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Option Strategies: Good Deals and Margin Calls

  • Santa-Clara, Pedro
  • Saretto, Alessio

We investigate the risk and return of a wide variety of trading strategies involving options on the S&P 500. We consider naked and covered positions, straddles, strangles, and calendar spreads, with different maturities and levels of moneyness. Overall, we ï¬ nd that strategies involving short positions in options generally compensate the investor with very high Sharpe ratios, which are statistically signiï¬ cant even after taking into account the non-normal distribution of returns. Furthermore, we ï¬ nd that the strategies’ returns are substantially higher than warranted by asset pricing models. We also ï¬ nd that the returns of the strategies could only be justiï¬ ed by jump risk if the probability of market crashes were implausibly higher than it has been historically. We conclude that the returns of option strategies constitute a very good deal. However, exploiting this good deal is extremely diffcult. We ï¬ nd that trading costs and margin requirements severely condition the implementation of option strategies. Margin calls force investors out of a trade precisely when it is losing money. Taking margin calls into account turns the Sharpe ratio of some of the best strategies negative.

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Paper provided by Anderson Graduate School of Management, UCLA in its series University of California at Los Angeles, Anderson Graduate School of Management with number qt0499w44p.

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Date of creation: 08 Nov 2004
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Handle: RePEc:cdl:anderf:qt0499w44p
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