VII.8. Risk management in options trading.

A trader [XIV.34] when trading options, it is necessary to take into account not only the risk of an incorrect assessment of volatility. Inaccuracy of other source data also leads to errors in determining the theoretical value of the option. These risks are characterized by such spread parameters as delta, gamma, theta, vega and rho. Let’s present them in a generalized form.

Delta risk (risk of adverse price change) — the risk of a change in the price of the underlying contract in the opposite direction to the expected one By creating a delta-neutral position, we are trying to achieve insensitivity of the initial position to the direction of the change in the price of the underlying contract. Delta neutrality does not always eliminate the risk of price changes in an unfavorable direction completely, it usually provides immunity to risk in a certain range

Gamma risk (curvature risk) is the risk of a significant change in the price of the underlying contract in any direction. The gamma of a position is an indicator of the sensitivity of a position to significant changes. In the case of a positive gamut, this risk does not actually exist, since theoretically, with a change in the price of the underlying contract, the value of the position increases. However, in the case of a negative scale, a significant change in the price of the underlying contract can lead to a rapid loss of the theoretical advantage of the position. When analyzing the comparative characteristics of different positions, a trader should take into account the consequences of such a change.

Theta risk (temporary decay risk) is the risk that the price of the underlying contract will not change over time. This risk is the opposite of gamma risk. With a significant change in the price of the base contract, the value of positions with a positive range increases. But if the price change has a positive effect, then the time factor is negative. A positive gamma always corresponds to a negative theta. A trader with a negative trend should always estimate after what time the theoretical advantage of the spread will become zero. For a position with a negative teta, a price change is needed. If it does not happen, will this position be profitable in a day, a week or a month?

Beta risk (volatility risk) is the risk that the volatility indicator we have entered into the model will be incorrect. In the case of an incorrect estimate of volatility, we assume an incorrect distribution of the prices of the underlying contract over time. Since positions with positive vega depreciate with falling volatility, and positions with negative Vega — with its growth, vega risk exists for all positions. A trader should always be interested in what value of volatility his position will cease to be profitable.

Ro-risk (interest rate risk) is the risk of changes in interest rates during the term of the option. For a position with a positive po, an increase (fall) in interest rates is desirable (undesirable), and for a position with a negative po, the opposite is true. As a rule, the interest rate is the least important of the indicators introduced into the model,” and the risk concerns the trader only in some situations.

The main idea of risk management when trading options is to select such a strategy and its parameters that will allow you to get the maximum profit.

When we have designed a strategy and see that the situation is not going in your direction, there is a need to either continue designing, buying or selling stakes and bonds, thus making changes to the strategy, or you need to quickly get rid of all positions. If the instrument is liquid, then it will be possible to get rid of it without much loss. Considering that options as a tool have a time decay, which is actually used to earn money in most strategies, it is sometimes useful to cut it off as a factor that reduces your account. In this case, it is worth taking a closer look at intraday trading. This is useful when buying put or stake strategies, i.e. Long Put and Long Call.

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