Are You Betting on Terminal Distribution or Volatility Dynamics?

In volatility space, many investors don’t know exactly what they’re betting on. Briefly, with options, they can bet on:

1. Terminal distribution of returns
2. Dynamics of the volatility

Today, we noticed an article by Alex on Valuewalk that discussed these 2 types of options trade. It concluded:

The key takeaway here is:
Traders who don’t hedge delta rely on the trend of the underlying more than its volatility to profit.
Traders who do hedge delta rely on the volatility of the underlying more than its trend.

It usually doesn’t make sense to hedge your delta unless you have a professional commission structure. This is why so few do it. All those hedging trades rack up commissions. And the execution of those hedges requires a lot of screen time or advanced software than can do it automatically.

So if you’re not delta hedging, a better question to ask yourself before placing an option trade is:
Do I believe the underlying will trend or consolidate over the life of the option?

If your answer to that question is “I think the underlying will trend”, you should buy optionality. The underlying will trend away from the strike price and you’ll make money on the option you purchased.

If your answer to that question is “I think the underlying will consolidate”, you should sell optionality. The underlying will stay close to the strike price and you’ll collect the premium from the option you sold.
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We agree with some points in the article. However, we note that:

-Even if an investor does not rehedge, i.e. he’s betting on the terminal distribution, the volatility when he enters the trade does matter. It’s the price that he pays for his option and it determines his final payout.
-The article did not discuss the long term expectancy of these types of bet which is important to know when putting on a new trade.