Unpacking Greeks with CME QuikStrike (Part 2 of 5)

Option Prices and Greeks are central to running a gamma scalping strategy. The strategy relies on rising and falling option prices and scalping the gains from time to time. Understanding the conditions under which option prices tend to rise is therefore essential. 

Option pricing is a foundational concept in finance, based on theoretical models. The price of an option on futures depends on five key factors, namely the: (a) current underlying price, (b) strike price, (c) time to expiry, (d) implied volatility, and (e) risk-free interest rate.  

The theoretical price reflects the sum of the (i) intrinsic value, and (ii) option’s time value—its likelihood of expiring in the money. This will depend on many factors with the primary drivers being (a) distance of underlying from the strike price, (b) volatility of the underlying asset, and (c) time remaining until expiration. 

Although the underlying formulas can be complex for beginners, tools like CME QuikStrike simplify the process.  

CME QuikStrike provides multiple methods to calculate theoretical option prices. Its options calculator allows users to input key variables and generate theoretical prices based on the selected model. The platform also offers several pricing models to choose from.  

Chart 1: Describing the Options Price Calculator (Source: CME QuikStrike)

The tool is useful for simulating an options portfolio over time within a gamma scalping strategy. It allows users to evaluate option price variability under different conditions, such as shifts in the underlying price, changes in implied volatility, and reductions in time to expiry. 

It also includes built-in functionality for straddle positions, enabling users to import straddle costs at inception using real time market prices. From this starting point, the tool calculates other key metrics, including the Greeks and implied volatility. 

The tool can simulate the impact of changes in key inputs on option prices. Users can adjust the underlying price, time to expiry, risk-free rate, or volatility to observe the impact on pricing. 

Volatility is especially critical, as implied volatility (IV) is directly proportional to option prices. When IV rises, option prices increase; when IV falls, they decrease. Since the strike price, time to expiry, and interest rate are known quantities, IV and the option price are interdependent and can be easily used to calculate one another.  

If all else remains constant, a rise in volatility increases the value of a straddle. This suggests the strategy may be more effective to enter when IV is low and expected to rise. 

Beyond the manual calculator, the platform offers a spread builder tool for simulating more complex strategies. This tool generates a payoff chart based on the selected position and shows the expected payoffs at expiry, at present, and at 30, 60, and 90 days into the future for several price levels.  

Chart 2: Describing the Pay-off Chart and Display of Greeks (Source: CME QuikStrike)  

Chart 3: Visualising the Changes in Greeks relative to change in underlying prices (Source: CME QuikStrike)

The tool’s simulation feature includes scenarios such as flat, up-fast, up-slow, down-fast, and down-slow, representing various market movements.  

In the flat scenario shown below, the simulation indicates that the straddle becomes profitable at specific points in time, identifying optimal windows for executing gamma scalping. 

Chart 4: Simulating What-If Scenarios (Source: CME QuikStrike)

Additionally, the platform supports combining futures legs with the straddle, allowing users to model full portfolio performance under gamma scalping conditions. 

VISUALIZING SENSITIVITY OF GREEKS 

In addition to showing how the strategy's payoff shifts with changes in time and price, the strategy simulator also visualizes how the option's and the portfolio's Greeks evolve over time. 

As before, the tool displays the selected Greek across different underlying prices on the x-axis and tracks changes over multiple time periods. 

DELTA IS AT ZERO AT INCEPTION FOR A STRADDLE 

Delta measures sensitivity of option's price to underlying asset price. An option with delta of 0.5 will increase in price by USD 0.5 when underlying price increases by USD 1.  

The position’s Delta is 0 at the straddle strike level. It rises to positive if underlying prices rise and falls to negative if underlying prices fall. The shifts in Delta are more pronounced closer to expiry.  

Chart 5: Sensitivity of Delta to Change in Underlying Price and Time (Source: CME QuikStrike)

GAMMA DECLINES AS UNDERLYING MOVES AWAY FROM STRIKE 

Gamma measures option's delta changes when underlying asset price changes. An option with gamma of 0.1, its delta will increase by 0.1 when underlying price increases by USD 1.  

The position’s Gamma is highest at straddle strike level. It declines as prices shift in either direction. Shifts in Gamma are more pronounced closes to expiry.  

Chart 6: Sensitivity of Delta to Change in Underlying Price and Time (Source: CME QuikStrike)

VEGA CONTRACTS AS STRADDLE APPROACHES EXPIRY 

Vega measures option price sensitivity to underlying asset's volatility. An option with Vega of 0.2, option price will rise by USD 0.20 when underlying volatility increases by 1%.  

The position’s Vega is highest at the straddle strike, and it declines as prices shift in either direction. The Vega tends towards 0 as the straddle approaches expiry.  

Chart 7: Sensitivity of Vega to Change in Underlying Price and Time (Source: CME QuikStrike)

THETA DECAY ACCELERATES AS THE STRADDLE APPROACHES EXPIRY 

Theta measures option price’s sensitivity to time. All else being the same, if an option has a theta of -0.1, the option's price will decrease by $0.10 each day.  

The position’s Theta is lowest at the straddle strike level and rises as prices shift in either direction. Theta shifts become more pronounced closer to expiry.  

Chart 8: Sensitivity of Theta to Change in Underlying Price and Time (Source: CME QuikStrike)

IN CONCLUSION 

Gamma Scalping is both science and art. The arithmetic, calculus, and geometry of shifts in options price and Greeks are essential to deftly managing a straddle portfolio. The dimension of art plays out in being able to understand the behaviour of prices and its consequent reaction by market participants. That requires both skill and experience.  

In part 3 of this series, we will unpack the role of realised & implied volatility and its impact on Gamma Scalping.

MARKET DATA

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