Lecture on Options and the Greeks

Introduction

• Speaker: Brian Overby
• Position: Senior Options Analyst at Ally Invest
• Author: Options Playbook
• Focus: Understanding the Greeks for strategy selection, not as a market maker
• Disclaimer:
  • Not financial recommendations
  • Potential for entire loss in options trading
  • Review risks and characteristics at Ally website

The Greeks Overview

• Purpose: Understand how price of option contracts change with different variables
• Key Variables:
  • Price of the stock
  • Risk-free interest rate
  • Rate of return of volatility
  • Time to expiration
• Greek Letters:
  • Delta
  • Gamma
  • Theta
  • Vega

Delta

• Definition: Change in the option's price for a one-point change in the stock price
• Dynamic Nature:
  • Delta increases as options become in-the-money
  • Delta decreases as options become out-of-the-money
• Rule of Thumb:
  • At-the-money options typically have a Delta of around 50
• Non-textbook Definition: Probability of option being in-the-money at expiration
• Practical Example:
  • Option's Delta is 50 when stock and strike are equal
  • Delta increases with stock price

Gamma

• Definition: Rate of change of Delta for a one-point change in the stock price
• Characteristics:
  • Highest for near-term at-the-money strikes
  • Smaller as options become deeper in-the-money or further out-of-the-money

Theta

• Definition: Change in the option's price for a one-day change in time to expiration
• Nature:
  • Accelerates as expiration approaches
  • Significant in short-term, at-the-money options

Strategy Selection Using The Greeks

Case Study: Amazon

• Strategy: Skip Strike Butterfly
• Rationale:
  • High-priced stock
  • Significant time decay post-earnings
  • Use of Greeks to maximize profit potential
• Structure:
  • Buy a lower strike call
  • Sell two higher strike calls
  • Buy a highest strike call, skipping one strike in between
• Profitability: Gain if the stock moves to the expected range after earnings

Case Study: Apple

• Strategy: Diagonal Spread
• Rationale:
  • Capture volatility increase in back month
  • Utilize short-term decay of front month
• Structure:
  • Buy longer-term option containing earnings
  • Sell shorter-term option without earnings

Conclusion

• Emphasis on using the Greeks to guide strategy
• Consideration of time decay and volatility in trade selection
• Importance of understanding how Delta and Gamma influence option behaviors

Additional Information

• Contact Information:
  • Email for slides: theoptionsguy@invest.com
  • Social Media: Follow on Twitter and Facebook

Note: Logistical errors in slides were acknowledged and adjusted during discussion.