Scalping is a special type of trading strategy where the trader aims to make profits from small price changes after executing a trade. It is also a highly risky approach because one major loss can wipe out the previous gains, thus the need to exercise a high level of caution. The goal with scalping is thus to place as many winning trades as possible while keeping the losses at a minimum. Also, the size of the profits is small and thus the need for many trades.
This is an advanced scalping method in which a trader scalps in and out of a trading position within a specific market. This allows the trader to make vital adjustments in a long option premium’s delta. The goal of this approach is to help achieve a balance within the time decay aspect of a trading position. In this case, delta simply refers to the changes in an option’s price and its impact relative to the underlying asset’s price.
A call position has a delta range of 0 to 1 while a put position has a delta range of 0 to -1. Picture a situation where a trader executes a call option on the Pound Sterling with a 0.5 delta. The trader’s asset will go up by 0.5 every time that the underlying asset’s price increases by 1 unit change.The reverse would also apply where an asset would lose by 0.5 units every time the underlying asset’s prices decrease by 1 unit change.
The risks involved in gamma scalping
Like all types of trading, gamma scalping also exposes the trader to a considerable degree of risk.
- The first risk is the fact that the gains or losses are not limited as is usually the case when a trader uses the gamma/theta approach. This is why it is important for the trader to be keen on achieving the correct entry and exit points. On the flip side, large moves do not occur often traders can take advantage of the opportunities available. Also, stocks are not uniform as far as their uniformity in their daily returns is concerned. Although large moves do not occur often, they are not rare and they can be quite costly.
- Gamma distribution has an impact on large moves. The gamma and theta strategy is effective in instances where the price of an option has a curvature that can be measured. Different options do not warrant the implementation of the gamma or theta strategy in the same way because their gamma and theta profiles are different.
- The Vega effect comes into play, especially where a large move is involved and it mainly involves a stock move on the gamma or theta strategy and a large downward move. Such instances usually lead to investor panic or concerns about the traded asset possibly making more losses. Brokers tend to liquidate their position in such instances.
Gamma scalping has seen increased attention, especially in the retail trading space. However, this is not a strategy that is suited to every trader. Traders need to first understand that the gamma scalping strategy is not suited to those that are new to trading. If you happen to be an impatient trader, then perhaps it is not a good idea to try this strategy.
It is best suited to traders that know their way around the markets and it also requires traders to make rapid decisions. You also have to keep watching your positions while also maintaining a high level of turnover.
Tips for amateur traders that are new to gamma scalping
- Traders should make sure that they keep track of the costs involved when they execute trades. Remember that forex and stock brokers usually charge commissions on trades. It is thus wise to choose a broker with lower rates to minimize the trade execution costs.
- Traders need to improve their skills for identifying trends, as well as their momentum. Understanding these can help make more profitable trades.
- Traders should work on becoming as efficient as possible when it comes to trade execution. This includes understanding that slight delays may cost them profit-making opportunities and even lead to losses.
- The trader needs to be skilled when it comes to technical analysis.
- Understand that discipline is a vital part of achieving success especially if they decide to use a scalping method.
Although gamma scalping is not so popular in retail trading, it makes a compelling case of why traders need to understand how it works. That is because gamma trading allows a trader to anticipate market behavior more efficiently.