Hedge Ratio Formula Question

[jimmy]

Hedge Ratio Formula Question

Date: June 2, 2010 12:26PM


Are there two ways to compute the hedge ratio?

1) 1/delta

2) C+ - C- / S+ - S-

is that correct?

[gogobus]

Date: June 2, 2010 12:27PM


i believe 2 is calculating delta to use for 1

[hibea]

Date: June 2, 2010 12:29PM


Delta is the number of shares to hold for each short option so 1/delta is the number of options per share.

The formula is simply delta in the binomial model i.e.change in option value over change in underlying.

[windwin]

Date: June 2, 2010 12:40PM


Hold on a sec, without taking into account the positive/negative convention, isn't the hedge ratio simply delta?

e.g. If I own 100 calls (1 share per call) and the delta is .85, I would need to short 85 shares in order to hedge my position.

NO EXCUSES

[will]

Date: June 2, 2010 12:44PM


Yea, delta and the hedge ratio are the same thing.

[happyending]

Date: June 2, 2010 12:45PM


That's how I understand it. And if you own 100 puts and delta was the same (negative obviously) then you'd need to buy 85 shares to hedge your position.

[stocker]

Date: June 2, 2010 12:46PM


To put it together.

schweser sample exam, book 7 exam 1, #109

which of the following positions will best delta hedge Nolte's long position?

He owns 5,000 shares, the delta for the 1 month calls is .54

we are given the delta, and we have to compute the hedge ratio

hedge ratio tells us # of calls (per share) to short

hedge ratio = 1/delta = 1.54 = 1.851

answer: sell 9259 calls

[london]

Date: June 2, 2010 12:48PM


revisor - Isn't the effect the same?



Edited 1 time(s). Last edit at Wednesday, June 2, 2010 at 12:49PM by 2010CFACFA.

[j6z2xy6]

Date: June 2, 2010 12:55PM


same thing pretty much. Usually you are hedging a stock position (as opposed to hedging an option position), so the hedge ratio is shares/delta.

in your examply, stock moves up $1 you lose 85 on the stock and make 85 on the call

if i am short 85 shares in stock, i would need 85/.85 = 100 calls

[o9v7spd]

Date: June 2, 2010 01:25PM


shares owned/delta = hedge ratio, or so i thought. Represents the # of short calls necessary to eliminate the exposure to change in the asset price...