4 ms·

The max risk is known when selling a put. If I sell a put for 100 shares of Apple at $95, the most I can lose is 9500 (minus the premium I earned).

crdb 10y ago
The value of the option will rise with volatility. It is more apparent if you delta hedge leaving you with a net gamma position (i.e. hoping for quieter or more volatile markets depending on whether you are short or long gamma). Selling an option puts you in a short gamma position whether it is a put or a call. The subtlety is that volatility falls slowly as prices rise AND rises much faster as prices fall. So (equity) options become much more valuable when things go badly. Check the S&P500 vs VIX and watch how the VIX explodes upwards with each market correction then slowly drops back as prices rise. The metaphor can only go so far. He does not specify the underlying in the article but the mechanics described imply the company's health. If the bet is correct, the company will do well and "volatility will fall" making the option less valuable. You could say the impact of the damage made by technical debt is less important because you have more resources to deal with it (this is how spaghetti ball codebases start, but in the medium term it holds). On the other hand, if the company does badly (fundraise fails, product does not grow as expected) the relatively small payoff from technical debt is exponentially more expensive and might well wipe out the tech side or slow down development enough to allow the competition to win faster. This is why I say the damage is "potentially infinite" (where infinite is used colloquially rather than formally). In particular, an unhealthy company with a lot of technical debt will rapidly see its top technical talent bleed and find it hard to hire (I'm not theorising - I've many times heard developers who interviewed at well known places tell me afterwards "I liked the pay, the people and the brand, but the codebase was a mess and life is only so long"). Thus the damage done is rapidly exponentially higher than the reward (traders will refer to "convexity" or non-linearity in the model, convexity being the degree of curvature) throwing you in a death spiral. You can even fit in the volatility smile: as more experienced developers ("the market") have in aggregate picked up on the convexity of the technical debt trade, they are more reluctant to take it on the more improbable the payoff is - that is, they compensate for the kurtosis of the return distribution (which is why buying deep out of the money options all the time hoping for 2008 to happen is a bad strategy). I recommend Nassim Taleb's Dynamic Hedging which despite the dry title explains these ideas quite intuitively.

crdb 10y ago

The value of the option will rise with volatility. It is more apparent if you delta hedge leaving you with a net gamma position (i.e. hoping for quieter or more volatile markets depending on whether you are short or long gamma). Selling an option puts you in a short gamma position whether it is a put or a call. The subtlety is that volatility falls slowly as prices rise AND rises much faster as prices fall. So (equity) options become much more valuable when things go badly. Check the S&P500 vs VIX and watch how the VIX explodes upwards with each market correction then slowly drops back as prices rise. The metaphor can only go so far. He does not specify the underlying in the article but the mechanics described imply the company's health. If the bet is correct, the company will do well and "volatility will fall" making the option less valuable. You could say the impact of the damage made by technical debt is less important because you have more resources to deal with it (this is how spaghetti ball codebases start, but in the medium term it holds). On the other hand, if the company does badly (fundraise fails, product does not grow as expected) the relatively small payoff from technical debt is exponentially more expensive and might well wipe out the tech side or slow down development enough to allow the competition to win faster. This is why I say the damage is "potentially infinite" (where infinite is used colloquially rather than formally). In particular, an unhealthy company with a lot of technical debt will rapidly see its top technical talent bleed and find it hard to hire (I'm not theorising - I've many times heard developers who interviewed at well known places tell me afterwards "I liked the pay, the people and the brand, but the codebase was a mess and life is only so long"). Thus the damage done is rapidly exponentially higher than the reward (traders will refer to "convexity" or non-linearity in the model, convexity being the degree of curvature) throwing you in a death spiral. You can even fit in the volatility smile: as more experienced developers ("the market") have in aggregate picked up on the convexity of the technical debt trade, they are more reluctant to take it on the more improbable the payoff is - that is, they compensate for the kurtosis of the return distribution (which is why buying deep out of the money options all the time hoping for 2008 to happen is a bad strategy). I recommend Nassim Taleb's Dynamic Hedging which despite the dry title explains these ideas quite intuitively.