The Volatility Edge In Options Trading PDF (New Technical Strategies for Investing in Unstable Markets) introduces breakthrough strategies for identifying subtle price distortions that arise from changes in market volatility. Drawing on more than a decade of never-before-published research, Augen provides new analytical techniques that every experienced options trader can use to study historical price changes, mitigate risk, limit market exposure, and structure mathematically sound high-return options positions.
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Author: Jeff Augen
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In The Volatility Edge in Options Trading , leading options trader Jeff Augen introduces breakthrough strategies for identifying subtle price distortions that arise from changes in market volatility. Drawing on more than a decade of never-before-published research, Augen provides new analytical techniques that every experienced options trader can use to study historical price changes, mitigate risk, limit market exposure, and structure mathematically sound high-return options positions. Augen bridges the gap between pricing theory mathematics and market realities, covering topics addressed in no other options trading book. He introduces new ways to exploit the rising volatility that precedes earnings releases; trade the monthly options expiration cycle; leverage put:call price parity disruptions; understand weekend and month-end effects on bid-ask spreads; and use options on the CBOE Volatility Index (VIX) as a portfolio hedge. Unlike conventional guides, The Volatility Edge in Options Trading doesn’t rely on oversimplified positional analyses: it fully reflects ongoing changes in the prices of underlying securities, market volatility, and time decay. Whats more, Augen shows how to build your own customized analytical toolset using low-cost desktop software and data sources: tools that can transform his state-of-the-art strategies into practical buy/sell guidance.
This book is written for experienced equity and index option traders who are interested in exploring new technical strategies and analytical techniques. Many fine texts have been written on the subject, each targeted at a different level of technical proficiency. They range from overviews of basic options positions to graduate-level reviews of option pricing theory. Some focus on a single strategy, and others are broad-based. Not surprisingly, many fall into the “get rich quick” category. Generally speaking, books that focus on trading are light on pricing theory, and books that thoroughly cover pricing theory usually are not intended as a trading guide.
This book is designed to bridge the gap by marrying pricing theory to the realities of the market. Our discussion will include many topics not covered elsewhere:
■ Strategies for trading the monthly options expiration cycle
■ The effects of earnings announcements on options volatility and pricing
■ The complex relationship between market drawdowns, volatility, and disruptions to put-call parity
■ Weekend/end-of-month effects on bid-ask spreads and volatility
A cornerstone of our discussion will be a new set of analytical tools designed to classify equities according to their historic price-change behavior. I have successfully used these tools to trade accounts as small as $80,000 and as large as $20M.
Ten years ago, having studied the markets for some time, I believed I could be a part-time investor with a full-time professional career. At the time I was a computer-industry executive—a director at IBM—with a large compensation package and a promising future. My goal was to develop a successful trading strategy that could be implemented as an income supplement. It was a naïve idea. Successful investing is a demanding pursuit. The work described in this book took more than
ten years. It involved writing hundreds of thousands of lines of computer code, constructing numerous financial-history databases, creating new data visualization tools, and, most important, executing more than 3,000 trades. During that time I also read dozens of books and thousands of technical articles on economic theory, technical analysis, and derivatives trading. The most important result was not the trading system itself, but the revelation that nothing short of full-time effort could possibly succeed. The financial industry is populated with bright, hard-working, well-educated professionals who devote every waking hour to making money. Moreover, there is virtually no limit to the funds that can be made available to hire outstanding talent. An amateur investor should not expect to compete with these professionals in his or her spare time. The market is a zero-sum game—every dollar won must also be lost. Option trading represents the winner-take-all version of the game. Consistently making money requires focus and dedication.
That said, experienced private investors often have a distinct advantage over large institutions in the equity options world. The advantage relates to scale. A private investor trading electronically can instantly open or close typical positions consisting of tens or even hundreds of option contracts. Conversely, institutions often manage very large positions worth hundreds of millions of dollars. Efficient execution becomes a barrier at this level. Furthermore, many equity option issues do not have enough open interest to support trades of this size. The result is that institutional traders tend to focus on index options— which are much more liquid—and some of the more heavily traded equity options. Large positions take time to negotiate and price. They have an element of permanence because they can’t be unwound with the press of a button. Liquidity and scaling are central to this work, and we will return to this discussion many times in the context of trading logistics.
Generally speaking, the work is not done—not even close. But I’ve come a long way. Today I can comfortably generate a return that would make any investment bank or hedge fund proud. Needless to say, I no longer work in the computer industry, and I have no interest in a salary.
I’m free. My time belongs to me. I trade for a living.
Table of Contents- The Volatility Edge In Options Trading PDF
About the Author
A Guide for Readers
1. Introduction 1
Price Discovery and Market Stability .6
Practical Limitations of Technical Charting 9
Background and Terms 12
Securing a Technical Edge 16
2. Fundamentals of Option Pricing 23
Random Walks and Brownian Motion 25
The Black-Scholes Pricing Model 29
The Greeks: Delta, Gamma, Vega, Theta, and Rho 32
Binomial Trees: An Alternative Pricing Model 42
Further Reading 45
3. Volatility 47
Volatility and Standard Deviation 48
Calculating Historical Volatility 50
Profiling Price Change Behavior 61
Further Reading 76
4. General Considerations 77
Bid-Ask Spreads 79
Volatility Swings 82
Put-Call Parity Violations 89
Further Reading 97
5. Managing Basic Option Positions 99
Single-Sided Put and Call Positions 100
Straddles and Strangles 118
Covered Calls and Puts 137
Synthetic Stock 143
Further Reading 148
6. Managing Complex Positions 151
Calendar and Diagonal Spreads 152
Ratios That Span Multiple Expiration Dates 175
Complex Multipart Trades. 182
Hedging with the VIX 195
Further Reading 203
7. Trading the Earnings Cycle 205
Exploiting Earnings-Associated Rising Volatility 207
Exploiting Post-Earnings Implied Volatility Collapse 216
8. Trading the Expiration Cycle 225
The Final Trading Day 226
The Days Preceding Expiration 237
Further Reading 242
9. Building a Toolset 243
Some Notes on Data Visualization Tools 245
Database Infrastructure Overview 248
Data Mining 252
Statistical Analysis Facility 258
Trade Modeling Facility 264
Jeff’s analysis is unique, at least among academic derivatives textbooks. I would definitely use this material in my derivatives class, as I believe students would benefit from analyzing the many dimensions of Jeffs trading strategies. I especially found the material on trading the earnings cycle and discussion of how to insure against price jumps at known events very worthwhile.
D R . R OBERT J ENNINGS , Professor of Finance, Indiana University Kelley School of Business
This is not just another book about options trading. The author shares a plethora of knowledge based on 20 years of trading experience and study of the financial markets. Jeff explains the myriad of complexities about options in a manner that is insightful and easy to understand. Given the growth in the options and derivatives markets over the past five years, this book is required reading for any serious investor or anyone in the financial service industries.
M ICHAEL P. O H ARE , Head of Mergers & Acquisitions, Oppenheimer & Co. Inc.
Those in the know will find this book to be an excellent resource and practical guide with exciting new insights into investing and hedging with options.
J IM M EYER , Managing Director, Sasqua Field Capital Partners LLC
Jeff has focused everything I knew about options pricing and more through a hyper-insightful lens! This book provides a unique and practical perspective about options trading that should be required reading for professional and individual investors.
A RTHUR T ISI , Founder and CEO, EXA Infosystems; private investor and options trader
About the author
Jeff Augen currently a private investor and writer, has spent more than a decade building a unique intellectual property portfolio of algorithms and software for technical analysis of derivatives prices. His work includes more than one million lines of computer code reflecting powerful new strategies for trading equity, index, and futures options.
Augen has a 25-year history in information technology. As a co-founding executive of IBM’s Life Sciences Computing business, he defined a growth strategy that resulted in $1.2 billion of new revenue, and he managed a large portfolio of venture capital investments. From 2002 to 2005, Augen was President and CEO of TurboWorx, Inc., a technical computing software company founded by the chairman of the Department of Computer Science at Yale University. He is the author of Bioinformatics in the Post-Genomic Era: Genome, Transcriptome, Proteome, and information based Medicine (Addison-Wesley, 2004). Much of his current work on options pricing is built on algorithms for predicting molecular structures that he developed as a graduate student.
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