7. The Option Greeks - Delta

Summary

In this video, Karthik Rangappa explains the concept of delta in options trading, focusing on how it measures the change in an option's premium relative to the price movement of the underlying asset. He covers the key aspects of delta, including its range for call and put options, how it can be used to estimate the probability of an option expiring in the money, and how to identify delta for different options. The video also demonstrates how to use delta in practical examples, providing valuable insights for traders to assess potential gains or losses and manage risk in their options strategies.

Takeaways

• 😀 The delta of an option is the rate of change of an option's premium relative to the underlying asset's price movement.
• 😀 Delta ranges from 0 to 1 for call options, and from -1 to 0 for put options, indicating the sensitivity of the option's premium to changes in the underlying price.
• 😀 The delta of a call option increases as the underlying price moves closer to or becomes in the money, while a put option's delta becomes less negative as it moves in the money.
• 😀 Delta helps estimate how much an option's premium will change based on a specific change in the underlying asset's price.
• 😀 For example, if a call option has a delta of 0.15, for every 1-point change in the underlying, the premium of the call option will change by 0.15 points.
• 😀 A trader can use delta to estimate a new option premium given a forecasted price change of the underlying asset.
• 😀 To calculate the expected change in an option premium, multiply the expected price change of the underlying by the option's delta.
• 😀 The delta of an option can be approximated based on whether the option is in the money, at the money, or out of the money.
• 😀 Call options that are out of the money generally have delta values ranging from 0 to 0.5, while in-the-money call options have delta values closer to 1.
• 😀 For options sellers, choosing options with a delta of 0.5 or lower increases the likelihood of the option expiring out of the money, offering a better chance to retain the premium.
• 😀 Delta also serves as a proxy for the probability of an option expiring in the money, with higher delta values indicating a higher probability of success for the option holder.
• 😀 A delta neutral position occurs when the combined delta of multiple options in a portfolio equals zero, which means the portfolio's value is not impacted by changes in the underlying asset's price.

Q & A

What is Delta in options trading?

Delta is the rate of change in an option's premium in relation to a one-point change in the price of the underlying asset. It helps traders predict how much an option's premium will change based on movements in the price of the underlying asset.

How does Delta affect call options?

For call options, Delta ranges from 0 to 1. As the price of the underlying asset increases, the premium of the call option also increases. A higher Delta means a larger change in the option's premium with a small change in the underlying asset's price.

What is the Delta range for put options?

For put options, Delta ranges from -1 to 0. As the price of the underlying asset decreases, the premium of the put option increases. A higher negative Delta indicates a larger change in premium as the underlying price falls.

How do you calculate the change in an option's premium using Delta?

To calculate the change in an option's premium, multiply the Delta by the expected change in the price of the underlying asset. For example, if the Delta is 0.2 and the underlying asset moves by 10 points, the option premium will change by 2 points (10 × 0.2).

Can you use Delta to estimate the probability of an option expiring in the money?

Yes, Delta can be used as an estimate of the probability of an option expiring in the money. For example, a Delta of 0.2 indicates a 20% chance that the option will expire in the money, while a Delta of 0.8 suggests an 80% chance.

What is a Delta-neutral position in options trading?

A Delta-neutral position occurs when the sum of the Deltas of all options in a portfolio equals zero. For example, having a long call option with a Delta of +0.5 and a long put option with a Delta of -0.5 results in a Delta-neutral position, meaning the portfolio's value is unaffected by changes in the price of the underlying asset.

What is the relationship between Delta and the moneyness of an option?

Delta varies depending on the moneyness of the option. For call options, out-of-the-money calls have a Delta between 0 and 0.5, at-the-money calls have a Delta of 0.5, and in-the-money calls have a Delta between 0.5 and 1. For put options, out-of-the-money puts have a Delta between -0.5 and 0, at-the-money puts have a Delta of -0.5, and in-the-money puts have a Delta between -0.5 and -1.

How can a trader use Delta to select options for selling?

Traders selling options typically prefer options with low Delta values (around 0.5 or lower) because these options have a higher probability of expiring out of the money, reducing the risk of the option being exercised and allowing the seller to keep the premium.

Why does the Delta of an option change as the underlying asset moves?

Delta changes because the likelihood of the option expiring in the money changes with the price movement of the underlying asset. As the asset moves closer to the option's strike price, the Delta adjusts to reflect the increased or decreased probability of the option expiring in the money.

How can a trader estimate the new premium of an option after a change in the underlying asset's price?

A trader can estimate the new premium by calculating the change in premium based on Delta. For example, if the Delta of a call option is 0.2 and the underlying price increases by 10 points, the premium will increase by 2 points (10 × 0.2). The new premium is the old premium plus this change.