ratio Kelly Criterion and, 127 Random motion for long premium trades, 53–54 options pricing models and, 2, 25 options trading and, 53 technical analysis and, 67 for short premium trades, 54 Ratio spreads, 98–101 trading style and, 54–55 debit vs. credit, 99–100 ROC (return on capital), 4, 84–85 delta and, 100–101 Russell 2000, 176 gamma and, 100 RUT, 38, 156, 157 profi tability and, 100 RVX, 67, 176 theta (decay) and, 100 vega and, 100 Scalping, 142–144, 146 Real estate crisis, 12 Scholes, Myron, 25, 37 Realtime Data (RDT), 129 SCMA Inc., 190 Reg-T margin accounts, 15, 16 Second month calendar, 171, 172, 176 Regulation NMS (Regulation National Securities and Exchange Commission Market System), 147, 149 (SEC), 15, 147 Regulation T limits, 15 Securities Investor Protection Corpora- Retail stocks, 75 tion (SIPC), 12 Return on capital (ROC), 4, 84–85 Segregation of funds law, 14 Reverse skew (smirk), 36–37, 41, 42 Shaw, George Bernard, 49 Risk. See also Systemic risk; Unique risk Sherbin, Al, 189–190 asymptotic chart of, 156 Short delta trades, 164–165 fear of, 60 Short index premiums, 76 implied volatility and, 152 Shorting stock, 19 insurance companies and, 3, 6 Short interest, 21–22, 44–45 naked puts and, 97–98 Short naked options, 83–84 portfolio and, 3 Short naked puts, 96–98 as positive concept, 3 Short options profi tability and, 161 loss and profi t potential, 5 psychology and, 186 margin accounts and, 15 of short squeeze, 44–45 profi tability of, 54–55 standard deviation and, 153 Short premium portfolios, 94, 161 stock purchases and, 97–98 Short premium trades, 8, 94 trading risk managers and, 13 earnings announcements and, 108 transference of, 6, 94, 185 edge on, 115 types of, 152 implied volatility and, 55 Risk-adversity, 152, 161 Kelly Criterion and, 123–128 Risk-free rate of return, 2, 3 performance of, 54–61

bindex 204 10 January 2015 6:33 PM Index 205

portfolio management and, 70, 167 growth of, 180–181 profi tability of, 54–55 implied correlation index, 159–160 systemic risk and, 163 movement of, 2, 161–163 worst-case scenario, 56–57 short vs. long premium trades, 54–61 Short shares, 44–45 slope, 41 Short spreads, 83–84 standard deviations for, 153 Short squeeze, 44–45 VIX and, 168–170 Short straddles, 95, 159 S&P 500 VIX Short-Term Futures Short strangles, 95, 96 Index Total Return, 176 naked short puts vs., 96–97 S&P futures profi tability of, 59 order types and, 141, 143–145 Short vega, 91 Spot forex trades, 150 Silver (SLV), 157 Spreadsheets, 129–130, 138, 153, 155 SIPC (Securities Investor Protection SPY, 69–70, 156, 157, 181 Corporation), 12 Standard deviation Sizing bets, 10 annualized volatility and, 30–31 Skew, of distribution curve, 32–43 calculation of, 116 directional biases, 43–44 historical distribution curve and, 49 forward skew, 43 implied volatility and, 34 of historical market movement, 162 platykurtic distribution and, 35 implied volatility and, 36–37, 39–42 portfolio diversifi cation and, 154 inverted volatility, 46–48 as risk measurement, 153 natural order fl ow and, 39 Stock borrow and loan, 19–22 predictable patterns in, 39 Stock charts, 68, 71–72 skew shapes, 37–43 Stock price slope or steepness of, 39–41 continuous, 50 smirk (reverse skew) shape, 36–37, discontinuous price gaps, 50, 75 41, 42 implied volatility and, 44, 46–47 underlying and, 41–43 inverted volatility and, 46 of VIX, 170 as mean reverting, 67 volatility smile, 37, 41–42 as option pricing model input, 27 Skewed lognormal distribution, 33 positive drift of, 67 Skew index, 41 stock charts of, 71 Smile shape, of distribution curve, 37, underlying choice and, 66 41–42 Stocks. See also Market Smirk shape (reverse skew), of distribu- buy-ins, 20–21 tion curve, 36–37, 41, 42 days to cover, 21–22 S&P 500 index (SPX), 38, 41, 53–54, easy to borrow, 20 69–70, 102, 139, 141–142, 157 fl oat of, 21 beta-weighting and, 158 hard to borrow, 20 crash of 1987 and, 162 high-volatility, 111–112 distribution curve, 50–52 impossible to borrow, 20 diversifi cation of, 154 in play, 79

bindex 205 10 January 2015 6:33 PM 206 Index

Stocks. See also Market (continued ) of professional options traders, 2 risks of, vs. short naked puts, 97–98 restrictions aff ecting, 82 ROC (return on capital) for, 4 trade logs and, 136 short interest, 21–22 undefi ned risk trades, 94–101 synthetic short stock vs., 181 variables in, 121–122 Stock splits, 45 Strike price Stop loss orders, 147 implied volatility and, 27–28, 35–36 Stop orders, 141–142, 146–147, 165 as option pricing model input, Straddles 27–28 basis and, 28 underlying choice and, 66 defi ned, 95 Supply and demand, 78 distribution curve and, 52 Support and resistance, 78 diversifi cation trading and, 159 Synthetic short stock, 181–184 historical earnings moves and, Systemic risk, 160–177 112–114 beta and, 157–158 profi tability of, 95 defi ned, 152, 157 purchase strategies, 109–111 Kelly Criterion and, 163–165 vega and, 95 mitigating, 161–177, 163–167 Strangles bid/ask spreads, 146–147 Tail risk-style events, 35 defi ned, 95–96 Tastytrade, inc., 189 distribution curve and, 51 Technical analysts drawdowns (losses), 59–61 directional assumptions and, 77 expiring out of the money options, options trading strategies, 2 57–58 random stock movement and, 67 GTC (good until canceled) orders of stock charts, 71 for, 146 value of, 67 Kelly Criterion and, 123–125 Term structure low implied volatility index, 76 calendar spreads, 92 profi tability of, 58–59, 96 VIX, 170–171 purchase strategies, 111–112 Th arp, Can, 77 short delta trades and, 165 Th eoretical Intermarket Margining short vs. long premium trades, 56–61 System (TIMS), 15–16 trade logs and, 134 Th eta (decay), 82 vega, 96 butterfl y and, 88 Strategies, 2, 81–119 calendar spreads, 90–91, 92, 93–94 defi ned risk trades, 83–94 earnings announcements and, 107 exiting trades, 121 out of the money options and, expected return over time, 112–114 102–103 Greeks and, 82–83 profi tability and, 53–55 higher-risk, 94 ratio spreads and, 100 implied volatility and, 81–82 systemic risk and, 163 portfolio risk, 173–176 time to expiration and, 101, 102–103

bindex 206 10 January 2015 6:33 PM Index 207

Th eta curve, 102–103 Trailing stop, 142, 144–146 3-D vol surface tool, 41 Transportation stocks, 155–156 Ticket charge plus transaction fee, 16, 17 Undefi ned risk trades, 94–101 Tight markets, 150 back spreads, 98 Time horizon, 79, 131 edge and, 94–95 Time premium. See Extrinsic value ratio spreads, 98–101 Time to expiration, 101–103 risk transference and, 94 delta and, 102–103 short naked puts, 96–98 distribution curve and, 101 straddles, 95 extrinsic value and, 101–102 strangles, 95–96 implied volatility and, 101 strategies, 82 theta and, 101, 102–103 trade logs and, 134 Time value, 28. See also Extrinsic value Underlyings, 65–76 TIMS (Th eoretical Intermarket Margin- beta of, 158 ing System), 15–16 bid/ask spreads, 65 TLT, 157 Black-Scholes model and, 66 Tr ade execution, 139–150 catch-up, 164 brokerages and, 147–148 choosing, 65–76 edge and, 139 comparing volatility to overall mar- order types, 140–147 ket, 69–70 Tr adelink Corp., 190 creating list of, 65–66 Tr ade logs, 133–138 custom trading platform scripts for, information to include in, 135–138 70, 74 reasons for keeping, 133–135 defi ned, 26 recommended fi elds, 136–138 discontinuous price gaps and, 75 Tr a de size, 178–180 distribution curve and, 31, 32 optimal, 7 earnings announcements and, 70–71 portfolio management and, 151, fundamental analysis of, 78–79 175–176 historical data and, 29–31 reducing, 166 historical distribution curves and, Tr ading day routine, 128–133 49–50, 52 Tr ading platform implied volatility and, 66–72 beta-weighting feature, 158 implied volatility rank, 70 custom scripts, 70, 74 IV Range, 68–70 ease of use, 23 market personality and, 74 Excel spreadsheet interface, 129–130 mean reversion and, 67–69 functions of, 23 news events and, 75 historical data availability, 23 option pricing model and, 26–27, 29 mobile platforms, 23–24 probabilities and, 61, 66 strength of, 22–24 random movement of price of, 26 trade monitor page, 142–144, 146 skew and, 41–43 trade probabilities, 24 standard deviation of, 153

bindex 207 10 January 2015 6:33 PM 208 Index

Underlyings (continued ) Velocity of movement diff erential, stock price and, 66 37–38 trade logs and, 136 VIX, 41, 67, 157, 168–176 volatility and, 29–31, 35–38 backwardation, 174, 177 Unique risk basis and, 170 correlation and, 154–156 calendar spreads and, 169, 171–176 defi ned, 152 contango, 169–170, 174–175, 177 minimizing, 153–160 liquidity and, 172 number of positions and, 156–157 SPX and, 168–170 portfolio diversifi cation and, 153– term structures, 170–171 160 volatility skew, 170 profi tability and, 157 Volatility. See Historical volatility; Im- Upside calls, 35 plied volatility Upward drift , 8, 167–168 of naked short puts, 96–97 Volatility assumptions, 76, 77–78 theory, 67, 77 Volatility complex, 168 USO, 157 Volatility indices, 67, 177 UVXY, 67, 177 Volatility risk, 166–167, 168 Volatility smile, 37, 41–42 Vanilla calendars, 90, 93 VVIX, 170 Vega VXAPL, 177 butterfl y and, 88 VXAZN, 177 calendars, 91 VXEEM, 177 credit spreads, 84, 85 VXEWZ, 177 earnings announcements and, 106, 107 VXGOG, 177 portfolio management and, 175 VXGS, 177 ratio spreads and, 100 VXX, 67, 176–177 of straddles, 95 of strangles, 96 Wall Street Journal, 131 systemic risk and, 161 Wasendorf, Russell R., Sr., 14 volatility and, 82 Weighted average, 118–119

bindex 208 10 January 2015 6:33 PM