Trading Techniques  |  MAY 2008

Stocks & Commodities V. 26:5 (58-61) Reducing Risk With Delta-Vega Hedging by Seongjin Cho & Ingyu Koh

Reducing Risk With Delta-Vega Hedging by Seongjin Cho & Ingyu Koh Predicting market movements with options can be profitable but risky — here’s how to make it safer. The size of the option market has increased significantly, thanks to high leverage. Many investors have come up with various portfolios based on individual analysis in hopes of gaining profits. In particular, strategy combination of options is a popular method among traders and makes use of an option’s time value for gains. Essentially, you take a short position and get rewarded for holding your position as time passes as long as the underlying assets remain unchanged. If there is a drastic change in the underlying asset, however, there is a risk of a large loss. As we all know, it is difficult to predict which direction the underlying assets will move. Because of that, it is necessary to eliminate or at least minimize the directional effect of the underlying asset. So it is crucial that you offset the impact of the underlying asset and volatility.

by Seongjin Cho & Ingyu Koh