From the March 2013 issue of Futures Magazine • Subscribe!

Options pricing and delta neutral trades

Making adjustments

“Swiss franc delta neutral” (below) is the profit diagram for a trade originated on Dec. 27 at a strike price of 1.095. The red dot at $2,000 profit occurred on Jan. 6, 2013. By this time, the futures price had fallen by $2,000, leaving the trade profit at expiration at $1.973 — down from the maximum profit of $3,786 and suggesting buying puts or selling calls if the futures price continued to decline.

Delta trades might be constructed at any strike price, with the delta values and upper and lower breakeven prices changing along the options price curve. Selecting the 94 strike for March crude oil futures will shift the expiration futures price for maximum profit further from the current price, increasing the gain from the futures contract if it expires at the price of $94, but reducing the credit from sale of calls to $5,523.

“March 2013 call price curves” (below) shows the options prices for March 2013 crude oil and Swiss franc futures on Dec. 27. It is obvious from this chart that crude oil futures are deemed by the options market as far more valuable than Swiss franc futures near year-end 2012. With the futures price equal to the strike price, the curve height for crude oil is approximately 4% compared with Swiss francs at slightly more than 1%. 

The height of an options price curve depends on two factors — volatility of the underlying as perceived by the market, and time to expiration of the options. On Dec. 27, Swiss franc futures had 71 days remaining to expiration, while crude oil futures had 49 days. The positive difference in time to expiration for Swiss franc futures makes an even stronger case for higher crude oil volatility.

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