Wolverine: Derivatives Book (for Don)

[Wolverine]

Don,
Given a recent discussion on Parker's board about a young blackjack player that wanted to get a job in New York and become a trader, I read a book recently on the subject. Title: "Traders, Guns, & Money" by S. Das.

It was funny to read your responses on the board as I correlated your answers to what I had just read. You told it exactly as Mr. Das did. Especially about "the bonus" and compensation in general, the stress, and the art of trading vs. the mathematics.

In case you ever got the urge to read it: don't. One of the worst written books of all time. BUT, if you want a trip down memory lane, then maybe you'll want to pick it up. Used and cheap, please! But that may be impossible because I could have the only copy not sold to his family members.

Thanks to all the blackjack authors who make the books interesting and fun to read. Blackjack can be a dry subject at times, but after reading about derivatives...blackjack kicks butt. Thanks again for helping me master blackjack, I couldn't have done it without BJA3 and all my friends here at AP.com.

[Don Schlesinger]

> Don,
> Given a recent discussion on Parker's board about a
> young blackjack player that wanted to get a job in New
> York and become a trader, I read a book recently on
> the subject. Title: "Traders, Guns, &
> Money" by S. Das.

I'm not familiar with it.

> It was funny to read your responses on the board as I
> correlated your answers to what I had just read. You
> told it exactly as Mr. Das did. Especially about
> "the bonus" and compensation in general, the
> stress, and the art of trading vs. the mathematics.

If the book was accurate and factual, then we shouldn't be surprised that I agreed with it! :-)

> In case you ever got the urge to read it: don't. One
> of the worst written books of all time.

Ha! Guess that's why I haven't heard about it.

> BUT, if you
> want a trip down memory lane, then maybe you'll want
> to pick it up. Used and cheap, please! But that may be
> impossible because I could have the only copy not sold
> to his family members.

LOL!! It's too easy to get a book published these days! :-)

> Thanks to all the blackjack authors who make the books
> interesting and fun to read. Blackjack can be a dry
> subject at times, but after reading about
> derivatives...blackjack kicks butt.

Try teaching eight-hour seminars on derivatives and making them fun and enjoyable! :-)

> Thanks again for
> helping me master blackjack, I couldn't have done it
> without BJA3 and all my friends here at AP.com.

Glad you've enjoyed. Thanks for the kind words.

Don

[Wolverine]

[young gun]

> Try teaching eight-hour seminars on derivatives and
> making them fun and enjoyable! :-)

Still giving these seminars Don?

[Don Schlesinger]

> Still giving these seminars Don?

Absolutely. Did about 12-15 last year.

Don

[Wolverine]

Don, a question for you. (And I didn't say a 'quick' one.)

Last Thursday night, I looked at the pricing of SP500 index options and found that the volatility% variable was being priced at 28, given that day's options closing prices. Now, it was a day before expiration for the Jan 08 series, but was looking at pricing in the Feb 08 series. {I was actually working to solve for volatility% to see what the number was since everyone keeps saying volatility is up. {Really, I hadn't noticed?!?!? Ya think?????} So, I used closing prices of options and solved for vol% until I got the answer above: 28.}

One of the things that the option calculators asks as an INPUT is a volatility% but I had a hard time finding a definition and/or method of calculation for a greenhorn to figure it out. AND, if you don't know a fundamental input to the equation, it is hard to accurately price options!

Is it (volatility%) as simple as "the percent of change expected before the expiration of the option?" If that is the case, do smart options buyers really think the SP500 index has a chance to slide (or gain--yeah, right!) 28% before February's expiration? Or, are dumb options buyers paying a ridiculous premium right now because they are scared, and the smart money is writing options betting that the SP500 isn't going to sink another 28%?

Any insight is helpful....and maybe even useful some day. :-)

Thanks,
Wolverine

[Don Schlesinger]

> Don, a question for you. (And I didn't say a 'quick'
> one.)

You're learning! :-)

> Last Thursday night, I looked at the pricing of SP500
> index options and found that the volatility% variable
> was being priced at 28, given that day's options
> closing prices.

OK. Pretty high, but, then again, these are terribly volatile times.

> Now, it was a day before expiration
> for the Jan 08 series, but I was looking at pricing in
> the Feb 08 series.

OK.

> (I was actually working to solve
> for volatility% to see what the number was since
> everyone keeps saying volatility is up. {Really, I
> hadn't noticed?!?!? Ya think?????} So, I used closing
> prices of options and solved for vol% until I got the
> answer above: 28.}

OK, but you don't have to solve. If you go to ivolatility.com, you can just type in SPX and read the implied vols right off the screen.

> One of the things that the option calculators asks as
> an INPUT is a volatility% but I had a hard time
> finding a definition and/or method of calculation for
> a greenhorn to figure it out. AND, if you don't know a
> fundamental input to the equation, it is hard to
> accurately price options!

Just go to the myriad calculators that exist on the Web. There are dozens of sites. If you can't find them yourself, I'll list a few for you (start maybe with numaweb.com). The models work both ways: You can input your own vol, and price the options, or you can furnish the prices and the calculator solves for implied volatility, which is what you're trying to do.

> Is it (volatility%) as simple as "the percent of
> change expected before the expiration of the
> option?"

No, not quite, because vol is expressed as an annualized standard deviation, so you have to normalize for number of days remaining to expiration. For example, on the day you looked (Jan. 17), there remained 29 days to the February expiration of the options you were examining. Now 28% is the annualized number, so you need to do sqrt(29/365) = .28 (it's a coincidence that it just happens to match the vol you obtained; the two numbers have nothing to do with each other), and then .28 x 28% = 7.89%, which equals a one-s.d. move for the underlying in question (in this case, the S&P 500).

Now, the further complication is that these are what are called log-normal distributions, so you can't quite make the statement, "This means that the options are predicting that there is a 68.3 chance (one-s.d. bandwidth) that the S&P will be between down 7.89% and up 7.89% at the end of the next 29 days. Rather, it means that this one s.d. bandwidth is about -7.6% and +8.2%, but the difference isn't very important (it can be for higher vols and longer periods of time).

> If that is the case,

It isn't; see above.

> do smart options buyers

Somewhat of an oxymoron -- there's no such thing as a smart option BUYER! :-) Just a lot of people who think they are. The smart people are the option SELLERS! :-)

> really think the SP500 index has a chance to
> slide (or gain--yeah, right!) 28% before February's
> expiration?

No, see above. About 8%. May do that tomorrow, based on overnight Globex. Tomorrow is going to be a slaughter, I'm sorry to say.

> Or, are dumb options buyers paying a
> ridiculous premium right now because they are scared,
> and the smart money is writing options betting that
> the SP500 isn't going to sink another 28%?

There you go! But, a) it isn't 28%, and b) those who bought puts are going to appear very smart, indeed, after tomorrow.

> Any insight is helpful....and maybe even useful some
> day. :-)

Glad to oblige. Write back with more questions.

> Thanks

Any time.

Don

[Wolverine]

Don,
Thanks for the insights. I'm confident that I would take a day long derivatives course from you, because I know I would learn something and it sounds like it might actually be fun! Granted, we didn't get into the greeks and stuff, but you might actually make that make sense too!

You made my question make sense, and answered it very well. Thank you. I understand what that input means now more in 3 minutes of reading than I did in trying to find out about it in 30 minutes of searching the web. AND, I can find out where to get the historical data needed to make a decision. Just coincidence that we got talking about it on the other board. I have only bought two options my entire life. Not about to try trading them for a living or anything.

I don't have any more questions at the moment, but could get more as I head off to my online account to check things out. Sad to say, but because of the ridiculous option premiums being made by the sellers, I didn't follow my gut and buy any puts last week. I wouldn't have been able to follow the downturn today and sell correctly, so probably all the better (and, might not have made a dime given the large premiums, even if I did time it right). However, I am proud to say that I am in some serious cash vs monies invested at this time, so I'm quite sure my accounts held up very well.

I promise to ask more if I need the insights. Thanks again. Always a pleasure to sit at the feet of a master and ask questions.

[Don Schlesinger]

> Don,
> Thanks for the insights.

Any time.

> I'm confident that I would
> take a day long derivatives course from you, because I
> know I would learn something and it sounds like it
> might actually be fun!

It IS fun. Are you ever in NY in the summertime?

> Granted, we didn't get into the
> greeks and stuff, but you might actually make that
> make sense too!

Yes, I do. It's actually my favorite of all the modules.

> You made my question make sense, and answered it very
> well. Thank you. I understand what that input means
> now more in 3 minutes of reading than I did in trying
> to find out about it in 30 minutes of searching the
> web.

When I do the seminars, I have kids from the finest business schools in the country come up at the end and say things to me like, "I learned more in one day here than I did in a full semester with Professor So and So," or "Nobody ever taught it to us like in graduate school!"

While it's always nice to receive compliments, I actually always feel bad when I hear stuff like that (and I hear it ALL the time), because I know these kids pay a fortune for grad school, and then they take courses from people who either can't teach, don't know the practical side of derivatives, or both. It's a shame.

> AND, I can find out where to get the historical
> data needed to make a decision. Just coincidence that
> we got talking about it on the other board. I have
> only bought two options my entire life.

Good. Leave it that way! ;-)

> Not about to
> try trading them for a living or anything.

Good idea.

> I don't have any more questions at the moment, but
> could get more as I head off to my online account to
> check things out. Sad to say, but because of the
> ridiculous option premiums being made by the sellers,
> I didn't follow my gut and buy any puts last week. I
> wouldn't have been able to follow the downturn today
> and sell correctly, so probably all the better (and,
> might not have made a dime given the large premiums,
> even if I did time it right).

Yes, that's all true.

> However, I am proud to
> say that I am in some serious cash vs monies invested
> at this time, so I'm quite sure my accounts held up
> very well.

Glad to hear it. Nasty day. Not sure any of this is over yet.

> I promise to ask more if I need the insights. Thanks
> again. Always a pleasure to sit at the feet of a
> master and ask questions.

Thank you. Glad to have been of help.

Don

[Wolverine]

Hey Don, thought you'd like to hear that I only lost 0.4% of my trading portfolio today sitting out the big swings. Cash is king baby--and not just at the blackjack tables.

The bottom today came at 21% from the high on the SP500. Exact bear market territory (>20% correction). I wonder if support was created artificially at that level? I'm with you though...I'm not confident the bottom has been put in yet, although I haven't seen all the stats of today's trading action (put to call ratio, volume on the upside rally vs the downside open, etc...)

I've never been to NYC, but there may be a reason to go now. Obviously, math has always fascinated me, and derivatives are just a bigger sandbox of math to play in. And as I said...the S. Das book didn't teach squat about actual derivatives or tools (I needed to be more educated to truly understand some of the concepts he was mentioning in passing). Just stories of the business.

I'll pipe up when I need some more help or have a question. Thanks again.

[Don Schlesinger]

> Hey Don, thought you'd like to hear that I only lost
> 0.4% of my trading portfolio today sitting out the big
> swings. Cash is king baby--and not just at the
> blackjack tables.

Amen to that. Just more of the same, today, as I imagined.

> The bottom today came at 21% from the high on the
> SP500.

There will be new bottoms before this carnage is over.

> Exact bear market territory (>20%
> correction). I wonder if support was created
> artificially at that level?

Yes, for sure. It means nothing, as you can see today.

> I'm with you though...I'm
> not confident the bottom has been put in yet,

See above.

> although
> I haven't seen all the stats of today's trading action
> (put to call ratio,

Put/call ratio. Leave out the "to."

> volume on the upside rally vs the
> downside open, etc...)

All kind of meaningless, when you get in this type of mind set. The worst is yet to come.

> I've never been to NYC,

That's mind-boggling to me. I've always sort of imagined that no one has ever not been to NYC! ;-) You're waiting for what, exactly?

> but there may be a reason to
> go now.

There was none, before? Weird.

> Obviously, math has always fascinated me, and
> derivatives are just a bigger sandbox of math to play
> in. And as I said...the S. Das book didn't teach squat
> about actual derivatives or tools (I needed to be more
> educated to truly understand some of the concepts he
> was mentioning in passing). Just stories of the
> business.

> I'll pipe up when I need some more help or have a
> question. Thanks again.

OK, fine. You're welcome.

Don

[young gun]

> Absolutely. Did about 12-15 last year.

Do you not advertise these seminars to the blackjack community? If not I understand but I would like to attend at some point. I see the way you teach on here and have no doubt that it would be very useful.

[Don Schlesinger]

> Do you not advertise these seminars to the blackjack
> community? If not I understand but I would like to
> attend at some point. I see the way you teach on here
> and have no doubt that it would be very useful.

They're not open to the community. They're for the summer and full-time analysts and associates, who are in those MS programs and are about to be hired, or are already hired.

But, I'm sure I could always ask for an occasional friend to sit in, because, er, well, I know the lecturer! :-)

Don