Trade Stock Around a Long Straddle to Enhance Trading Gains

• stevenplace
• May 17th, 2011

Agility Wins the Game

About a week ago, I suggested that AAPL was primed for a move, and suggested 2 strategies to play for that move. I wasn’t the only one looking at this: GS came out with a note about the same time suggesting a nearly identical play.

The long straddle I suggested is turning out well, and I want to show how to manage the position using stock.

Let’s take a look at the original trade idea:

And let’s see how it looks right now, using a multi-day step:

How to Gamma Scalp

So it’s at a decent profit at 10% of your max risk, but what if AAPL retraces or mean reverts? You’ll give back all the gains you made on the drop along with a further drawdown due to the erosion in time premium. A way to lessen this risk is to trade stock around the position, which is a technique referred to as “gamma scalping.”

So per straddle, you have a delta of -36, so all you have to do here is buy 36 shares per straddle and it will get you back to delta neutral. Since you are still long options and stock has no gamma effect, you still stay long gamma so you will profit from a strong move either way.

If you do get that mean reversion, you can then close the stock position for a profit. Lather, rinse, repeat.

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

Tickers: aapl

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