Delta Netural Strategy (short Strangle)

#1
Some of you have asked about "DELTA NETURAL STRATEGY" of trading futures and options. Well it is beyond my capabilities to explain here in detail. However I would like to walk you through this strategy. This strategy can be implemented no matter what you think the market is going to do. Let us play the mock trade here and learn and understand the strategy. Our mock trade is going to be on future and options on nifty index expires on August 25, 2005

THE LAST TRADE ON NIFTY INDEX FUTURES EXPIRES 25 AUGUST, 2005 Rs.2362.00 ON
FRIDAY 12TH AUGUST, 2005.

Action:

1) We will sell five calls options on the future of nifty index with strike price of 2380 which will give us Rs.12000.00 (The denominator is 100) The last traded price on Friday 12th August 2005 was Rs.24.00
24x500=12000.00.

2) We will also sell five put options on the future of nifty index with strike price of 2340 at Rs.22.95 (The last traded price on Friday 12th August 2005 thus will collect premium of 22.95x500= 11475.00.

By taking the above action we have collected total premium of Rs.23475.00.All we have to do is to keep this premium until expiry of the options i.e., August 25, 2005.

Note: The options call and put are usually sold at the resistance and support levels. This strategy is suitable for well-funded accounts only as the margin requirements could be high. We will watch from here what the market is going to do and will adjust our trade accordingly. Those of you who would like to know more about this trade and this trading strategy should read about the Greeks of options and at the end of this trade I will answer any questions you may have. Please hold your horses until the trade is over which will end after 9 trading days only.
 
#2
Hi wasteJ,
I m someone----who may not be in reality implement this strategy----at present moment(Due to high margin money reqd.)---But at least in academic interest-----I will be following this thread closely ---I have studied the option greeks----and also have the ideas---of the effects of the option greeks---on day to day trade---Hope at the end of each trading day----u try to give some more inputs----and more and more----knowledgebales will join hopefully----and make this thread really interesting----
Regards,
joy_mitali
 
#3
Hi Joy_mitali,

The margin money needed on the index options if far less than the individual stocks, I do not trade Indian Market, therefore, I can't say much about the margin reqirements, all I can say is that it is very easy and cheap way of trading both sides of the market as compare to stocks and Indexes. My understanding is that one can't hold short position overnight, if this is correct, then using option (put) or short indexes are the best alternative. If you can suggest better alternative, please post here for the benefit of all traders.
Regards,
Wastej
 
#4
The Last Trade On Nifty Index Futures Expires 25th August,2005 Rs.2364.50 On Tuesday The August 16th,2005.

It Does Not Threat Out Premium Collected So Far Therefore No Action Is Needed. More Over The Minor Change In The Price Does Not Effect Our Delta Therefore We Will Not Attempt To Adjust The Delta Of Our Trade.

When We Established The Position The Delta Of Our Trade Was Close To 0. Those Of You Who Do Not Understand That How The Delta Of The Position Was Close The Zero Need To Read And Understand Option Greeks.

Our Attempt Here Is To Keep The Premium Of Rs.23475.00 Which We Collected When We Established The Trade Which Was The Last Trading Day. Now We Have Only Seven Trading Days Left.

I Will Be Positng Daily Undate On This Trade.
 
#5
The Last trade on Nifty Index Future Expires 25th August 2005, Rs.2404.50 on Wednesday August 17th, 2005.

The put sold SP 2340 was Last Traded for Rs.6.00 and the Call sold SP2380 was Last Traded Rs.38.
What a great run by Nifty. It has changed the delta of our trade, to the extent, that, it has become quite difficult to adjust. This is where the real fun starts.

Let us see where we stand now. We have sold 5calls of SP2380, and five puts of SP2340 for a total premium of Rs23, 475.00. As of now we are losing on our call and gaining on our put. Our loss on our call is 2404.50-2380=24.50X500=12250.00 and the gain on our put is 22.95-6.00=16.95x500=8475.00.
If today was the expiration of the options then, our loss would have been 12250-8475=3775.00, based on the closing prices of today, with one difference, that, the put we have sold, would have been worth less. This due to time decay and the loss would have turned into profit. (Total Premium collected Value of the Call) Rs.23, 475.00-12,250.00=11,224.00.

In real sense we have not lost any thing as of now, despite of the great run by Nifty. The total premium we have collected, will not let us suffer any loss, until Nifty closes at 2380+46.95=2426.95 (Put premium of 22.95+ Call premium of 24.00=46.95) certainly without commissions.

Now lets examine what can be done to this trade at this point.

1) Based on thinking that the nifty will keep going North before the expiration date of the options sold, ( Five trading days left, Expires 25th August,2005.) We can go long 500 futures of Nifty, with the stop loss of 2405 here, for remaining of the trading period, till options expires. Thus we will keep the remaining Profit of Rs.11224.00. The call and the futures will run together.
2) Based on thinking that the Nifty will correct, we will not take any action as yet and if Nifty corrects, we will make more than Rs.11224.00. In any case we are not going to have any loss until Nifty crosses 2426.95 mark even if we are wrong.

Now let us examine the Delta position of our trade, so that we can understand, how the delta neutral trade is maintained.

Let us assume that the Call we sold and the put we sold had almost 0 delta.

Call delta was + 30 and the Put delta was 30 and the overall position of the trade was 0. When nifty started gaining, it increased the call delta and yet reduced the delta of the put. Therefore, we ended with imbalanced delta. In order to correct the delta we could have done the following in order to maintain the delta neutral position. (Assumption with every Rs.5.00 gain the delta of call will increase by 4) When Nifty was 2380 the call had a delta of +50 and with the same token the delta of the put will decrease by 3.

1) We could have gone Long 100 nifty futures for every 5 rupees increase in the Nifty futures.
By doing this we would have had 500nifty futures by now and each 100 futures would have given us additional profit of Rs.500.00. In addition to the total premium collected. After the call SP, the option would act just like the future and thus the futures would take care of the option. Delta by then, of the call will be 1 and the futures will also have a delta of 1 ofcourse.

So far, for the time being I have decided to sit tight and do nothing, but that does not mean that you have to do nothing, you could have taken few steps as explained above, it all depends upon your trading profile and risk appetite.

WasteJ
 
#6
Hi WasteJ,
Great write up----As this strategy is new for me----I m making no comments----Closely following it---Will watch keenly till 25th---Plz ---Dont miss a day's analysis----Though it is asking too much---But thats the only way it has to be now---Hope u will continue this good work----for all forum members----

It would be more effective ---if u take the brokerage aspects in ur considerations---Say---taking a market Standard Brok. of 0.133%(considering Service Tax and STT) on both buy side and sell side--Though most of us have lower brok. probably----
All our warmest Regards,
On behalf of all new learners,
Of this Forum,
joy_mitali
 
#8
Hi Joy_mitali

Thanks for appreciation, you can take the commission into the whole equation in the end, as by then,we will know how many times we have made the adjustment.

BTW one thing I completely forget was to mention that to bring the trade back to delta netural position the other option we had was to sell some more puts. For example with higher stike price 2380 or 2390 and thus increase the put delta to match the call delta. By doing so we would have collected more premium also.

Regards,

Wastej
 
#9
Thursday August 18, 2005.

Nifty Future (25th August, 2005) Closed at 2384.40

Put Sold SP2340 Closed at 14.50
Call Sold SP2380 Closed at 29.25


Well Nifty has corrected to some extent and has increased our profitability to great extent. As of today, the short call is in the money by 4.40 which means 4.40X500=2200.00. If options were expiring today, we will have 23,475.00-2200=21,275.00 as our profit. Unfortunately today is not expiry day and lot can happen between now and 25th August.

One can be as creative as one wants and run their imagination as far as they could to make the adjustment to this trade at this point. I leave that for open discussion at the end of our trade. Please do think that how would you taken action at this time. I promise, that I will discuss this strategy with any one interested for any length of time.

Now that we are so close to the expiration (five trading days remaining) of the options we sold, we would like to be bit conservative.

At this point I would like to go long 500 futures of Nifty @2384.40 with stop loss of 2374.40 thus by doing I will risk Rupees 10.00. (In all 10X500=5000). This, I feel is necessary to avoid any whiplash.

By doing this we have checked our losses if Nifty keep going North, and to check our losses if Nifty start drifting South, we will sell additional Call perhaps 2390 or 2400.By doing this, our motive should be to cover our cost of additional trades and the risk we are assuming. Namely, we are loosing 2200.00 and we are taking additional risk of 5000 totaling 7200.00 So our objective should be to collect this by way of selling additional calls if Nifty start going down or by selling additional puts if Nifty goes North.(Decisively when Nifty starts moving in one direction or other only at that time such action should be taken). Such a decision is to be made while the market is active, thus I leave this onto the imagination of the readers. If readers wish then I would incorporate their action in the final outcome of this trade, other wise I will use my discretion.

Wastej
 
#10
Friday, August 19,2005. 11:23AM

Nifty futures have crossed 2005 It appears it is in the bullish mode. I think It is good time to sell a put so that we can cover our loss. We would like to sell 5puts SP1380 we can get 15.90 for it.

Action: Sold five puts SP1380 at 15.90 for a total premium of 7950.00
 

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