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I am Nassim Nicholas Taleb Ask Me Anything on Options and other Nonlinear Derivatives 6/5/15

NNT did an AMA on Reddit yesterday. I’ve collected his responses in this post. You can see the entire exchange here.

[–]nntaleb   Indeed. ATM drops faster, OTM rises. The same idea of shadow theta. Also project that the delta will go lower over time.

[–]nntaleb   I wish you both luck and patience.

[–]nntaleb   1) These are bogus. Just look at past forecasts, made in 2000. We had to wait a decade to see returns. 2) I think people overestimate what financial markets can deliver to them for their retirement.

[–]nntaleb   You cannot estimate future returns… Wrong approach to quantify that. OTM puts are OK if you spend little and they allow you to hold stocks you like. But again, best thing is to not rely on your retirement portfolio to feed you in old age.

[–]nntaleb   Only try to make money from business. That is what Fat Tony would say. The business you know best. Options can be a business but it takes 3-4 years to understand it. It is real compared to investing, more like insurance/actuarial science.

[–]nntaleb   I am about to publish my lecture notes in Silent Risk for how to price options using power laws. Very different paradigm. Vol clusters less when you use the right model.

[–]nntaleb   The book is free. Here www.fooledbyrandomness.com/FatTails.html

[–]nntaleb   No vanilla will hedge a compound option. So you can “dominate” it by buying tons of OTM vanillas around it

[–]nntaleb   Vol of vol… since then I have evolved into more complex representation using “scale” and “tail exponent” which is easier to manage mathematically.

[–]nntaleb   It is exactly the definition of a short squeeze. Same with the EURO. Violent moves against a trend, suckers covering. These are very astonishing in regularity.

[–]nntaleb   If you are asking that question, do not use options. Short with a stop.

[–]nntaleb   I do not believe in simplified solutions: humans recreate institutions, in an organic way. Scale matters more than whether there is a goverment or not. A coop in NY is a dictatorship. But it works because of size.

[–]nntaleb   Hello. I don’t think so. OTM options are not that elevated in price. If anything people misunderstood my book to think that all options are underpriced, including At the Money options, which is wrong.

[–]nntaleb   “Over time” the opposite strategy has blown up people. The problem is that large deviations happen, and all you need is one to lose years of carry. Sometimes, as we saw with subprime, centuries of carry.

[–]nntaleb   Indeed! You make money when you are there during the panic. You sell 50% of inventory before you even start thinking what to do.

[–]nntaleb   Marty O’Connell, The Business of Options.

[–]nntaleb   Indeed, uberized; then there were pit traders, with a franchise. All gone.

[–]nntaleb   I do not play cards.

[–]nntaleb   Almost never, except when volatility is very very depressed, or some special situations. Usually have preferred selling those.

[–]nntaleb   There is less worry about currency derivatives: it is more difficult to hide the risks today. Doesn’t mean people can’t blow up from underestimation of the odds. But the risk hiding is gone. It is the old risks that will blow firms up again: Fannie Mae is still the same using the same primitive mathematics.

[–]nntaleb   If you have a reason to buy an option, don’t buy it. I only go by price.

[–]nntaleb   In general it is not time per se but nonlinearity to volatility that counts, so a six month out of the money (measuring out of the moneyness in low delta) is preferable to a 1 year OTM with higher delta, for squeezes. Niederhoffer went bust with short term options… they went from .2 to $38 ! The advantage of shorter term is that vol explodes the most in them. Short but of course not too short.

[–]nntaleb   I am not sure financial investment alone are good for retirement. Better invest in a small business like a bakery… really. Financial prices go through protracted periods of boom / slumber (or down-drift), see before 1982 or between 2000 and 2010…

[–]nntaleb   I have sold vols into liquidations, no specific definition of a selling point. Butterflies… I do not do 1-2-1, rather +2 +1 -2 +1 +2 So the trade can be long or short vega, locally.

[–]nntaleb   I made mistakes that hurt me, but also that made money by error. For instance I bought OTM options for the wrong reason (I mispriced them as there was a software bug ) before the New Zealand currency collapse in the 80s. I also got squeezed in oil, big time, on a deliverable option… learned to not venture in markets without knowing the “inner” problems.

[–]nntaleb   By definition, a basket that moves in ways to neither make you happy nor unhappy. So some gold is there, some agris, some copper, some EUR, but nothing in quantities to bother me. Some gold companies have OTM stuff because extraction costs are higher than current market price. These are great to own if they are cheap.

[–]nntaleb   A trend is not a well defined thing.

[–]nntaleb   It is false to think that because electronic currencies are good, that bitcoin is the only solution… We need to tinker with different competing models there.

[–]nntaleb   Please read comments. I am not against selling ATM premium. This is one of the nonsense people have spread in the interpretation of my ideas.

[–]nntaleb   I think the calls are more interesting. You can see oil collapse, yet make jumps from short squeezes.

[–]nntaleb   Indeed there is a niche. For specialized funds perhaps.

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