Gamma represents how much the delta (directional risk) of an option changes after the underlying moves. How do these changes affect us in short?
What happens to ourand in a short strangle?
If the stock price moves up, our short call delta grows towards -100 (position becomes short), while the short put delta diminishes towards zero. If the stock price moves down, our short put delta grows towards +100 (position becomes long) while the short call delta diminishes towards zero. How quickly these positions delta’s change is our gamma risk.
Options further away from ATM, like 1strangles, see an increase in gamma and then a steep drop off as approaches.
If one of our options is near ATM, all else being equal, the directional exposure of options that are closer to expiration will be much more sensitive to underlying movements.
When wepositions early (50% for strangles), we decrease the average number of days we are in the trade and limit our exposure to gamma spiking.
Tune in to hear Tom and Tony breakdown gamma risks in short strangles!