Like many preschoolers, I feared the monster under the bed when I was young. I didn't dare let a hand or a foot drape over the edge of the bed. One of my earliest memories, however, was the time that the monster appeared at the foot of my bed, under the covers. I must have been about two or three. Every time I tried to pull my feet away from where that monster lurked, the monster moved closer.
It took my two- or three-year-old self a few moments to figure out the reason that the monster moved closer each time I moved my feet. What I was seeing was my feet. Rather, it was the tented shape my flexed-at-the-ankles, toes-pulled-up feet made under the covers.
I was creating my own monster. A recent experience in the markets reminded me of that early experience. During a run-up in the markets, a bear call credit spread had widened. I didn't want it to keep widening. I wanted it to narrow. A widening spread meant that my unrealized loss widened.
That bear call spread had originally been part of an iron condor. The necessity to close out the bull put portion on the flash-crash day meant that I had to be careful not to let the call spread widen too much, or I'd be looking at my maximum loss. I'd been managing the price-based risk by buying back some of my sold calls. On that day, I was left with 48 sold SPX JUN10 1255 calls and 60 long SPX JUN10 1265 calls. The market had run up to a potential resistance level, and I had decided to sell those 12 extra calls and use the money collected to purchase a closer-in long call position that would better hold its delta values.
I decided to sell them off 6 at a time so that I wouldn't change the portfolio Greeks too much at a time, and in case the SPX continued higher, I could collect more money for the second batch. But, to my horror, when I glanced at the profit-loss or risk-analysis chart I was using just after I'd placed my as-yet-to-be-filled order, my call spread's value had widened even further. The unrealized loss had widened abruptly as a result. Now I needed those extra longs right where they were to hedge the delta risk and make the "today" graph look better.
I took off my trade. The next time I looked at the profit/loss graph and the position Greeks, everything had calmed down again. It would have been okay to sell those calls. That's when it hit me. The monster I had just spotted was my own order. My profit/loss graphs are set to use mid-price levels for all calculations, and my order had created a new "ask" value. That changed the mid-price level, too, making it look as if my long calls were suddenly less valuable than they had been.
Previous to my order, the SPX JUN10 1265 calls had a bid of $0.20 and an ask of $0.80, with a midpoint of $0.50. I put my order in to sell them for $0.50. That then became the best ask, so the bid and ask values were then $0.20 and $0.50, respectively. The mid price lowered from its previous $0.50 to $0.35. As a result the theoretical mid price of the SPX JUN10 1255/1265 call spread widened by $0.15 more than its previous level. With 48 contracts of those spreads, the theoretical unrealized loss of the total position widened by $720.00, throwing the charts off and making it look as if my unrealized loss had suddenly increased. In addition, my 12 unmatched long calls now looked as if they were worth less. I had created a straddle-like position that theoretically couldn't have reached my maximum loss that day, but now the profit-loss chart showed me that, theoretically, I was at maximum loss.
When I pulled my order, the bid and ask widened to their previous level and the chart rearranged itself.
In highly liquid options, you may not see the effects of your orders. If I'd been placing an order for an ATM SPX option that was quickly filled, I'd probably never have seen the blip that my own order caused. However, when I was dealing with an OTM option and I was trying to get a good price, so setting it at the mid-price to see if it filled there, my order was hanging around long enough for me to see the effects of that order.
Of course I've long known that my own orders could change bid and ask values, depending on how liquid the underlying, for as long as that order was hanging out there, unfilled. If my bid happens to be the best bid or my ask the best ask, it will show up, even if it were for only 1 contract. I knew that the same way that I knew back when I was two or three that I had feet and that when I was lying flat on the bed, my feet made bumps under the covers. However, we may not always be cognizant of the way a little order hanging out there somewhere can change the shape of a profit-loss or risk-analysis graph we're studying. We may over-adjust our position if we adjust every time there's a little blip in those charts.
What can you do? You can realize what might be afoot (pun intended). If you're on one of the brokerages that shows market depth, you can check the depth for that bid or ask and see if it's your order or someone else's puny order that's likely only momentarily distorting things.
I remember listening to a seminar on trading psychology in which the speaker advised that we wait for at least the candle or bar by which we make our trading decisions to complete before we react to a new market development. We can't always do that, but if you knew the shape of your risk analysis chart or the position Greeks just a few moments before, and you see a drastic change, you might give yourself time to investigate before you react. Ask yourself if the volatilities have been trending one direction or another, and if that could be the cause of the change you're seeing if your position is strongly impacted by volatility changes. Prepare for such situations by making sure that you know how to check market depth on your online brokerage.
I was once terrorized by my own feet under the covers, and I pulled an order because my own footprint in the options market changed the shape of a profit-loss graph. I guess some things you just have to keep learning over and over.