The options trading boom shows little sign of fizzling out. Average daily volumes of cleared options are more than double pre-pandemic levels, and continue to rise, according to data from the Options Clearing Corp.
When bets go sour, dealers are sometimes forced to liquidate options portfolios. This process can result in slippage and additional losses due to lack of liquidity. So, firms often hold a liquidity add-on component to the margin or capital requirement, which is meant to cover the risk of such losses.
Working out the add-on is hard enough for cash equity portfolios. It’s even harder for options.\
I proposed a new model for estimating the liquidation cost of options that uses open interest and volume data to account for the way that dealers adjust their quotes during periods of market stress
The article was published in Risk.Net in Feb 2023 and can be found here:
https://www.risk.net/comment/7956003/options-liquidation-can-be-costly-how-costly
However, if you don’t have access to Risk.net, you can view the article here