<<After all, if things do go south, they usually go fast and the premium in your options expands (vega). I've hedged individual stock positions with equity options and find you can usually hedge a position with fewer than twice the options.>>
True, but if things *drift* lower or stagnate and the volatility flags (or worse yet, collapses), then it seems that theta and vega would work against me. Under these circumstances, using the deeper-it-the-money options, I am also protected against slow declines.
Sometimes, when I want to establish a hedge, I notice that the implied volatility perks up since everyone else has the same idea (or maybe the writers just pull in their horns a bit)! This has the unfortunate effect of temporarily inflating time premiums. If you buy an option which is mostly time premium, it can get hit pretty badly when the writers finally come along and push the IV back down to more typical/reasonable values. At least when you are buying the deep-in-the-money options this has less of an impact (although the wider spreads may partially offset this benefit).
Nevertheless, when I find myself wanting to hedge again I'll definitely consider your strategy if things appear to be happening quickly and if the trend appears to have "legs".
Thanks for the tips!
Aaron |
