Implementing Stock Strategies Using Options

There are many stock trading strategies that are quite attractive inwards price of Sharpe ratios, but non really attractive inwards price of returns. (Pairs trading comes to mind. But inwards general, whatsoever marketplace neutral strategy suffers from this problem.)  Certainly, i cannot feed a household unit of measurement amongst annualized returns inwards the unmarried or depression double digits, unless i already has millions of dollars of capital. One mode to solve this dilemma is of shape to bring together a proprietary trading group, where nosotros would get got access to perchance x30 leverage. Another mode is to implement a stock trading strategy using options instead, though at that spot are a sizable number of issues to consider. (I lately brushed upward on my options know-how past times reading the pop "Options equally a Strategic Investment".)

1. Using options volition allow y'all to increase your leverage beyond the Reg T x2 leverage (or fifty-fifty the solar daytime trading x4 leverage) alone if y'all purchase options only, but non selling them. For example, to implement a pairs trading strategy on two dissimilar stocks, y'all would get got to purchase telephone scream upward options on the long side, as well as buy put options on the brusk side (but non sell telephone scream upward options). Otherwise the margin requirement for selling calls is equally onerous equally shorting the underlying stock itself.
2. The effective leverage is computed past times multiplying the delta of the selection past times the underlying stock cost divided past times the selection premium. If y'all purchase an out-of-money (OTM) option, the delta volition live on small-scale (smaller than 0.5), but the selection premium is small-scale also. Vice versa for an in-the-money (ITM) option. So y'all would get got to detect the optimal nail cost then that the effective leverage is maximized. I personally lead to purchase an at-the-money (ATM) telephone scream upward or slightly ITM telephone scream upward without truly computing the optimized strike, but perchance y'all get got reached a dissimilar conclusion?
3. Naturally, the shorter the time-to-expiration, the cheaper the selection as well as higher the effective leverage. Additionally, for ITM options, their deltas increase equally nosotros become closer to expiration, which also contributes to higher effective leverage. However, the time-to-expiration must of shape live on longer than the expected belongings catamenia of your position, otherwise y'all would incur the transaction cost of rolling over to the further-month options.
4. The give-and-take of finding the correct nail cost based on its delta is moot if your brokerage's API does non render y'all amongst delta for your automated trading system. In theory, Interactive Brokers's API render deltas for whole options chains, as well as quant2ib's MATLAB API volition buy the farm these on to your MATLAB exeuction plan too. However, I get got non been successful inwards retrieving deltas using quant2ib's API. If y'all get got encountered a like problem, as well as perchance get got establish the reason/cure for this, delight allow me know. For now, I am reduced to assuming that all my around ATM calls for dissimilar stocks get got the same delta, as well as I increase this mutual value from 0.5 to some 1 equally fourth dimension passes.
5. Options don't get got MOO, LOO, MOC or LOC social club types. If i uses marketplace orders to purchase at the opened upward or close, i would incur pregnant transaction costs due to the much wider bid-ask spread compared to stocks. I motility to role throttle orders on options orders equally much equally possible.

If y'all get got used options to implement stock trading strategies, as well as get got experiences amongst these or other issues, delight produce percentage them here.

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Reminder: my side past times side pairs trading workshop volition get got house inwards New York on Oct 26-27th.