Why does a calendar spread lose money if the option volatility goes down? Here is a direct transcript from a webinars hosted by Dan Sheridan and Jim Bittman. The example on the screen is the Aug-Sep calendar spread in RTH, current price 80.28. August has 32 days left to expiration, and September has 60 days left to expiration. The August 80 calls are priced at $2.20 and the September 80 calls are priced at $3.20. Their example buys 10 spreads making the total investment $1,000.
Jim Bittman: "As expiration approaches, vegas (which is the sensitivity of the option to volatility) go down. So, the 60 day option (September in this example) has a larger sensitivity to volatility than the August option. So if volatility were to drop 5%, then the September option might go down 10 cents for each volatility point (which would be 50 cents) but the August option might only go down 3 cents for each vol point. So there would be a 2 cent difference for each vol point you are losing." Jim kinda got the math wrong here, but I'm sure you get the idea.
In the example on the screen, the vega for the September option is 12.9, and the vega for August is 9.44. So they go on to describe what would happen with each one point drop in vega. September would go from 3.20 to 3.08, and August would go from 2.20 to 2.10. So you lose more in your long position than you gain in the short position.
Thought this might help some volatility deprived readers.
RFH
--- In OptionClub@yahoogroups.com, "Mark Sebastian" <mark@...> wrote:
>
> I know I have said this before but, one of the most common misconceptions
> about calendars is how they react to changes in IV, and when the best time
> to enter them is. I will be interested to see how the XLE calendar goes as
> well, my hope, it's a home run. That said, with Aug vol trading at almost
> 2% below Sep, I am not in love with the conditions in which you placed this
> time spread.
>
>
>
> -Mark
>
>
>
> From: OptionClub@yahoogroups.com [mailto:OptionClub@yahoogroups.com] On
> Behalf Of William Fletcher
> Sent: Thursday, July 29, 2010 9:09 AM
> To: optionclub@yahoogroups.com
> Subject: RE: [TheOptionClub.com] XLE Aug-Sep Gorilla Calendar
>
>
>
>
>
> It is of interest to me. I put an XLE calendar on on 7/13. My high
> breakeven is $55 and it is at $54.31. I have a couple of others like that -
> DIA and OEX - close to or at resistance and waiting for a pullback. My
> guess is you entered at a better iV, but you are entering about at the end
> of what I consider my entry window. It will be interesting to see.
>
>
>
> The beige book is due out today, which may back off the price a bit and
> raise the iV on my positions to help me out a bit.
>
>
>
> Keep me posted.
>
>
>
> Bill
>
> _____
>
> To: OptionClub@yahoogroups.com
> From: robhansen5252@...
> Date: Thu, 29 Jul 2010 04:57:22 +0000
> Subject: [TheOptionClub.com] XLE Aug-Sep Gorilla Calendar
>
>
>
> Hi. I opened up a "gorrilla calendar" time spread in XLE on Tuesday. I know
> that on occasion, this forum has tracked various options strategies, trades
> and adjustments both theoretically as paper trades and in real time. If
> there is any interest, I'd be happy to report the particulars of the trade,
> profit goals, adjustments, etc. as they occur. Of course if there are any
> differing opinions as to how to handle the inevitable scenarios between now
> and August expiration, they can be debated. Could this possibly be a
> learning experience?
>
> RFH
>
>
>
>
>
> _____
>
> Hotmail is redefining busy with tools for the New Busy. Get more from your
> inbox. See how.
> <http://www.windowslive.com/campaign/thenewbusy?ocid=PID28326::T:WLMTAGL:ON:
> WL:en-US:WM_HMP:042010_2>
>
To unsubscribe from TheOptionClub, send an email to:
OptionClub-unsubscribe@yahoogroups.com
