Dynamic Gamma Scalping

As we saw earlier in my gamma scalping example, trading futures against long straddles can be very limiting. If on that overnight trade I had had more alternatives, I could have altered my premium profile or avoided the dampening effect on my net contracts.

If the move from 3790 up to 3850, then down to 3730 and back to 3790, had happened during the day, I could have sold calls when the market was moving up and puts on the way down. In this way much of the premium erosion that I suffered would have been avoided.

An alternative can be to buy premium with each adjustment. This strategy can work well if the futures move in one direction. One buys the delta equivalent amount of puts on the way up and the delta equivalent amount of calls on the way down. However, if this strategy had been used in my example, a large loss would have been incurred because of the premium decline on the opening. On days when implied volatility increases, traders profit very well from buying options to scalp their gamma because their hedges either do not lose as much as the futures would have lost, or they do not lose anything at all. On days when volatility is very high and the market goes up, the puts can increase in value as well, and the strategy will be extremely profitable.

A dampening effect occurs if only futures are being scalped, and they move predominantly in one direction causing a loss of net contracts in that direction. For example, if the market is in a bull trend, futures are sold into that rally in anticipation of buying them back lower. If they are not bought back because the rally continues, but more and more are sold, all net long call contracts (which you wish you would have had on an extended move up) will have been depleted.

Suppose that you choose to neutralize your deltas in a different way. You can achieve this without changing your premium or losing any net contracts. You have the option of adding or removing premium at different strikes and/or for different months. You can shift your premium elsewhere and even add to the net contracts while removing premium using calendar spreads, diagonals, back spreads and ratio spreads ("Let your dreams run wild...").

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