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"Wings Insurance"

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Seneca60BC

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14 October 2006
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Hi All

What is meant by the term "wings insurance" - Just say a trader takes out a short call on an underlying stock. How does "wings insurance" help to protect the trader?

E.g. trader has written a short call on XYZ Strike $25, with XYZ trading at $20, where will the wing insurance options be bought (what strike(s)) and will they be long calls or puts? (trader is bearish on XYZ).

thanks!
 
Are you referring to a collar which is a long put and a short call to pay for it. Haven’t heard of a "wings insurance" but I’m sure an experienced options trader will help you out.
 

Just another term for a hedge - these "wings" will generally limit losses and define maximum risk.

It usually applies to positions that have potential unlimited losses upside or downside e.g. short strangles and straddes, short calls and puts

The short call has unlimited upside risk, which one can limit buy purchasing a higher strike call - e.g. XYZ $30 call. This will cap your maximum loss to ($30 - $25 = $5). This is like insurance against a massive rally in XYZ past your short strike. Since the long call is further OTM, it will cost less than your short call resulting in a net credit position. This credit amount will reduce your maximum loss and reduce collateral requirements compared to the naked position. This is the bear call spread.

The same can be achieved by purchasing a lower strike put for naked puts - aka bull put spread.

For straddles and strangles - it is just a combination of the above 2 spreads which results in your iron condor and butterfly.
 
cutz said:
Are you referring to a collar which is a long put and a short call to pay for it. Haven’t heard of a "wings insurance" but I’m sure an experienced options trader will help you out.
Click to expand...

Cutz - the long put can be considered the "wing insurance" as it limits your loss. It really is just the synthetic bull spread.

You already know it....just fancy terminology or Seneca is drinking Red Bull (terrible joke.......but I've been up all night)
 
No, what I meant in the original question was a naked put or call which Maz has covered - have to reread his answer again when I get back from work

Cheers
 

The wings come into play when your short call is at risk, it provides a hedge on your upside.

Depending on your comfort zone, level of risk and some greek analysis will dictate where you place your wings. For what you described above they would be long calls to protect against a bullish move.
 
Seneca60BC said:
No, what I meant in the original question was a naked put or call which Maz has covered - have to reread his answer again when I get back from work

Cheers
Click to expand...

Sorry, I thought you were looking at taking out a short call on underlying stock which I assumed you owned. Its good that mazza is always on the ball.
 
Actually I am naked a short call and the expiry date is this friday - the short call is on a strike of $105 and the underlying stock closed at $69.81 - so will taking out insurance for this worthwhile with 5 days to go?

The trend is down for this stock.

cheers!
 
GS I assume?

Personally, I never initiate spreads without defined risk beforehand. But what would be the difference between buying a higher call and the remaining time value in the call you've written? It might prove to be more effective to just close out the trade.
 
seneca just out of interest do you know what the iv was at the time that you sold that 105 call or the annual return
am interested to see the variation between aussie iv's and usa
 
Hi

The IV was about 114% - yes i know the risk is substantial - although the probability is very small it will sky rocket - especially in this business atmosphere - yes i think i will close the trade come monday.

Cheers!
 
Seneca60BC said:
Hi

The IV was about 114% - yes i know the risk is substantial - although the probability is very small it will sky rocket - especially in this business atmosphere - yes i think i will close the trade come monday.

Cheers!
Click to expand...

Well, we'll go through it how I would think it through...

You probably want to buy the 110 strike.

I would imagine neither would be fetching much. Perhaps 3-4 dollars each...

So if the 105 strike is now at say 5 dollars, and the 110 at 3, what you are inherently saying is that the remaining 5 dollars of time value, is worth 500 dollars of risk. I'd think not.
 

is there any reason that you would expect a 50% rise with this stock over the next 5 day period
 
Seneca60BC said:
Hi

The IV was about 114% - yes i know the risk is substantial - although the probability is very small it will sky rocket - especially in this business atmosphere - yes i think i will close the trade come monday.

Cheers!
Click to expand...

Hi,

If your short call has moved deep OTM i reckon there’s no point hanging on thinking it will expire worthless, chances are it will, but there always is that small chance it won’t wiping out your profit, one example that springs to mind is MQG, on the 18sep it looked buried the next day it leaped back into life closing up about 10bucks with a few days remaining till ex day.
 
Hi

No I do not expect a rally in the next 5 days to above $105 from $69 - but you know - the black swan - that's always there - lets see what happens monday - if NY tanks, well i think I will hold off till tuesday - so Ill take it day by day.

Cheers!
 

Hi chops

Sorry missed your reply

The option value is currently $0.15c which I bought at $0.50cent - hey dont laugh im learning options so im starting small - anyway the probability of this finishing in the money is very small

cheers!
 
Yeah, that's fair enough, BTW MQG rallied from $26.05 to $39.25 in the preceding 5 trading days leading up to expiry thursday.

I know your case may be different but i was making the point that these things have been known to happen.
 

so as not to cause as much stress in the future it might be worth takeing insurance out with the original sale . may stop those sleepless nights worrying about what could happen in the worst case scenario

because of the unlimited risk associated with selling naked calls if you want to stay in the game it may be wise to cover yourself .
 
yes I totally agree - thats what I will be doing in the future. Thats why I asked about wings insurance
 
cutz said:
Yeah, that's fair enough, BTW MQG rallied from $26.05 to $39.25 in the preceding 5 trading days leading up to expiry thursday.

I know your case may be different but i was making the point that these things have been known to happen.
Click to expand...

Hi Cutz, yea i totally agree with you - better to have some insurance.
 
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