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Understanding the Basics of Options Trading: A Beginner’s GuideTechniques To Manage Risk & Preserve Capital

Darren Krett

Friday 15 December 2023

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Options Greeks Demystified

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Options Greeks Demystified

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If you aren't using options Greeks, it may help to understand the purpose of the top Greeks used by options traders. This article gives you an overview of how these measurements can help you determine the profitability of options you want to add to your portfolio.

What Are Options Greeks, Anyway?

Options Greeks describe measures that traders use to evaluate various factors affecting options contracts. Four main Greeks are discussed in this post:

  • Delta evaluates the price change of an underlying asset.
  • Gamma calculates the rate of change of delta.
  • Theta focuses on potential change in time remaining.
  • Vega determines the change in volatility.

However, there are additional measures, also identified by letters of the Greek alphabet, that can help you further evaluate various option calls.

Four Main Types of Options Greeks To Know

Often considered the most important measure, delta explores the chance that an option will end up in the money (ITM). It calculates whether the strike price falls below or above the market prices for calls and puts, respectively. Theta shows an expected value for option contract losses that are about to expire. Vega provides insight into whether an option is sensitive to price swings in the underlying asset. If you want to know the rate of change in delta as it relates to the underlying stock, gamma will provide the needed information.

Delta

To determine the rate at which an options price will change, you can refer to the delta calculation. It ranges between -1 and 1 and is usually expressed as a decimal. For example, a 0.5 delta indicates that an offer price will increase by $0.50 for every $1.00 increase in the underlying asset price. A negative delta indicates a loss of value based on the underlying asset or stock. Options traders use delta to project the magnitude of an options price moving up and down as it relates to the underlying asset.

Gamma

To add a layer of analysis to the delta calculation, you'll need to measure gamma. Like delta, it’s expressed as a decimal with a range of -1 to 1. Gamma in the positive range indicates a specific option is more sensitive to underlying asset volatility. A negative gamma indicates a decreasing delta, indicating that the option is less sensitive to underlying stock changes.

Theta

If you want to measure an options price sensitivity to time, consider Theta. Expressed as a negative decimal, this measure indicates how an option’s price has decreased over time. As the expiration date approaches, a high Theta indicates extreme sensitivity to time decay.

Theta is an important factor if you deal with short-term options. As an option’s time value diminishes, it can lead to a price decline. In other words, out of the money options will have more sensitivity to time decay.

Vega

Vega is useful for traders looking for insight into how an options price corresponds to volatility. Implied volatility represents potential volatility based on market expectations of changes in the price of the underlying asset.

Expressed as a positive decimal, Vega indicates an options price will increase if volatility increases. At the same time, the option price will decrease if volatility decreases. This measure is useful for traders who want to gauge the impact of volatility adjustments on an option contract’s potential price.

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Leviathan Financial Management was founded by experienced traders with 90 years of combined experience. Contact us today to find out how our backtesting option strategies and options trading software can help you develop the best options strategy and make profit!

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