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Gamma Hedging


Gamma hedging is a risk management technique employed to neutralize the effects of market volatility on an options portfolio. It involves adjusting the delta hedge, based on the changes in the underlying asset’s price, to reduce the sensitivity of the options to price movement. This strategy aims to minimize potential losses due to sudden and unpredictable shifts in the market.


The phonetic pronunciation of “Gamma Hedging” is:/ˈɡamə ˈhɛdʒɪŋ/Here’s the breakdown of each word’s phonetic pronunciation:Gamma: /ˈɡamə/Hedging: /ˈhɛdʒɪŋ/

Key Takeaways

  1. Gamma hedging is a risk management strategy used by traders and investors to protect their portfolios against shifts in market prices, specifically the prices of underlying assets, such as stocks or commodities.
  2. The strategy’s main focus is to minimize the risk associated with the gamma, which measures the rate of change of Delta (the option’s price sensitivity in relation to the underlying asset’s price). This helps to mitigate the risks of large price swings and maintain a more stable portfolio.
  3. Gamma hedging involves the use of various financial instruments, primarily options, to offset the risks associated with holding the portfolio of assets. Frequent rebalancing of the hedge is required as the underlying asset’s price and the options’ gamma values change over time.


Gamma hedging is important in the world of business and finance as it plays a crucial role in managing the risk associated with options trading. It refers to the practice of adjusting an options portfolio to neutralize or reduce its sensitivity to changes in the underlying asset’s price movement. This helps in minimizing potential losses and allowing traders and investors to maintain a stable portfolio over time. By actively managing the gamma, financial professionals can improve their chances of success in options trading, better position themselves in rapidly changing markets, and mitigate risks resulting from market fluctuations. Overall, gamma hedging serves as a crucial risk management tool that promotes stability and increased predictability within trading portfolios.


Gamma hedging is a sophisticated risk management technique used primarily by financial institutions and professional investors to protect their investment portfolios against adverse price movements or volatility. Gamma, a chief risk in option trading, measures the sensitivity of an option’s delta to the underlying asset’s price changes. In essence, this approach neutralizes the impact of market variability on the value of the investment portfolio. Gamma hedging serves to diminish the exposure to sudden price shifts or fluctuations that may surprisingly affect options traders and prevent considerable losses in volatile conditions.Investors typically employ gamma hedging when holding a significant amount of options in their portfolios. By adjusting the hedge, they aim to maintain a balance in the value of the investments amidst any unwanted price changes. The primary purpose of gamma hedging is to ensure that the options trader’s position remains secure, despite the unpredictable nature of market movements. This technique helps investors retain the capability to take advantage of potential profits while alleviating the financial consequences posed by rapid fluctuations in underlying securities. Ultimately, gamma hedging plays a key role in promoting a robust risk management stratagem, enabling market players to navigate through various economic scenarios confidently.


Gamma hedging is a risk management technique used by options traders to manage risks associated with the Greek variable Gamma. Gamma measures the rate at which an option’s delta changes when the underlying security’s price changes. Here are three real-world examples of gamma hedging: 1. Example 1: An options trader has a short position in call options of a particular stock but is concerned about the options’ gamma risk, which indicates how sensitive their positions are to the stock’s price fluctuations. To hedge this gamma risk, the trader buys a lesser quantity of call options, leaving them with a reduced net short position. By doing so, the trader has gamma hedged their portfolio, which decreases the sensitivity of their options’ delta to the underlying stock’s price movement and reduces their overall risk exposure. 2. Example 2: An investment fund has a portfolio with both long and short stock positions. The fund’s portfolio manager wants to reduce the portfolio’s exposure to changes in the overall market. To achieve this, the manager buys put options on the market index. As the market index moves, the options’ gamma could affect the portfolio’s overall risk exposure. To offset this risk and maintain a relatively constant exposure to the index, the manager must continuously adjust the fund’s holdings of the underlying securities (i.e., the long and short stock positions), which is gamma hedging. 3. Example 3: A market-making firm takes on a substantial inventory of options contracts as part of its usual business operations. To manage the gamma risk associated with these options, the firm employs a dynamic hedging strategy that involves adjusting its holdings of the underlying securities. The firm will analyze the options’ gamma to understand its exposure to the underlying price movements and then execute trades in the underlying securities to maintain a low gamma risk profile. This hedging strategy ensures that the market-maker’s options inventory remains profitable while managing volatility exposure.

Frequently Asked Questions(FAQ)

What is Gamma Hedging?
Gamma Hedging is a risk management technique used by options traders to protect their portfolios against potential fluctuations in the underlying asset’s price. It involves the adjustment of an options position’s Delta to neutralize the impact of price changes on the options’ Gamma.
What is Gamma in the context of options trading?
Gamma is the rate of change of Delta, which is the sensitivity of an options contract to the changes in the price of the underlying asset. In simpler terms, Gamma measures how quickly the Delta of an option changes as the underlying asset’s price moves.
Why is Gamma Hedging important for options traders?
Gamma Hedging helps options traders to maintain a neutral Delta position, which insulates the portfolio from the price changes in the underlying asset. This helps in mitigating risks associated with volatility and maintaining the value of an investment portfolio.
How is Gamma Hedging achieved?
Gamma Hedging can be achieved by adjusting an investor’s options positions in order to balance the Gamma and maintain a neutral exposure to price changes. This can be done through buying and selling delta, which can be achieved using options, futures, or the underlying assets (stocks, commodities, etc.).
What are some strategies to implement Gamma Hedging?
Some common strategies for implementing Gamma Hedging include:1. Dynamic Delta Hedging: This involves continuously adjusting an option’s Delta by buying or selling the underlying asset to maintain the hedge.2. Gamma Scalping: A strategy where traders aim to profit from the changes in Gamma by trading the underlying asset while holding a straddle (a combination of a call and a put option with the same exercise price and expiration date).3. Buying or selling options with different strike prices and/or expiry dates to balance the overall Gamma in the portfolio.
Are there any drawbacks or limitations to Gamma Hedging?
Some potential drawbacks and limitations of Gamma Hedging include:1. High transaction costs due to continuous adjustments in the trading positions.2. Impractical for retail investors with limited capital or expertise in derivatives trading.3. May not be effective in managing extreme price movements in the underlying asset.
Is Gamma Hedging suitable for all types of investors?
Gamma Hedging is primarily suitable for experienced options traders and institutional investors with sophisticated trading tools and resources. It may not be ideal for retail investors or those with limited options trading experience.

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