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Minyan Mailbag - Option Gamma

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Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next discussion with that very intent.

John,

Quick stupid question on vols and gamma, I'm looking at the Goldman Sachs (GS:NYSE) Dec calls, GS LT and GS LA, why is the gamma so low on those calls? I was under the impression that when vols are low that gamma tends to be higher. I've enjoyed watching the dollar yen relationship, it's another piece of the puzzle.

Thanks,
Minyan Hal

Hal,

You are correct: the lower the volatility (vega) of an option, the higher the gamma. But this effect is not as great as the time to expiration has.

For example, the current implied volatility of the 12/100 GS calls is around 19%. This is fairly low. The current gamma is .066: if the stock moves down a dollar, the delta will go down by .066 from .66 to .594. If the implied volatility drops to 18%, the gamma will go up to .07. So the gamma does increase, but only marginally.

Now let's look at time to expiration. Currently these options have around one month to go until they expire. If we look at the gamma when they have only one week to expire, the gamma will go from the current .066 to .108.

So the time to expiration has a much larger effect on the gamma of an option than that of a change in the price (volatility) of an option.

Regards,
Prof. Succo

position in gs

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