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Michael, many thanks for such an instructive post! It really helps a
clueless newb like me when you walk me through an example like this.
So with your example, the NQ trader buys 5 NQ's, posting roughly $17k
in daytrade margin, or $35k for full margin. (I know that margin is
a fiction, and no one in his right mind trades anywhere near the
minimum margin, but I want to see how much account is required for
both trades.) He rides a small 20pt move, and sells for $2000 profit
less about $100 slippage, for $1900 net.
The option trader buys 80 calls. We can't know how much this costs
him unless we know what strike he uses. If we use the examples you
posted yesterday, the 4-strike-ITM call went for $4.40. So he buys
the 80 calls for 80*100*$4.40, right? So he commits $35k to the
trade, almost identical to full-margin rates for the NQ --
interesting coincidence.
Now, presumably the call goes up in value about $2000, since you
constructed the options example to be equivalent to the futures. And
you said slippage is $800, right? So you have a 40% slippage cost
instead of the 5% slippage cost of the NQ. That's a nasty cost, and
it illustrates why you wouldn't want to use options for scalping.
But, assuming I have my figures right, your total risk (in this case)
is equivalent to the margin value of the NQ. This is certainly a
huge benefit. For the NQ trader to lose $35k, the market would have
to go down 350 points without him able to get out. While unlikely,
that's certainly possible. It could do that in a day, since the
current 20% limit is 360 points. And if it didn't stop there...
I definitely understand the risk-limiting benefit of trading options
instead of trading naked futures. I'm just trying to understand the
cost of that insurance. I think the high amount of slippage on small
trades (like your example daytrade) would kill most people. But if
your average trade is large enough, maybe the slippage would become
small enough that it becomes a bearable expense for the insurance.
And it sounds as though you recommend simple option positions instead
of synthetics (e.g. a long put protecting a long futures position)
because of higher costs for the synthetic position.
So you'd say that options are probably not a good match for
daytrades, right? (Unless you do as Bob Fulks suggested, put on an
option to protect positions, then trade in & out with futures.) What
about short overnight trades that last 2 or 3 days? Or do you have
to shoot for large, multi-day moves before the options become a
really viable mechanism?
So, let's say I'm convinced I should options instead of futures for
all my overnight positions. How does an options newbie get answers
to things like:
* What slippage can I expect on overnight positions?
* What strike/expiration should I buy? Should I buy the expensive
ITM ones, requiring more capital & risk, or the cheaper ATM/OTM ones,
which presumably move less for equivalent moves in the underlying?
* How can I project what will happen if the underlying moves X,
taking Y days to do it, and the volatility changes from V1 to V2?
How can I even find historic data to try to experiment with and
understand these positions?
* Is it possible to juggle all these figures (strikes, expirations,
greeks, etc etc) and understand what's going on without pricey
specialized options software? (Obviously some people can do it in
their heads, but **I** can't, at least not yet....)
Thanks,
Gary
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