Pricing Broker-Referenced Options with Delta Adjustments
Summary
The document explains how a market maker can quote an option request tied to a broker’s reference level for the underlying. The reference lets the parties discuss an option price at an agreed spot level even as the live market moves, which can simplify comparison and negotiation, especially when the trade is focused on volatility rather than an immediate underlying hedge.
The described approach is to value the option using the reference spot and an assumed option delta, then adjust the value for any difference between that assumed delta and the market maker’s own delta estimate. The adjustment reflects the gap between current and reference spot multiplied by the residual delta. The answer notes that fair delta can be negotiated because models and assumptions differ. It gives a pricing rationale rather than a worked numerical example, and does not specify conventions or treatment for other risks, so actual quoting practice may depend on the market and trade terms.
Key ideas
- Value the option as though the underlying were at the agreed reference spot.
- The assumed option delta affects how the reference-based quote translates to current market conditions.
- Adjust for residual delta using the difference between current and reference spot.
- Market participants may disagree about fair delta because their models and assumptions differ.
- Reference quoting can reduce the need to reprice after every underlying move.
Tags
Full text
# Market Maker option's pricing with reference spot # Market Maker option's pricing with reference spot When a option's market maker receives a quote from a broker, usually the underlying spot prices is locked with a reference. Let's suppose the following example: Broker: "Buy 10k call 2800 of ABC Index for August. Ref: 2670" How the market maker is suppose to quote this option? I believe that this is to simplify the client/broker to see what is the best quote he has, then trade the cheapest one; but the price from the market maker is really the price that will be traded or something would be adjusted? ## Answer by confused (score 3) https://quant.stackexchange.com/a/57022 It is just whatever the option is worth assuming the underlying is currently trading at the reference rate and assuming the option carries the amount of deltas the brokers says it has. Usually there is some negotiating on what the fair delta is - since different people use different models/assumptions and have different deltas. If the delta is different from what you have, you just manually adjust for it by (current price - reference price) * number of residual deltas. This adjustment is added to the "fair value" of the option you are looking to quote. So you price up the option (changing the underlying price to the reference rate), adjust that price by any residual deltas, and you quote around that price. The reason they quote it tied up is they don't want to have to constantly ask you to re-price the option every time the underlying moves. It also makes a market maker's life easy because they don't have to immediately go into the market and hedge the delta on their own. It could also make the other side's life easy if they are looking to trade vol itself, and not the underlying. May I ask what market you are looking at?
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