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Nassim Taleb buys options whose counterparty has multiple ways of hedging, Suppose Taleb buys a put on SPX (S&P500 index) from an counter-party with a strike p
by noname123 11y ago
Nassim Taleb buys options whose counterparty has multiple ways of hedging,
Suppose Taleb buys a put on SPX (S&P500 index) from an counter-party with a strike price of 1880, most prudent counter-party would re-hedge themselves by spending some of Taleb's premium to buy a cheaper SPX at a strike price of 1800.
Alternatively, the counterparty might put on dynamic hedge; meaning if SPX drops and it gets closer to Taleb's strike price, the Taleb counterparty will have to rush out and also short number of shares of SPX proportional to the option's pricing's sensitivity to the SPX, otherwise known as the delta of the option contract.
Suppose the counterparty didn't hedge properly or the market was super-volatile like this week Monday and counterparty didn't act fast enough to hedge and is brankrupt; then usually the counterparty's broker has to steps in (e.g., Charles Schwab or TDAmeritrade for retail investors or a huge investment bank's brokerage services for a hedge fund).
Suppose the trade is so huge that the broker defaults (e.g., when Swiss Franc de-pegged and blown up lots of retail forex accounts and forex brokers), each broker also has to go through a clearing broker who are the third-level of guarantor of the option contract; the two biggest one's for equity and options markets in US are Goldman Sachs Execution Services and Apex Clearing. Their sole job is to maintain a huge account of cash proportional to the trades they settle in case of settlement issues.
Now suppose the GSEC and Apex defaults also; then I'm not sure anymore, I'm guessing that the guarantee responsibility falls upon the charter members of the option or equity exchange - the burden of debt is distributed to the member of the exchange (brokers, banks). If all the exchange collective members go bankrupt, then I guess at that point, that means collecting your option payment would be your least problem...