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whatkinson

whatkinson
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  • A Good Option Strategy: Exploiting Earnings - Associated Rising Volatility [View article]
    Kim,
    Since I'm new to Option Trading, I really do enjoy and learn from your articles.
    However it's been over 45 years since I've really worked with statistics and I'm finding out that Options are all about stats.
    So I didn't completely follow your math in comparing the 2 different risk:reward option scenarios.
    Please see the table at the end of my question to see how I have come up with my numbers.

    It appears to me that both scenarios have an expected profit of $1.60. This is the probability of success times the max spread.

    Therefore the spread with the 20% probability of success is expected to have an 80% profit while the option with the 80% probability of success is expected to have only a 20% profit.

    The option with the 20% chance only needs to move 40 cents (5% of max move) to make a 20% profit where the other option has to move 80% of the max to earn a 20% profit.

    So with my fuzzy math, I would have also gone with the option with only the 20% chance of success.
    Can you help me see what I'm missing?

    Risk/ Max $ Prob of Expected Profit/
    Reward Cost Spread Profit Success Profit Cost
    ----- ------- --------- ----- ------- -------- ------
    1:4 $2 $10 $8 20% 1.60 80%
    4:1 $8 $10 $2 80% 1.60 20%
    Feb 26 04:18 AM | Likes Like |Link to Comment
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