Sometimes people become fanatical about their ideas. Whether it is over politics, religion, or even trading. We latch on to something and then refuse to ever look at the other side of the coin because we want to believe it so bad. Let's try this for a minute. Let's remove the whole idea of the Greeks. Let's simply look at options as a bet on fair value. Let’s say you are going to play a game with one six sided die. You roll the die, whatever number comes up, you get that much money. So if you roll a 3, you get $3. If you roll a 6, you get $6. You are going to play the game over and over again. There are two players in this game. The roller and the house. The house is selling the bet, or selling premium if you will. The roller is buying the juice. The question is, as the roller, how much would you pay for the right to roll the die. Then, when you are the banker, how much would you sell the bet for? For most of you can figure out this is a very simple probability game that you probably played in your stats class in college. The fair value of the bet is 3.5. You get this number by summing the outcomes and dividing by the total. (6+5+4+3+2+1)/6=3.5. That means the fair value of this bet over a long series of throws is 3.5. So if you are the roller, you want to pay less than 3.5 for the bet, say 3.4. If you are the banker, you would want to sell this bet for more then 3.5, say 3.6. What you just did is you made a market. You are 3.40 bid at 3.60 offer. This in a nutshell is what options are all about. It does not matter if you are the roller or the banker. The person buying the premium or selling it. If you buy the option below fair value, you will make money. If you sell it for more than fair value, you will make money.
Market makers have been doing this since 1973 and nothing has changed since then except the technology. If you can grasp this very simple concept, trading options will become much simpler for you. But over the long run, the buyer of premium will generally outperform the premium seller for one reason and one reason only. Not because he/she is a better trader. But because of something called luck. That's right, luck. Luck, is very much like volatility in that it doesn't have a positive or negative bias. It simply is what it is. You will have both good and bad luck in your life. The difference here is that when you have good luck as the long premium trader, you might retire off of it. Bad luck to the option seller will bankrupt him/her. Good luck will do nothing for the option seller as there is very little upside in what they are doing. There is a famous quote from the movie "Rounders": "Amarillo Slim, the greatest proposition gambler of all time, held to his father's maxim: You can shear a sheep many times, but skin him only once.” Well, that is what an option seller is trying to do. Their only hope is that they can sheer a sheep 1000 times before they get burned. The inverse is then true for the option buyer; bad luck is really not going to hurt him/her. The net credit is meaningless as is the net debit. Just remember the dice game. Fair value, makes no difference if you are the banker or the roller. Everything else is just conversation.
Market makers have been doing this since 1973 and nothing has changed since then except the technology. If you can grasp this very simple concept, trading options will become much simpler for you. But over the long run, the buyer of premium will generally outperform the premium seller for one reason and one reason only. Not because he/she is a better trader. But because of something called luck. That's right, luck. Luck, is very much like volatility in that it doesn't have a positive or negative bias. It simply is what it is. You will have both good and bad luck in your life. The difference here is that when you have good luck as the long premium trader, you might retire off of it. Bad luck to the option seller will bankrupt him/her. Good luck will do nothing for the option seller as there is very little upside in what they are doing. There is a famous quote from the movie "Rounders": "Amarillo Slim, the greatest proposition gambler of all time, held to his father's maxim: You can shear a sheep many times, but skin him only once.” Well, that is what an option seller is trying to do. Their only hope is that they can sheer a sheep 1000 times before they get burned. The inverse is then true for the option buyer; bad luck is really not going to hurt him/her. The net credit is meaningless as is the net debit. Just remember the dice game. Fair value, makes no difference if you are the banker or the roller. Everything else is just conversation.