A very popular method of managing options trades, particularly complex ones, is the Greeks. The “Greeks” that we use are Delta, Gamma, Theta, and Vega. Delta tells us the rate of change and the profit and loss of our position for the next point move in our underlying.
It gives us a number that tells us what that change will be. Gamma tells us how much the Delta will change after a one point and can also be beneficial in letting us know how fast things may be moving for or against us.
And then, Theta which is a popular one for Sheridan mentoring traders, who want to be positive Theta, shows the effect of time in either benefiting or detracting from your option position p&l. Vega of course monitors the volatility of our position and the effects that implied volatility changes will have on our position.
It also is a number that tells us how much profit or loss our position will have with a one-point move in the implied volatility of the options that we are trading, but keep in mind that there is more to the management of options than just using the Greeks.
Many times I’ve seen traders who thought they could look at the Greeks alone to manage a position, which often leads to problems. Certainly we would use the Greeks, but you also want to evaluate where you’re at with your P&L and looking at a risk graph to monitor.
Also, It’s very important if we are going for, a 10% profit, you wouldn’t want your position to go against you more than 6% or 7% before you did something about it.
We know that the Greeks are important for giving an idea of where we are at in a position and where we are going to be at in a position, but they can also be helpful if you want to adjust a position. One popular technique is to cut the Delta of your position.
For instance, if your Delta was -1000, we know that if the underlying went up one point you would lose a thousand dollars, so in this instance you may want to cut that risk down by buying extra options or another adjustment to cut it perhaps to where you only lose $250 with the next point move thereby cutting your risk by 75%.
In conclusion, remember to incorporate Greeks P&L and a risk graph into your position management and don’t rely on any one component to make all your trading decisions.