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VIDEOOptions: Get Your Gamma On
Understanding this measure of a measure.
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As we head into this Friday’s options expiration we start hearing option traders talk about increasing their “gamma scalping” activity. This is just a fancy way of saying they plan on doing more scalping, which is just jargon for saying they plan on making many very-short-term trades in which they hope to capture small changes in price for a profit.
Professionals and market makers tend to increase their gamma scalping as expiration approaches because an option’s gamma increases closer to expiration. Now that I’ve said "gamma" a lot, maybe we should take a look at what it means.
Gamma refers to the rate of change in an option's delta for a 1-unit change in the price of the underlying asset. As a measure of a measure, it's considered a secondary derivative of the underlying asset's price. Remember, delta measures the rate of change in an option's value for a 1-unit change in the underlying asset's price.
While an option's delta is defined by a slope line going from a very low number toward a maximum of 1.0 as the strike price moves deeper into the money, gamma is defined on a curve, with the highest value occurring when options are at the money. Gamma decreases as the options move deeper into, or further out of the money. So when traders refer to their positions as being long or short the curve, they're referring to gamma.
A position that's net long options would be considered long the curve. The delta would increase as the underlying asset's price moves up (and decrease as the price moves down), essentially making this a form of pressing a position. Being long gamma is a way of describing a position that becomes longer and more bullish the higher the price goes, or shorter and more bearish the lower the price goes.
Getting Your Gamma On
A fairly basic way to accomplish this would be to buy a strangle or straddle - that is, purchase both puts and calls. But the preference is to get long gamma through a combination of stock and option positions.
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