The market crash of 2008
introduced levels of volatility that has not been seen for decades. Stocks and
options traders alike suffered from a ton of bull and bear traps set on its
long way down. Matters got worse when the market lapse into an extended neutral
trend since October 2008, making it impossible to profit from directional
trades using stocks or options trading.
Under such market condition, with
volatility combined with uncertainty of direction, is there any way to make
money at all? Fortunately, there is and the answer is found in what is known as
Delta Neutral options trading.
What does delta neutral trading
do? It is simply designing an options position which will make money no matter
if the stock goes up or down and increase in value as volatility in the market
rises even if the stock remained stagnant. Yes, literally making money 3 ways,
up, down or stagnant!
So what’s the catch? Yes, there are
only 2 scenarios where a delta neutral position loses money. One, when the
stock remains relatively stagnant while volatility drops. When volatility
drops, extrinsic value of options get depressed as the possibility of large
moves decreases, thereby decreasing the value of the options in the position
even if the stock did not move. Two, the stock did not move enough to cross the
breakeven point of the position. Yes, all trading positions have break even
points which must be exceeded before money can be made.
Even with these limitations,
delta neutral trading continues to offer the greatest possibility of profit
under conditions of volatility and extreme uncertainty.
So, what exactly is a delta
neutral position? Very simply, delta neutral positions are options based positions
which have a delta value of zero or nearly zero but with positive gamma. Such a
position increases delta in the direction of the eventual movement of the stock
and results in a profit either way, up or down.
There are several ways to make a
delta neutral position and the best way to take full advantage of increases in
volatility is by buying call and put options in such a proportion as to have
their delta value cancel each other out. Another way of putting on a delta
neutral position but with a milder volatility effect is by buying stock and
then enough put options to cancel out the delta value of the stock.
In fact, delta neutral trading
can also be used to protect your stock positions in this uncertain market. For
example, you bought a stock that has profited for a few days but the level of
uncertainty in the market is building up and you want to not only protect your
profits but also continue to profit no matter where that stock might move on
next. All you have to do then is to convert your stock position into a delta
neutral position by buying enough put
options to cancel out the delta value of the stock will do.
As you can see by now, delta
neutral trading does offer levels of flexibility and a wider
probability of profit in this uncertain and volatile market and you can visit
the hyperlink above to learn more.
