A lot of option traders don't fully understand Option Greeks. The inexperienced option trader only focuses on the Greek known as Delta. Although Delta can tell us a lot about our option position, the best traders don't stop there. A good trader will focus on volatility in the stock market.
When adjusting the Delta of an option position to manage risk, it's important to understand how to use volatility to adjust a position in their favor, sadly many traders don't. There are different types of adjustments that can be done to not only adjust the Delta on the trade, but also adjust the position's sensitivity to the implied volatility of the underlying asset.
Take an option spread called a "Butterfly" for example. The stock market trends up to hit your adjustment point. What kind of adjustment do you make?
Always remember, when trading options, it's important to follow the volatility chart along side the price chart.
Think of it this way, if the underlying is trending up, it usually means the volatility is going down, but not always. So when making your adjustment, try an adjustment that benefits from a falling volatility! It's called a Negative Vega Adjustment, unless you want to prepare for a whipsaw move in the market, then you should do an adjustment that adds positive Vega to your position.
Learning some technical analysis skills is the best thing you can do to help you make decisions on what type of adjustments you should make. Forecast the price of the underlying, and its implied volatility, when you're studying the charts.
Remember, it's always a good idea to keep Vega in mind while you are making adjustments to your option trades. If you don't, you can seriously limit the potential of your long-term returns.
In conclusion, there are many ways one can neutralize the Delta position of their option spreads. Remember to analyze the volatility graph to decide the best Vega adjustment while comparing your adjustment possibilities. Check out videos and learn more about Delta and Vega at www.sjoptions.com
By Johnny M Junior