Options for Volatile Markets

INTRODUCTION

The “New Normal” in Equity Investing 1

CHAPTER 1

Option Basics 7

What Are Options? 7

Exercise and Assignment 14

Positions 17

How Options Are Traded 19

Options in Your Account 22

CHAPTER 2

Option Pricing and Valuation 25

Option Premium 25

Theoretical Value 27

Time Value 28

Volatility 31

Interest Rates 32

Dividends 32

Calls versus Puts 33

Option Skews and Anomalies 34

CHAPTER 3

The Basics of Covered CallWriting 37

Requirements for “Valid” Covered Writes 38

Risk/Reward of a Covered Write 39

Calculating Potential Returns 46

Major Factors Affecting Call-Writing Returns 48

Covered Writing as an Ongoing Strategy 54

Summing Up Covered Writing 57

CHAPTER 4

Implementing Covered Call Writing 59

Follow-Up Actions 59

Behavioral Issues 69

Differing Approaches 70

Selecting Calls to Write 77

Risks 80

Basic Tax Rules for Options 81

Summing Up Implementation 84

CHAPTER 5

Advanced Call-Writing Techniques 87

Writing Calls on “Hot” Stocks 88

Tax Deferral Strategies 89

Covered Writing on Margin 90

Covered Writing against Securities Other Than Stock 93

Partial Writing, Mixed Writing, and Ratio Writing 98

Put Writing 103

Expiration Games 106

Option-Stock Arbitrage 108

CHAPTER 6

Basic Put Hedging 111

Put Hedge Basics 111

Advantages 115

Disadvantages 116

Behavioral Implications 123

Put Hedge versus Covered Call 127

Hedging against Catastrophic Risk 129

CHAPTER 7

Advanced Hedging Strategies 131

Put Hedge Follow-Ups 131

Using Put Spreads to Hedge 137

Collars 145

Conclusions on Protective Option Strategies 151

CHAPTER 8 Options on ETFs 153 ETFs in a Nutshell 154 ETF Options 158 Covered Call Writing on ETFs 159 Our Put Hedge and Collar Study on SPY 162 Appendix: Partial List of ETFs with Listed Options 165 CHAPTER 9 Volatility and Volatility Derivatives 171 What Is Volatility? 171 Using VIX as a Market Indicator 173 Volatility Futures 179 Variance Futures 181 The Behavior of VIX Futures 183 VIX Options 191 VIX Option Strategies 199 The Future 204