FMP-Options

anbu.edu
Finance Junkie
Posts: 205
Joined: Mon Feb 04, 2013 3:35 pm

FMP-Options

Postby anbu.edu » Wed Oct 16, 2013 11:46 am

An option portfolio exhibits high unfavorable sensitivity to increases in implied volatility and while experiencing significant daily losses with the passage of time. Which strategy would the trader most likely employ to hedge his portfolio?
Choose one answer.
Choose one answer.
a. Sell short-dated options and buy long-dated options Correct
b. Buy short-dated options and sell long-dated options Incorrect
c. Sell short-dated options and sell long-dated options Incorrect
d. Buy short-dated options and buy long-dated options Incorrect
The correct answer is Sell short-dated options and buy long-dated options.
You are short gamma and long theta, and this calendar spread will create a good hedge for you

Can any one explain the answer little more i thought implied volatility means vega?.
Why are we going long theta

pradeeppdy
Finance Junkie
Posts: 258
Joined: Thu Sep 20, 2012 3:42 pm

FMP-Options

Postby pradeeppdy » Fri Oct 25, 2013 5:57 am

The market seems to have bottom out because when the market is bottoming out the relation of vega with the option price becomes negative. Because as the implied volatility becomes high as the markets goes bottom any increase in volatility(IV) will only decrease the price of the option as stock trends downwards more thereby decreasing the price of the call option. So increases in IV is resulting in unfavorable sensitivity of option portfolio to IV and there are losses with passage of time. So trader should short the short dated options so that trader faces long (positive senstivity to volatility)positive vega poistion when market is at bottom in short term but as markets comes to mean level over long term the price volatility relation turns back to normal that is a positive relationship. So trader has sell short-dated options(hedge negative effect of vega)


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