Session 7

Webinar - 7
Options 360
Content
• Option Greeks (Delta, Theta, Gamma, Vega, Rho)

• Option chain analysis. (Price and Open Interest)
• Put-Call ratio (PCR)
• Max pain theory
• Strike Adjustments
Option Greeks
1. Delta – Measures the rate of change of options premium based on the
directional movement of the underlying.
2. Theta – Measures the impact on premium based on time left for expiry
3. Gamma – Rate of change of delta itself
4. Vega – Rate of change of premium based on change in volatility
5. Rho –Rate of change of premium based on change in the risk-free rate of
interest.
Delta
• Delta is the amount an option price is expected to move based on a 1 point
change in the underlying stock.
• The delta is a number which varies between 0 and 1 (0 to 100) for a call option and
between -1 and 0 (-100 to 0) for a put option.
• ITM option have a delta of close to 1, OTM options have a delta of close to 0.
• The Delta changes as and when the spot value changes as the option transitions from
OTM to ATM to ITM, so does the delta.
• Delta hits a value of 0.5 for ATM options.
• You can use the Delta to gauge the probability of the option contract to expire in
the money.
Gamma (Rate of change of Delta)
• The option's gamma is a measure of the rate of change of its delta.
• Gamma is the rate that delta will change based on a 1 point change in the stock price. So if
delta is the “speed” at which option prices change, you can think of gamma as the
“acceleration.”
• If you’re an option buyer, high gamma is good as long as your forecast is correct.
• If you’re an option seller and your forecast is incorrect, high gamma is the enemy.
• The gamma peaks when the option hits ATM status. This implies that the rate of change of
delta is highest when the option is ATM. In other words, ATM options are most sensitive to
the changes in the underlying
• Gamma is low in case of OTM and ITM options,
Nifty Spot = 8326
o Strike = 8400
o Option type = CE
o Moneyness of Option = Slightly OTM
o Premium = Rs.26/-
o Delta = 0.3
o Gamma = 0.0025
o Change in Spot = 70 points
o New Spot price = 8326 + 70 = 8396
o New Premium =??
o New Delta =??
o New moneyness =??
Let’s figure this out –
o Change in Premium = Delta * change in spot i.e 0.3 * 70 = 21
o New premium = 21 + 26 = 47
o Rate of change of delta = 0.0025 units for every 1 point change in underlying
o Change in delta = Gamma * Change in underlying i.e 0.0025*70 = 0.175
o New Delta = Old Delta + Change in Delta i.e 0.3 + 0.175 = 0.475
Theta (Time Decay)
• Theta is a measure of the rate of decline in the value of an option due to the passage
of time. It can also be referred to as an option's time decay.
• Time decay, or theta, is enemy number one for the option buyer. On the other hand,
it’s usually the option seller’s best friend
• If all other variables are constant, and option will lose value as time draws closer to
its maturity.
• Theta, usually expressed as a negative number, indicates how much the option's
value will decline every day up to maturity
• Theta decay speed increased as we go near to expiry, and on expiry day time theta
become zero.
Vega (Volatility)
• The option's Vega is a measure of the impact of changes in the underlying volatility
on the option price.
• Specifically, the Vega of an option expresses the change in the price of the option for
every 1% change in underlying volatility.
• Whenever volatility goes up, the price of the option goes up and when volatility drops,
the price of the option will also fall.
• The more time remaining to option expiration, the higher the Vega.
• Vega does not have any effect on the intrinsic value of options; it only affects the
“time value” of an option’s price.
• Vega is the sensitivity of a particular option to changes in implied volatility.
India Vix
• NSE computes India VIX based on the order book of Nifty Options
• The best bid-ask rates for near month and next-month Nifty options contracts are used for
computation of India VIX
• India VIX indicates the investor’s perception of the market’s volatility in the near term (next 30
calendar days)
• Higher the India VIX values, higher the expected volatility and vice-versa
• When the markets are highly volatile, market tends to move steeply and during such time the
volatility index tends to rise
• Volatility index declines when the markets become less volatile. Volatility indices such as India
VIX are sometimes also referred to as the ‘Fear Index’, because as the volatility index rises, one
should become careful, as the markets can move steeply into any direction. Investors use
volatility indices to gauge the market volatility and make their investment decisions
Put-Call Ratio (PCR)
• The put-call ratio is a measurement that is widely used by traders to gauge the
overall mood of a market.
• One way to calculate PCR is by dividing the number of open interest in a Put contract
by the number of open interest in Call option at the same strike price and expiry date
on any given day.
• It can also be calculated by dividing put trading volume by call trading volume on a
given day.
• If PCR is above 1 it means that there are more Put buyers in market and market can
go down now.
• If PCR is below 1 it means that there are more Call buyers in market and market can
go up now.
PCR
• PCR is called a contrarian indicator.
• If the PCR value is above 1, say 1.3 – then it suggests that there are more Puts being
bought compared to Calls. This suggests that the markets have turned extremely
bearish, and therefore sort of oversold. One can look for reversals and expect the
markets to go up.
• Low PCR values such as 0.5 and below indicates that there are more calls being
bought compared to puts. This suggests that the markets have turned extremely
bullish, and therefore sort of overbought. Once can look for reversals and expect the
markets to go down.
Max Pain Theory
• Max pain is the point where option owners (buyers) feel "maximum pain," or will
stand to lose the most money. Option sellers, on the other hand, may stand to reap
the most rewards.
• Max pain, or the max pain price, is the strike price with the most open
contract puts and calls - and the price at which the stock would cause financial losses
for the largest number of option holders at expiration.
• Max pain is a simple but time consuming calculation. Essentially, it is the sum of the
outstanding put and call Rupee value of each in-the-money strike price.
• The Maximum Pain theory states that an option's price will gravitate towards a max
pain price, in some cases equal to the strike price for an option, that causes the
maximum number of options to expire worthless.
Option Chain Analysis
• Call Price increasing + Call OI Increasing = Call Long Buildup – Bullish indication.
• Call Price decreasing + Call OI Increasing = Call Short Buildup – Bearish indication.
• Put Price increasing + Put OI increasing = Put Long Buildup – Bearish indication.
• Put Price decreasing + Put OI Increasing = Put Short Buildup – Bullish indication.
• Call Price increasing + Call OI decreasing = Call Shorts exiting – Bullish indication.
• Call price decreasing + Call OI decreasing = Call longs exiting – Bearish Indication.
• Put Price increasing + Put OI reducing = Put Shorts exiting – Bearish indication.
• Put Price decreasing + Put OI reducing = Put longs exiting – bullish indication
Thank You
Options 360

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Webinar - 7

• Option Greeks (Delta, Theta, Gamma, Vega, Rho)

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