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Question about calculating ratio of Relative Difference

  1. Jun 4, 2012 #1
    I was hoping someone might be able to help sort out where I am going wrong in my calculation of the ratio of relative difference.

    Value1= .0759
    Value2= .0544

    SqRt(.0759 / .0544) = 1.181195


    The above calculation seems to work, but in a situation like below where the values are reversed the calculation is missing something.

    SqRt(.0544/ .0759 ) = 0.846600



    The reason I say this is if I utilize the ratio to split $5,000 there is an overage

    $5,000 / 2 = $2,500
    $2,500 * 1.181195 = $2,952.98

    &

    $5,000 / 2 = $2,500
    $2,500 * 0.846600 = $2,116.50

    $2,952.98 + $2,116.50 = $5,069.48 ... $69.48 too much



    Any idea where I messed things up ?
     
  2. jcsd
  3. Jun 5, 2012 #2

    mathman

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    Gold Member

    1.181195 + 0.846600 = 2.027795, not 2.

    I am not sure what you intend by using the square root of the ratio. However it doesn't seem to make sense in what you are doing.
     
  4. Jun 5, 2012 #3
    Haha yea I have something wrong... I just am not quite sure where.

    I am trying to calculate a delta neutral position. Most of the time the size of these positions are based on a number of shares someone is trying to hedge and the cost is whatever it ends up being to create the hedge. I am trying to calculate it the other way around, assuming I want to buy $5k worth of calls and puts based on the delta and price of each, how many do I need to purchase to stay delta neutral and as close to $5k as possible.

    Basic Delta Neutral Calculation
    0.5 (call option delta) - 0.5 (put option delta) = 0 Delta


    Assuming I was buying a $5k combination of the following:

    Call Contract
    Price - $.59 each
    Delta - .0759

    Put Contract
    Price - $.60 each
    Delta - .0544

    ..Contracts are in multiples of 100

    My thought process was that if I could determine the relative difference between the 2 delta's I could determine how much of the $5k needed to be allocated to each. But I am missing something it seems. I can get things to balance out with the first set of values, but, when I put in a second set of values like below things didn't balance as effectively.


    2nd Set of Values
    Call Contract
    Price - $.85 each
    Delta - .1207

    Put Contract
    Price - $1.30 each
    Delta - .1419

    I have attached a copy of my basic worksheet
     

    Attached Files:

  5. Jun 6, 2012 #4

    mathman

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    Gold Member

    It looks like you are trying to have no. calls x call delta as close as possible to no. puts x put delta.

    Therefore the ratio call/put should be approximately = delta put / delta call.
    Your other equation is no. puts x put price + no. calls x call price = money available.
     
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