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Option Strategies: Good Deals and Margin Calls

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  • Santa-Clara, Pedro
  • Saretto, Alessio

Abstract

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 find that strategies involving short positions in options generally compensate the investor with very high Sharpe ratios, which are statistically significant even after taking into account the non-normal distribution of returns. Furthermore, we find that the strategies’ returns are substantially higher than warranted by asset pricing models. We also find that the returns of the strategies could only be justified 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 find 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.

Suggested Citation

  • Santa-Clara, Pedro & Saretto, Alessio, 2004. "Option Strategies: Good Deals and Margin Calls," University of California at Los Angeles, Anderson Graduate School of Management qt0499w44p, Anderson Graduate School of Management, UCLA.
    • Handle: RePEc:cdl:anderf:qt0499w44p
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    Cited by:

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    2. George M. Constantinides & Michal Czerwonko & Jens Carsten Jackwerth & Stylianos Perrakis, 2011. "Are Options on Index Futures Profitable for Risk‐Averse Investors? Empirical Evidence," Journal of Finance, American Finance Association, vol. 66(4), pages 1407-1437, August.
    3. Nicole Branger & Christian Schlag, 2007. "Option Betas: Risk Measures For Options," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 10(07), pages 1137-1157.

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