Friday, April 20, 2018

Collared Trading Has a Low Expected Value

I did a proper analysis of trading futures with an options collar. The win and loss probabilities are the same as trading with a stop loss. But the average win is reduced from 1.26% to 0.73% and the average loss from -0.65% to -0.53%. As a result the expected value of each day's trade goes down from 0.57% to 0.28%. And that's with perfect execution of the hedges and entry point so that the hedge is costless and the upside and the futures entry point is exactly in the middle of the interval between the hedges. Usually the hedge costs something, maybe 0.1% and the entry point isn't perfect. Together this probably reduces the expected value to a 0.1% gain or so. Some slippage in entry point on the futures plus stop tactic doesn't have such a big effect on the expected value. Maybe reducing it to 0.5%.

Given this, I have no choice but to bit the bullet and trade futures with a stop loss instead of a hedge and accept the relatively larger dollar value of losses when stopped out, as would have happened today trading NQ.

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