<p>It depends on the psychological make up of the MM. I am talking in general terms now because option market making is dominated by major firms like Getco…Goldman etc…</p>
<p>But for sole proprietors everybody has their own style…I work in an office with 2 former market makers…and we have known each other for over 20 years…but we don’t trade the same…</p>
<p>Some people want to be long the tails…others want to be short the tails…</p>
<p>When I first started…i did not have a lot of money so I couldn’t take the risk of a stock making a large move against me…so I owned the tails…</p>
<p>Over time…I switched…Although…sometimes…i was short premium and long the tails at the same time…</p>
<p>I personally preferred to be short premium after a time because time decay works in your favor…I liked going to work every day knowing that time was in my favor and I was up if there wasn’t a big move…</p>
<p>A lot of whether you are long or short the tails depends on order flow…you don’t always get to put on the positions you want…</p>
<p>So in the end, it is still about “seeking alpha”. I prefer swing trades, at least for me, a far higher profit factor over the years. Sometimes unbelievable… Thanks.</p>
<p>“I personally preferred to be short premium after a time because time decay works in your favor…I liked going to work every day knowing that time was in my favor and I was up if there wasn’t a big move…”</p>
<p>This is the major reason why selling otm puts work - most expire worthless</p>
<p>Dstark, it may sound obvious about “seeking alpha”, but many are just entertaining a dream, while others are enjoying the adrenalin, more psychology is involved than actually running it as a business. I computerize my trades with proprietary screening and the general market only serves as a background for adjusting the level of risk I would take, as in how much liquidity is buffering stocks. Let’s just say that over the years, I have beat all the newsletters in the mail and some of the higher gains I traded, are still mentioned by pumpers on message boards to lure newbies.</p>
<p>Well…some market makers prefer to be long otm puts…they would try and trade the decay away…and stocks drop faster than they go up…usually…so…when there was a drop…this style of trading would clean up…</p>
<p>And then there is the Taleb style…where you are long otm options because you think they are priced to low…and you lose money most of the time…but once in a awhile…not often…you clean up…</p>
<p>I have no idea what Taleb’s record is. :)</p>
<p>I do know option traders who were long premium for years leading up to 2007…suffered…cleaned up in 2008…then bought lots of premium in 2009 and gave their money away as the voaltility fell.</p>
<p>Market makers are not just trading price movements…they are trading volatility changes…trading the relationships between other options…and trading options against the underlying security. And trading options of one security against another…or against multiple securities (i did not do this).</p>
<p>There have been traders that have gotten rich as long premium traders.</p>
<p>Yes I’m aware of this both for calls and puts. I remember asking someone why would you buy calls or puts with a probability of 2% of making money. His response was because the 2 out of 100 times, you would make a lot. I don’t like doing this - I’m very diversified, do not have large positions in anything. I’ll never strike it rich but on the other hand - I won’t ever lose my shirt.</p>
<p>Yeah…I trade like you do Doct… I really don’t like going for the 2%…</p>
<p>Although…my best trades were when I was long premium…</p>
<p>Then again…some of my worst traders were long premium. :)</p>
<p>Occasionally though…I am long premium. Very rarely these days…</p>
<p>I was long 60,000 worth of long premium a year ago in Seagate…and there were take over rumors…and the PE firms could not get their act together…and the stock went temporarily down…and the options expired worthless…</p>
<p>And Seagate decided to capitalize the company like a PE firm…and a shortage of hard drives developed…and now look at the stock price…</p>
<p>We have to sell a lot of .25 options to make 60,000. :)</p>
<p>Dstark, as a MM. you are probably eating people’s lunch left-and-right. Although with smaller bites each time, a long string of multiple smaller bites which would clean-up over time. :-)</p>
<p>I like my friend’s system for trading - trades once a day and has an average out performance relative to the s&p of ~5% per year starting in 2004.</p>
<p>Electronic trading killed most of the market makers…</p>
<p>The spreads are too tight…the markets are too efficient…for the most active stuff.</p>
<p>News travels fast now…firms can trade so quickly on news…and option pricing is adjusted fast…there is no time to think.</p>
<p>HFT has also made an impact.</p>
<p>And there are algorithms…well you can play some time…</p>
<p>Look at a wide option spread…so you won’t trade. Better the market slightly…and watch how the market changes…somebody will increase your market size…or better your market…</p>
<p>There are those HF traders who joke that these days, if you were to get a fill, you probably will regret. :-)</p>
<p>I prefer to use Profit Factor= {[(prob gain)* (perc gain)]/ [(prob loss)* (perc loss)]} as a market-independent measurement instead. Also from a random-walk point-of-view (the general market is more than random walk, but it can serve as a proxy for our purpose here), 1 SD is the square root of the number of steps. So for an average daily-change of about 1.5 % on the S&P, 1 SD over a year is about 24 %. You really need to beat the S&P for at least annually 24 % to even show just 1 SD of significance.</p>
<p>The average daily-change of S&P now, is indeed about 1.0 % instead of about 1.5 %. I was recalling a number from the Internet days and didn’t pay attention to the lower volatility in the last several years. MM’s are MM’s afterall. Then just 1 SD of significance becomes beating the S&P by at least about 16 % now. Buffet’s record is impressive, to a large extent, when interpreted with the enormous size of his portfolio. There are people who can handily beat him percentage-wise in the 10+ year timeframe, but the catch is, with smaller portfolios of tens of millions or less. The problem is in finding percentage-wise, ever more liquidity as the portfolio keep on expanding.</p>
<p>I knew what you were getting at, which was the reason I asked about the fat tails from an MM’s perspective. My “blinking” tends to be sporadic, so I rely more on the computer. :-)</p>
<p>Niners have lost, so there goes my interest of the Game as well. :-)</p>
I computerize my trades with proprietary screening and the general market only serves as a background for adjusting the level of risk I would take, as in how much liquidity is buffering stocks. Let’s just say that over the years, I have beat all the newsletters in the mail and some of the higher gains I traded, are still mentioned by pumpers on message boards to lure newbies.</p>