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Answer: Sell the 1-month option and buy the 4-month option.
C is correct. Although gamma is similar to vega in that it is greatest for an option that is at-the-money and approaches zero as the option moves deep-in-the-money or deep-out-of-the-money, one important difference is that while vega increases as the time to maturity increases, gamma decreases. Since the 1-month option has a lower vega and a higher gamma than the 4-month option, a portfolio with a short position in the 1-month and a long position in the 4-month will have positive vega and negative gamma. Adding this to the original portfolio would reduce the gamma and increase the vega of the original portfolio.
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A trader aims to manage the risks connected with gamma and vega in their portfolio, which comprises various options on a stock that does not pay dividends. The current portfolio displays a positive gamma and a negative vega. The trader has access to two at-the-money call options for the same stock, with one option expiring in 1 month and the other in 4 months. To effectively reduce the portfolio's gamma while increasing its vega, what specific strategy involving the purchase and sale of these two options should the trader implement?
A
Buy both the 1-month and the 4-month options
B
Buy the 1-month option and sell the 4-month option.
C
Sell the 1-month option and buy the 4-month option.
D
Sell both the 1-month and the 4-month options.