Trading is a waiting game, and while the trader waits, their psychology takes over. The decisions that a trader makes after they have initiated a trade can either enhance or diminish the predefined probability of an option. While there is no catch-all trading strategy that predictably works for everyone in the same way, Options Academy offers a unique way to help options traders address this issue.
This simplified approach to option trading divides a trader’s approach into one of three different trading styles labeled with the names of influential variables in the option world: theta, gamma and delta. Each of these styles is focused on a different anticipated win percentage, with a tradeoff of the size of anticipated gains. Although highly experienced traders make use of all three trading styles, beginning traders do well to choose one of the styles that best suits them. Here is a closer look at Gamma style trading.
Gamma style trading is the options style that takes many small, well-defined risks to achieve larger profits, albeit with a lower expected win rate. Gamma style traders don’t take rejection personally and are emotionally equipped to handle many losses so that they can relish in big wins.
What is Gamma?
“Gamma” is one of the four primary “Greeks” that traders use to describe and analyze various risks to an options trade at any specific point in time. Gamma is a second derivative of an option’s price that measures the rate of change in delta, another of the Greeks, over time. As a gauge of the velocity of potential change in delta, gamma can be considered “acceleration” (or deceleration) to delta’s “speed”.
How does this relate to the Gamma style trading?
Gamma works in the favor of long options holders. It accelerates profits and decelerates losses. As options approach expiration, gamma increases, which can provide drastic swings in option value. Gamma style traders profit from these drastic swings, which are far less common, but much more profitable.
This trading style prefers a shorter to intermediate trading time frame. For shorter term options this time frame can be for a few minutes to a few days. Because of this time frame, this trading style needs movement, up or down, or volatility in the market for success.
Gamma style traders aim for a win rate of 35% to 45%. Since the win rate is on the lower end of the spectrum, Gamma style traders expect two to four (or more) times profit than risks taken. The lower win rate makes it necessary for these traders to be able to shrug off losses so they can uncover the next big opportunity. Remember, this style risks 1 to make 2 (or 4, or more).
This trading style aims to swing for the fences by utilizing both call and put options that are out of the money. These calculated risks generally have an inexpensive entry point, but a smaller chance of success. When they do succeed, the profit can be substantial.