Short Premium Research Dissection (Part 28)

Concluding this subsection on taking cheaper opportunity to reduce downside risk, our author writes:

     > …by paying more, the profit potential decreases by a larger margin…
     > [A trade-off exists between] risk reduction and profit reduction.

Paying more means rolling to a higher-delta put.

     > Personally, I don’t mind keeping some risk on the table in exchange
     > for a lower reduction in profit potential. As a result, I like rolling up
     > to the 16- [rather than 25-delta] puts as an adjustment strategy.

Once again (see paragraph below the first excerpt here), she makes a subjective decision about system development rather than making use of comparative performance data. I believe system development should be data-driven and objective wherever possible.* In this case, the decision could come from the data if she were to analyze it properly.

As a final critique on this matter, I think she is too indirect about rolling implications. A few times, she mentions that the long put decreases profit potential. She writes, “the primary concern is the cost of the adjustment.” Rolling is a form of insurance. The insurance comes at the cost of theta, which is reflected as PnL per day. As mentioned at the end here, our author doesn’t address this concept. I think it important, though, because a lower PnL per day means more days in trade, a lower probability of hitting the profit target, a higher probability of big market moves while in the trade, probability of more losses, etc.

I think “lower profit potential” candy coats the reality because these direct consequences are more serious.

And once again, use of the standard battery might better illuminate these direct consequences. Her inconsistent reporting of sporadic statistics has resulted in a fuzzy sense about what strategy variants are truly better (if any).

* If this gives her the confidence to implement it (see last paragraph here) then great, but
   basing such decisions on a whim isn’t good enough for me and I don’t think it should be
   good enough for you either.