According to Bloomberg, “[a]n option gives someone the right, but not the obligation, to buy or sell a commodity or security within a predetermined time period. Options are said to be naked when they’re unhedged. If a market moves violently against a naked short options position, it raises the prospect of almost unlimited risk.“
People like to sell options rather than buying options because the odds of making money are better, said Jack Scoville, vice president at Price Futures Group in Chicago. However, as we saw with natural gas, that’s not always the case. You can get into a situation where the market is getting away from you pretty quickly.
While writing naked options may sound outrageously aggressive and even frightening to some, if it is done correctly, one should be able to sleep very well at night, Cordier and Gross wrote in their book. The downside, of course, is that the market potentially can exceed your risk parameter.
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