Systematic index option-writing strategies with Black-Scholes-Merton and Variance-Gamma Models

Abstract

This study evaluates systematic S&P 500 Index option-writing strategies, comparing the hedging performance of the Black–Scholes-Merton (BSM) and Variance-Gamma (VG) models, bridging the gap between theoretical models and their practical applications in trading. Using 1-minute data from 2018 to 2023, we assess hedged and unhedged strategies against buy-and-hold benchmarks, incorporating transaction costs to validate different hedging and sizing methodologies. Our findings reveal that systematic option writing can generate superior risk-adjusted returns. The BSM model generally outperforms the VG model in hedging, leveraging implied volatility to reflect market conditions accurately. However, the VG model proves valuable for position sizing in certain naked strategies, capturing skewness and kurtosis to manage tail risks. Intraday hedging at 130 min intervals offers effective downside protection while preserving return potential. The insights on hedging and sizing presented in this study provide actionable guidance for institutional and non-institutional participants in options markets.