Options Gamma Trap

OPTIONS GAMMA TRAP .. what does it tell us ?

Gamma is a Greek from the option metrices. It is a 2nd derivative greek and it measures rate of change of Delta. Delta is option price sensitivity to underlying change.

if the above is greek .. please refer additional resources and TradeDsk24.com before proceeding :)

Options dealers are said to have a "short gamma" position, which means they have sold options or have positions that result in negative gamma. Gamma measures the rate of change of delta, and being short gamma implies that their delta changes negatively with movements in the underlying asset's price.

Hedging: To manage their short gamma exposure, these dealers need to continually adjust their positions by selling the underlying asset (usually stock) when the market is dropping and buying the underlying asset when the market is rising. This hedging activity is aimed at maintaining a neutral or balanced risk profile (delta hedging by adding vega)

Compounded Moves: The challenge arises when the need to hedge forces dealers to trade in the same direction as the market. For example, if the market is experiencing a sharp drop, dealers must sell even more, which can exacerbate the downward movement in the market. This results in a feedback loop where market moves are compounded by dealer hedging activities.

Selling Leads to More Put Buying: As dealers sell more to hedge their short gamma positions, it can lead to increased put buying by other market participants. This, in turn, puts dealers in an even more precarious situation as they become short more puts.

Higher Implied Volatility: The scenarios described above often lead to higher implied volatility levels (e.g., measured by the VIX index). Higher volatility can increase the values of put options, which requires dealers to sell even more to hedge their positions.

In essence, the Options Gamma Trap describes a situation where options dealers' attempts to hedge their positions end up amplifying market movements, leading to a self-reinforcing cycle of trading activity. This can result in heightened market volatility and potentially significant market swings.

Short dated ATM options have the sharpest gamma Curve.This is the reason why short straddles are relatively safer in 45 to 60 DTE , and not in weeklies.

Q: How can you benefit from the gamma traps ?

checkout exciting updates at facebook.com/TradeDesk24