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(I worked in equity options market making in the past) I'm not sure this is such a good idea. Professional companies that do equity options market making have

by vgt 4y ago

(I worked in equity options market making in the past) I'm not sure this is such a good idea. Professional companies that do equity options market making have major natural advantages over you: - They are at the front of the line of any order if they're on the NBBO, so they're going to capture the spread - They get order flow from offline brokers, which tends to be high volume and have higher edge - They do gobs of volume every day and hope to make a fraction of a penny per transaction. - A typical market maker makes markets in 500+ stocks at any one time. Good luck doing that on your own. - They've invested in being as physically close to the actual exchanges as possible so that they can be first to respond - They're rarely greeks neutral beyond delta - As registered market makers, they have tax advantages you do not

H8crilA 4y ago
Do you think that the (often criticized, perhaps way too much) ability to sell naked short is meaningful too?
- vgt 4y ago
  I've heard this strategy referred to as "picking up pennies in front of a steamroller" - it works until the CEO is discovered to be a fraud, goes to jail, and stock loses 80% of its value in a week. Then you lose everything on a single position. Market makers do this as a free way to cover delta risk in that direction. If you have +100 delta, selling 100 "units" (way out of the money options) is a nice way and doesn't carry any other greeks. I've seen speculators do this, but they're playing with fire. I've seen an investor risk 9 digits to pick up $50k a minute before strike expiration, not realizing that the actual settlement is the next day (so adversarial events can still happen).
  - moneywoes 4y ago
    If the expected value is positive that means in the long run it should be fine right?
    - vgt 4y ago
      I am not a fan of Taleb these days (he went off the deep end in conspiracy land), but it's worth reading his "Black Swan" book. These tail risks are impossible to predict, and volatility of volatility of these events is incredibly high. So your expected value is better to think of as a "very broad range with a positive mean" - are you comfortable with this?
    - mikeyouse 4y ago
      In the long run, we're all dead...
    - NovemberWhiskey 4y ago
      If you have infinite capital, and the market is infinitely liquid, sure. c.f. martingale betting strategies.
  - NovemberWhiskey 4y ago
    >"picking up pennies in front of a steamroller" ... generally that refers to the strategy of writing (far) OTM options. Like: the Dow is currently trading at about $49.44; and the bid/ask on a Nov 18th put with a strike of $40.00 last traded at $0.04. So you can write 25,000 of those and get $1,000 in premium. Those are the pennies. You can't lose any money unless the Dow actually below $40.00 because those options will expire worthless. However, if the Dow goes to $39.00 ... then you'll be on the hook for $25,000. That's the steamroller.
    - ivanche 4y ago
      Just a correction that the steamroller is $1,000,000 in this case - 250 contracts x 100 "shares" x $40.
- s28l 4y ago
  As of 2008, options market makers are not allowed to naked short. [0] The only remaining exemptions to restrictions on naked short selling are for equity market makers. These market makers are still subject to delivery requirements (T+2). Plus, most/all aim to end each day flat [0] section III of https://www.sec.gov/investor/pubs/regsho.htm https://www.sec.gov/investor/pubs/regsho.htm
MuffinFlavored 4y ago
> NBBO National Best Bid and Offer (NBBO)
ISL 4y ago
I think GP was suggesting, gently, that one not expect to surpass the professionals.
MikeDelta 4y ago
Don't forget their massive investments in technology to be the first for those pennies (high-frequency shops, custom machines colocated at exchanges, etc). There are also specialist market maker roles for specific products, which don't have to use these systems, but those are professionals in niche markets too illiquid for the big shops.

by vgt 4y ago

H8crilA 4y ago

Do you think that the (often criticized, perhaps way too much) ability to sell naked short is meaningful too?

vgt 4y ago
I've heard this strategy referred to as "picking up pennies in front of a steamroller" - it works until the CEO is discovered to be a fraud, goes to jail, and stock loses 80% of its value in a week. Then you lose everything on a single position. Market makers do this as a free way to cover delta risk in that direction. If you have +100 delta, selling 100 "units" (way out of the money options) is a nice way and doesn't carry any other greeks. I've seen speculators do this, but they're playing with fire. I've seen an investor risk 9 digits to pick up $50k a minute before strike expiration, not realizing that the actual settlement is the next day (so adversarial events can still happen).
- moneywoes 4y ago
  If the expected value is positive that means in the long run it should be fine right?
  - vgt 4y ago
    I am not a fan of Taleb these days (he went off the deep end in conspiracy land), but it's worth reading his "Black Swan" book. These tail risks are impossible to predict, and volatility of volatility of these events is incredibly high. So your expected value is better to think of as a "very broad range with a positive mean" - are you comfortable with this?
  - mikeyouse 4y ago
    In the long run, we're all dead...
  - NovemberWhiskey 4y ago
    If you have infinite capital, and the market is infinitely liquid, sure. c.f. martingale betting strategies.
- NovemberWhiskey 4y ago
  >"picking up pennies in front of a steamroller" ... generally that refers to the strategy of writing (far) OTM options. Like: the Dow is currently trading at about $49.44; and the bid/ask on a Nov 18th put with a strike of $40.00 last traded at $0.04. So you can write 25,000 of those and get $1,000 in premium. Those are the pennies. You can't lose any money unless the Dow actually below $40.00 because those options will expire worthless. However, if the Dow goes to $39.00 ... then you'll be on the hook for $25,000. That's the steamroller.
  - ivanche 4y ago
    Just a correction that the steamroller is $1,000,000 in this case - 250 contracts x 100 "shares" x $40.
s28l 4y ago
As of 2008, options market makers are not allowed to naked short. [0] The only remaining exemptions to restrictions on naked short selling are for equity market makers. These market makers are still subject to delivery requirements (T+2). Plus, most/all aim to end each day flat [0] section III of https://www.sec.gov/investor/pubs/regsho.htm https://www.sec.gov/investor/pubs/regsho.htm

MuffinFlavored 4y ago

> NBBO National Best Bid and Offer (NBBO)

ISL 4y ago

I think GP was suggesting, gently, that one not expect to surpass the professionals.

MikeDelta 4y ago

Don't forget their massive investments in technology to be the first for those pennies (high-frequency shops, custom machines colocated at exchanges, etc). There are also specialist market maker roles for specific products, which don't have to use these systems, but those are professionals in niche markets too illiquid for the big shops.