OAP 169: Interview w/ Kevin Davitt – Former Market Maker & CBOE Senior Instructor

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This week we're very excited to share our exclusive interview with Kevin Davitt, a special guest with tons of experience not only as a former market maker, but as the Senior Instructor for The Options Institute at CBOE. As many long-time listener's know, we are highly selective with people we choose to bring on as guests for interview and Kevin raises the bar yet again for us with an amazing discussion. During the show we'll touch on everything from his time as a market maker, transitioning to the retail side of trading, though processes on managing positions and controlling risk, and so much more. You're going to love this candid and wide-ranging discussion as much as we enjoyed the time with Kevin.

Key Points from Today's Show:

Kevin Davitt's Background

  • Kevin is a Senior Instructor for The Options Institute at Cboe.
  • Prior to joining the Cboe, Kevin was a successful Market Maker on the floor fo LETCO Trading and TD Options and Market Street Securities. 
  • He traded a number of Russell Indices between 2003 and 2007 and has extensive experience in commodity trading.
  • He's worked in retail and institutional clientele in the markets.
  • Kevin has provided commentary for Bloomberg, Reuters, Barchart, Inside Futures, and various other market-based media.
  • He is a graduate of Marquette University and now lives outside of the Chicago area with his wife, kids, and their dog. 

The Role of a Market Maker

  • The business strategy of a market maker is profoundly different than the trading Kevin does now as an individual trader.
  • Now when he trades, he is a lot more price-sensitive and considers break-evens on all his trades. 
  • As a market maker, Kevin would be more focused on the volatility rather than the price. 
  • Ultimately, as a market maker, you are managing volatility risk and not directional/biases associated with individual trading. 

Are Market Makers Evil?

  • The psychology of trading can be the primary obstacle to both new and seasoned traders. 
  • There is a misconception that options trading is a zero-sum game. 
  • There is so much flexibility in ways to express a market sentiment with options.
  • To the new options users, market makers become the scapegoats when trades are not successful.

The Market Maker's Role in Today's Market

  • The average daily volume in options during the late 90's was between 1-1.3 million per day.
  • In 2018, the average daily volume is 20 million a day, with 16 different venues.
  • Although the makeup of the market making community has changed, their importance cannot be overstated.
  • Market makers are beholden to provide liquidity.
  • The competition that the market maker community fosters is a tremendous boon to the end-user of options.

Key Takeaways for Options Trading

  • Options trading is part science, part art. 
  • It is imperative that you understand how and why calls and puts work. 
  • Without the science of options, you don't belong in the options trading world. 
  • The art of options is developed over time and comes with a greater perspective and understanding of how you as an individual trader behaves and how you define your "edge". 
  • Writing down the reason for any given position that you are in is absolutely crucial - use a trading journal. 
  • Things that difficult require discipline, which allows you to be exponentially more successful. 
  • An explicit, laid-out plan allows you to avoid making emotional trading decisions.

Characteristics of Successful Options Traders

  • Instead of falling in love with a certain "idea", rather consider the percentage of capital that you have at risk.
  • Don't get locked into a specific strategy just because it was successful in the path. 
  • The market will continue to change, so you need to adapt and be flexible as a trader rather than a one-trick pony.

Understanding Leverage

  • Most people do not understand the meaning of leverage when it comes to options trading. 
  • Leverage is great when things are working well, and a nightmare when it doesn't.
  • As a trader, you have to respect that leverage is powerful but has tremendous utility. 

Building a System of Discipline

  • As traders, the more rule-based you are the better your success.
  • However, discipline does not come naturally and is often overcome by emotions.
  • The more we behave systematically, the more that we are likely to live to trade another day. 
  • Reviewing your strategy is key to prevent you from making the same mistakes. 

Kevin's Favorite Trading Strategies

  • In his experience, Kevin prefers to trade products that he has grown comfortable with over the years. 
  • Being comfortable with what you are trading gives you a certain edge, which is really the art side of trading.
  • In trading, Kevin has moved away from individual names/specific stocks and into broader, index-based trading. 
  • There are unique risks associated with anyone's equity that do not exist in most indexes or ETFs designed to track them. 
  • Overall, Kevin tries to limit his directional trading strategies and choose ratio spreads instead. 

Implied Volatility Risk Premium

  • Options will price in greater than the volatility, which is subsequently realized over their duration, which lends itself to positive net long-term outcomes. 
  • Historically, low volatility environments have not been poor for options sellers.
  • If you are in a position to be proactive when volatility picks up, awareness of your options is key!

Kevin's Journey as an Instructor

  • From a personality standpoint, being an instructor really appeals to Kevin.
  • No one day is the same, and he can teach others about things he does not yet understand.
  • There is always something new you can do to improve your options trading skills. 

Thank You for Listening!

I'm humbled that you took the time out of your day to listen to our show, and I never take that for granted. If you have any tips, suggestions or comments about this episode or topics you'd like to hear me cover, just add your thoughts below in the comment section.

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About The Author

Kirk Du Plessis

Kirk founded Option Alpha in early 2007 and currently serves as the Head Trader. In 2018, Option Alpha hit the Inc. 500 list at #215 as one of the fastest growing private companies in the US. Formerly an Investment Banker in the Mergers and Acquisitions Group for Deutsche Bank in New York and REIT Analyst for BB&T Capital Markets in Washington D.C., he's a Full-time Options Trader and Real Estate Investor. He's been interviewed on dozens of investing websites/podcasts and he's been seen in Barron’s Magazine, SmartMoney, and various other financial publications. Kirk currently lives in Pennsylvania (USA) with his beautiful wife and three children.