Yesterday during the Mid Day Pit Report we discussed an interesting AAPL earnings play, one of the plays I liked involved buying AUG ATM calls in AAPL and selling more out of the money Sep calls to hedge the delta. The idea behind the trade is that I am long gamma from the AUG ATM and short vega from the September (this was a little play I learned from an old friend from the floor). As AAPL rallies into the upside calls, the calls get smoked by the short vega, mean while AAPL moved away from the ATM strike, and as IV falls I actually pick up extra gamma. The result is that I am long a lot more deltas from the August calls than the model predict and I am ALSO short far fewer deltas from the September upside than the model predicts.
Here is how the trade looked as of the close today:
Here is how it will look at 260 (where AAPL is trading) with IV down 5 points:
Because we understood how implied volatility works with both gamma and vega, we are able to construct a trade that is very favorable. Notice that even though the stock price went up, the 270 calls actually LOSE delta. It all comes with getting how vol affects trades. Grant it, this is going to be a pricey trade for those that do not have a margin account. But for those on REG T there are alternatives to this approach that work as well.
Thanks again to everyone who has signed up for the AM PIT Report. We have fixed the issue involving non-members accessing the report. The report will be every day around 9:50 EST. I will talk about the market what it is doing, as well as take a few moments to discuss what IV is doing in both the indexes and any hot stocks of the day (we will discuss AAPL, and maybe MS and MTB in the AM). For those interested in learning more about our innovative program, check out the site, email me mark@optionpit.com, or call (888) Trade-01
