Portfolio Margin Part 2:
BIG IDEA: NEXT UP IN OUR SERIES ON PORTFOLIO MARGIN,
WE COVER THE GREEKS.
CAPICHE ; PRO
Use of portfolio margin involves unique and
significant risks, including increased leverage,
which increases the amount of potential loss, and
shortened and stricter time frames for meeting
deficiencies, which increases the risk of involuntary
liquidation. Client, account, and position eligibility
requirements exist and approval is not guaranteed.
Thomas Preston is not a representative of
TD Ameritrade, Inc. The material, views, and opinions
expressed in this article are solely those of the author
and may not be reflective of those held by
TD Ameritrade, Inc.
• MORE LEVERAGE using portfolio margin (PM) means you need to bump up your
risk management a few notches. And that
means it’s a good idea to be sensitive to price
changes. Now is a good time for a refresher
course on the greeks—theoretical metrics
that describe how things like stock price,
time, and volatility “vol” can impact option
prices. Though there are five greeks in
all, we’ll cover the four most critical here—
delta*, gamma*, theta*, and vega*. If you
need a refresher on each, use the “Greeks
Jargon” cheat sheet.
Delta for how much change. Delta can be
positive or negative, and can be expressed
as either the number of shares an option
position “acts” like, or the profit or loss an
options position might have when the stock
price moves up or down $1. So, all things
equal, a call with a value of $3 and a 0.40
delta, could theoretically be worth $3.40 if
the stock goes up $1.
Gamma for speed of change. The rate of
change in delta (per $1 move in the stock) is
due to gamma. For example, if a put with a
delta of -0.40 has a gamma of 0.07, and the
stock dropped $1 while other things stayed
the same, the new delta of that put would
Theta day by day. Theta only impacts the
extrinsic value (“time premium”) of options
and is expressed in dollars. If you are short
a put that has a theoretical value of $2,
a theta of $0.10, and other things stay the
same, the put’s theoretical value would
be $1.90 tomorrow.
Vega for volatility. A change in implied
“vol” also only impacts the time value of
options, and is expressed in dollars. When
vol goes up or down, time premium goes
up or down, respectively. If you have a
long straddle that has a theoretical value
of $6, a vega of 0.50, and implied vol increases by 2%, and all other things stay the
same, the theoretical value of the straddle
would then be $7.
WHAT’S IT GOT TO DO WITH
Portfolio margin uses the greeks—or rather
the theoretical pricing model behind the
greeks—to figure out the largest loss a position could theoretically have across a range
of underlying stock or index prices and
volatilities. This is important because that
largest loss is the margin requirement for a
position in a PM account.
Suppose a short 150 strike put on a stock
trading at $160 has a theoretical value of
$4.00, a delta of 0.30, a gamma of -0.02, and
a vega of 0.10. PM tests the loss on that put
with the stock down 15% and vol up 10%.
If the stock goes down $24 to $136, the put
would be worth at least its $14 intrinsic
value, which means the put loses $1,000, and
the rise in vol could add another $100 loss
because of the put’s short vega. If PM finds
the theo loss to be $1,100, the portfolio margin requirement is $1,100.
GREEKS JARGON Delta – A measure of an
option’s sensitivity to a $1
change in the price of the
underlying asset. All else
being equal, an option with
a 0.50 delta (for example)
would gain 50 cents per $1
move up in the underlying.
Long calls and short puts
have positive (+) deltas,
meaning they gain as the
underlying gains in value.
Long puts and short calls
have negative (–) deltas,
meaning they gain as the
underlying drops in value.
Gamma – A measure of
how much an option’s
delta is expected to
change per $1 move in the
Theta – A measure of
an option’s sensitivity to
time passing one calendar
day. For example, if a long
put has a theta of -.02,
the option premium will
decrease by $2 per option
Vega – A measure of an
option’s sensitivity to a 1%
change in implied volatility.