WHAT IS OPTION GREEKS ?

May 18, 2022

BANKNIFTY
Introduction
Option trading is an exciting process and almost every market participant has at least experienced the thrill of trading options, almost all the time with unsatisfactory results.
To avoid such accidents an option trader seeks different tools to trade sucssessfully,
The most important of tools are the Option Greeks and they are usually the first metric looked upon by option traders.


What are Option Greeks?
Options are derivatives of underlying assets ( curd is a derivative of milk, so the change in the quality of milk will result in a change in the quality of the curd derived ) similarly, Greeks are a way to measure the sensitivity of the price of the option to various factors.
The price of the option premium does not always move in conjunction with the price of the underlying asset and it is important to understand the different factors that affect the change in the price of the premium. With the help of the option greeks, a trader will be able to measure the rate of change of different factors affecting the option premium.

#You can check the option greeks by using zerodha option chain or any other trading platform


What is DELTA?
The first Greek is Delta, which quantifies how much an option's price is projected to fluctuate for every $1 that the underlying securities or index changes in price.
For example,A Delta of 0.50 indicates that the option's price will fluctuate 50 point for every 100 point movement in the price of the underlying stock or index.

#Delta for call option ranges between 0 to 1 and for put option ranges between -1 to 0.
>ATM options have a delta of 0.5
>ITM option have a delta of close to 1
>OTM options have a delta of close to 0.
Delta = Change in option premium/ Unit change in the price of the underlying asset.


#The following example should help you understand this better –

Nifty is currently trading at 16000
Option Strike = 15900 Call Option
Premium = 150
Delta of the option = + 0.60
Nifty is expected to reach 16200

What is the likely option premium value at 16200 ?

Well, this is fairly easy to calculate. We know the Delta of the option is 0.60, which means for every 1 point change in the underlying the premium is expected to
change by 0.60 points.

We are expecting the underlying to change by 200 points (16200 – 16000), hence the premium is supposed to increase by
= 200*0.60
= 120
the new option premium is expected to trade around 150 + 120 = 270

What ia gamma?
Gamma is used to measure the delta’s change relative to the changes in the price of the underlying asset.
If the price of the underlying asset increases by 1point, the option’s delta will change by the gamma amount.
The gamma value will also range between 0 and 1.

Gamma = Change in an options delta / Unit change in the price of the underlying asset.

What is Theta?
The Theta or time decay factor is the rate at which an option loses value as time passes. Theta is expressed in points lost per day when all other conditions remain the same.
theta is always shown as negative number because option value is depriciating as the time is passing.
Theta is the biggest enemy of option buyer cause it reduces the favourable outcome of option buyer by depriciating the option price.
for example,A Theta of -15 indicates that the option premium will lose -15 points for every day that passes by.
if an option is trading at Rs.290/- with a theta of -15 then it will trade at Rs.275/- the following day when other factors remain constant.
Theta = Change in an option premium / Change in time to expiry.

This is the graph of how premium erodes as a time to expiry approaches. This is also called the ‘Time Decay’ graph.

What is Vega ?
It is intended to tell you how much an option’s price should move when the volatility of the underlying security or index increases or decreases. It is the change of an option premium for a given change (typically 1%) in the underlying volatility.
1. Vega measures how the implied volatility (IV) of a stock affects the price of the options on that stock.
2. Volatility is one of the most important factors affecting the value of options.
3.A drop in Vega will typically cause both calls and puts to lose value.
4. An increase in Vega will typically cause both calls and puts to gain value.

Vega = Change in an option premium / Change in volatility.


What can option Greeks do for you?
1.Help you measure the possibility that an option will expire in the money (Delta).

2.Estimate how much the Delta will change when the stock price changes (Gamma).

3.Get a feel for how much value your option might lose each day as it approaches expiration (Theta).

4.Understand how sensitive an option might be to large price swings in the underlying stock (Vega).

“With the help of Greeks, an options trader can make more analyzed decisions about which options to trade, which strike price to trade and when to trade.
Since there are a variety of market factors that can affect the price of an option in some way, assuming all other factors remain unchanged,
we can use Greeks and determine the impact of each factor when its value changes.”


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Happy Trading!

Dec 23, 2022

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