GREEK LETTERS OPTION

What are the Greeks?

Options traders often refer to the delta, gamma, vega, theta and rho
of their option positions. Collectively, these terms are known as the
Greeks, and they provide a way to measure the sensitivity of an
option's price to quantifiable factors.

1 Delta 2 Gamma

3 Vega 4 Theta 5 Rho

1. Delta
Delta is a measure of the
change in an option's price
(that is, the premium of an
option) resulting from a
change in the underlying
security.
Calls have positive delta, between 0 and 1. That means
if the stock price goes up and no other pricing variables
change, the price for the call will go up.
For example, If a call has a delta of .50 and the stock
goes up $1, in theory, the price of the call will go up
about $.50. If the stock goes down $1, in theory, the
price of the call will go down about $.50.
Puts have a negative delta, between 0 and -1. That
means if the stock goes up and no other pricing
variables change, the price of the option will go down.
For example, if a put has a delta of -.50 and the stock
goes up $1, in theory, the price of the put will go down
$.50. If the stock goes down $1, in theory, the price of
the put will go up $.50.
Conversely, call options have a positive relationship with the price of the underlying
asset. If the underlying asset's price rises, so does the call premium provided there are
no changes in other variables such as implied volatility or time remaining until
expiration. If the price of the underlying asset falls, the call premium will also decline
provided all other things remain constant.

For example, suppose that one out-of-the-money option has a Delta of 0.3, and another in-the-
money option has a Delta of 0.70. A $1.00 increase in the price of the underlying asset will lead
to a $0.3 increase in the first option and a $0.70 increase in the second option. Traders looking
for the greatest traction may want to consider high Deltas, although these options tend to be
more expensive in terms of their cost basis since they're likely to expire in-the-money.
An at-the-money option, meaning the option's strike price and the underlying asset's price are
equal, has a Delta value of approximately 50 (0.5 without the decimal shift). That means the
premium will rise or fall by half a point with a one-point move up or down in the underlying
security.
Probability of Being Profitable
Delta is commonly used when determining the likelihood of an option being in-the-money
at expiration. For example, an out-of-the-money call option with a 0.20 Delta has roughly
a 20% chance of being in-the-money at expiration, whereas a deep-in-the-money call
option with a 0.95 Delta has a roughly 95% chance of being in-the-money at expiration.
On a high level, this means traders can use Delta to measure the risk of a given option or
strategy. Higher Deltas may be suitable for high-risk, high-reward strategies with low win
rates while lower Deltas may be ideally suited for low-risk strategies with high win rates.

Delta and Directional Risk

Delta is also used when determining directional risk. Positive Deltas are long (buy) market
assumptions, negative Deltas are short (sell) market assumptions, and neutral Deltas are neutral
market assumptions.
When you buy a call option, you want a positive Delta since the price will increase along with the
underlying asset price. When you buy a put option, you want a negative Delta where the price will
decrease if the underlying asset price increases.
To calculate position Delta of an option

δ=N(d1)
𝑺 𝝈𝟐
𝐥𝐧 𝑲
+ (𝒓+ 𝟐 )𝒕
Where: d1 =
𝝈 𝒕

Legend

K Option strike price

N Standard normal cumulative distribution function

r Risk-free interest rate

σ Volatility of the underlying

S Price of the underlying

t Time to option’s expiry

Three things traders should keep in
mind with Delta:

Delta tends to increase closer to expiration

1. for near or at-the-money options.

Delta is further evaluated by gamma, which is

2. a measure of Delta's rate of change.

Delta can also change in reaction to implied

3. volatility changes.
2. Gamma
Gamma measures the rate
of change in the delta for
each one-point increase in
the underlying asset. It is a
valuable tool in helping you
forecast changes in the delta
of an option or an overall
position.
While Delta changes based on the underlying asset price,
Gamma is a constant that represents the rate of change
of Delta. This makes Gamma useful for determining the
stability of Delta, which can be used to determine the
likelihood of an option reaching the strike price at
expiration.
For example, suppose that two options have the same
Delta value but one option has a high Gamma and one
has a low Gamma. The option with the higher Gamma
will have a higher risk since an unfavorable move in the
underlying asset will have an oversized impact. High
Gamma values mean that the option tends to experience
volatile swings, which is a bad thing for most traders
looking for predictable opportunities.
 Example of Gamma

Suppose a stock is trading at $10 and its option has a delta of 0.5 and a
gamma of 0.1. Then, for every 10 percent move in the stock’s price, the delta
will be adjusted by a corresponding 10 percent. This means that a $1 increase
will mean that the option’s delta will increase to 0.6. Likewise, a 10 percent
decrease will result in corresponding decline in delta to 0.4.
To calculate position Gamma of an option 𝒅𝟏 𝟐
−( +𝒅 × 𝒕 )
𝒆 𝟐
Gamma function = [ 𝑺×𝝈 × 𝟐𝝅×𝒕]

Where,

𝑆 𝜎2
ln + (𝑟+ )𝑡
𝐾 2
d1 =
𝜎 𝑡
d Dividend yield of the asset

t Time to the expiration of the option

S Spot price of the underlying asset

σ Standard deviation of the underlying asset

K Strike price of the underlying asset

r Risk-free rate of return

3. Vega
Vega represents the rate of
change between an option's
value and the underlying
asset's implied volatility. This
is the option's sensitivity to
volatility.
Vega indicates the amount an option's price changes
given a 1% change in implied volatility. For example, an
option with a Vega of 0.10 indicates the option's value
is expected to change by 10 cents if the implied
volatility changes by 1%.
Because increased volatility implies that the underlying
instrument is more likely to experience extreme values,
a rise in volatility will correspondingly increase the
value of an option. Conversely, a decrease in volatility
will negatively affect the value of the option. Vega is at
its maximum for at-the-money options that have longer
times until expiration.
Fomular of Vega
Where:
• ∂ – the first derivative
• V – the option’s price (theoretical value)
• σ – the volatility of the underlying asset

The vega is expressed as a money amount rather than as

a decimal number. An increase in vega generally
corresponds to an increase in the option value (both calls
and puts)

4. Theta
Theta measures the rate of
time decay in the value of an
option or its premium.
Time decay represents the erosion of an option's value or price due
to the passage of time. As time passes, the chance of an option being
profitable or in-the-money lessens. Time decay tends to accelerate as
the expiration date of an option draws closer because there's less
time left to earn a profit from the trade.
Theta is always negative for a single option since time moves in the
same direction. As soon as an option is purchased by a trader, the
clock starts ticking, and the value of the option immediately begins to
diminish until it expires, worthless, at the predefined expiration date.
Theta is good for sellers and bad for buyers. A good way to visualize
it is to imagine an hourglass in which one side is the buyer and the
other is the seller. The buyer must decide whether to exercise the
option before time runs out. But in the meantime, the value is flowing
from the buyer's side to the seller's side of the hourglass. The
movement may not be extremely rapid but it's a continuous loss of
value for the buyer.
Theta values are always negative for long options and will always
have a zero time value at expiration since time only moves in one
direction, and time runs out when an option expires.
Example of Theta
An option premium that has no intrinsic value, or no profit, will decline at an
increasing rate as expiration nears.

Table below shows Theta values at different time intervals for an S&P 500 Dec
at-the-money call option. The strike price is 930.

As you can see, Theta increases as the expiration date gets closer (T+25 is
expiration). At T+19, or six days before expiration, Theta has reached 93.3,
which in this case tells us that the option is now losing $93.30 per day, up from
$45.40 per day at T+0 when the hypothetical trader opened the position.

Table. Theta values for short S&P Dec 930 call option
.
- T+0 T+6 T+13 T+19
Theta 45.4 51.85 65.2 93.3
Theta values appear smooth and linear over the long-term, but the slopes become much steeper
for at-the-money options as the expiration date grows near. The extrinsic value or time value of
the in- and out-of-the-money options is very low near expiration because the likelihood of the
price reaching the strike price is low.

In other words, there's a lower likelihood of earning a profit near expiration as time runs out. At-
the-money options may be more likely to reach these prices and earn a profit, but if they don't,
the extrinsic value must be discounted over a short period.
To calculate position Theta of an option
𝑺×∅(𝒅𝟏)𝝈
𝜽= − - rK𝒆−𝒓𝒕 𝑵(𝒅𝟐)
𝟐 𝒕

Where,
𝑥2
−
𝑒 2
∅ 𝑑1 =
2𝜋

𝑆 𝜎2
ln + 𝑟+ 𝑡
𝐾 2
𝑑1 =
𝜎 𝑡

𝑑2 = 𝑑1 − 𝜎 𝑡

K Option strike price

N Standard normal cumulative distribution function
r Risk-free interest rate
σ Volatility of the underlying
S Price of the underlying
t Time to option’s expire
Some additional points about Theta to consider when trading:

1. Theta can be high for out-of-the-money options if they carry a lot of

implied volatility.

2. Theta is typically highest for at-the-money options since less time is

needed to earn a profit with a price move in the underlying.

3. Theta will increase sharply as time decay accelerates in the last few
weeks before expiration and can severely undermine a long option
holder's position, especially if implied volatility declines at the same time.
5. Rho
Rho (p) represents the rate of change between an
option's value and a 1% change in the interest rate.
This measures sensitivity to the interest rate. Generally,
call options have a positive rho, while the rho for put
options is negative.

For example, assume a call option has a rho of 0.05

and a price of $1.25. If interest rates rise by 1%, the
value of the call option would increase to $1.30, all else
being equal. The opposite is true for put options. Rho is
greatest for at-the-money options with long times until
expiration.
Fomular of Rho

Where:
• ∂ – the first derivative
• V – the option’s price (theoretical value)
• r – interest rate
Thank You
 Our Team
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