Q: Cash-based or Future-based?
A: Cash based - this means our option do not have any physical entity underlying to option contract. When this type of option is exercised or assigned, the settlement is done with cash only.
Q: European or American Exercise?
A: European exercise - this means that the option may only be exercised on it’s expiration day. This is different than American exercise options, where the options may be exercised at any time.
The expiration date for all listed stock options in the U.S. is the third Friday of the expiration month.
So as long as the S&P does not move up 8+ points tomorrow, our Oct options will expire worthless and the portfolio’s realized gains will increase by $1090.
Looking forward, our Nov position is still very much at risk. We will take a minor loss if the S&P index advances beyond 1375; a major loss if it advances beyond 1400.
Next week we will also decide if we will establish a Dec position. Option premiums are very low right now because volatility is low. volatility is low because the market, for the most part, has been moving in one direction, up. So it may be difficult to find positions that offer enough reward to justify the risk.
Effective concurrently with the October 2006 expiration, the threshold for automatic exercise and assignment of option contracts is reduced to $.05. This is a reduction from the previous threshold of $.25.
In other words, options that are in-the-money at 4:00 p.m. EST on the Friday preceding monthly expiration by an amount equal to or greater that $.05 will be exercised automatically. For example, if a customer has an account which contains a long equity option position which is in-the-money by at least $.05, the position will be automatically exercised. Conversely, if a customer has an account which contains a short equity option position which is in-the-money by at least $.05, the position is likely to be automatically assigned by the options Clearing Corporation (”OCC”).
This change in option expiration exercise procedures was put into effect by the OCC with the approval of the Securities & Exchange Commission and is standard practice throughout the industry.
theta is the measure of how much an option’s price decays for each day of time that passes.
That means if the S&P index is at 1300, our theta is +80, and the market traded flat and closed at 1300, we would have made $80 for the day.
delta is the amount by which an option’s price will change for a corresponding one point change in price by the underlying entity…. (I don’t want to get too technical).
Basically delta will help us know if we want our underlying, the S&P index, to go up or down. If our delta is +30, then it’s as if we owned 30 shares of the S&P so we would want the S&P to move up. Conversely, if our delta is negative, then we would profit from the index moving downwards.
Back to the example where our delta is at +30, we know we want the S&P index to move up. But what happens when it does move up? Well, our delta will decrease. Eventually it will reach an optimal point where our delta will be 0.
Ideally we want our delta to be zero, delta neutral. At this point our unrealized profit is at its maximum and our risk is at a minimum.
An option is the right to buy or sell an underlying for a limited period of time.
- a stock option is the right to buy or sell a stock for a limited period of time.
- an index option is the right to buy or sell an index (like the S&P500) for a limited period of time
There are thousands of stocks and indexes to pick from and they all exhibit their own unique characteristic, such as risk, reward, volatility, etc….
Since this site aims to educate and show results, we will keep things simple our two option variables constant. Our first variable, the underlying, will be the S&P 500 Index Option. The second variable, time period, will be approximately 2 month out (So in June we are considering the different option contracts of August).
The other two other option specifications, type and striking price, were covered in a previous post.
If you want to make a fortune trading stocks and options online, you will need to have a good understanding of volatility.
volatility - measures the amount the underlying is expected to flectuate in a given period of time.
So, high volatility means the price of the underlying stock or option can change dramatically in either direction in a short amount of time. Low volatility means the change in price is not dramatic in a short amount of time.
If you are buying options, you usually want to buy when the volatility is low. This is because the option is cheaper when the volatility is low. Even if the price of the underlying doesn’t move and the volatility suddenly increases, the price of the option will go up. In fact you can even trade volatility by trading the symbol VIX.
If you are selling options, the opposite is true. You want to sell the option when volatility is high so you can sell a higher price.
options usually come with four specifications:
- underlying stock name
- expiration date
- striking price
- call or put
Here is an option position I recently sold and blogged:
Option Trading Mathematics
We entered an Index Option position today.
1175/1200 - 1375/1400 x2
Max option trading reward : $456 if 1200 - 1375 (83.41%)
- underlying stock/index name
- not included because we only trade one underlying (S&P 500)
- expiration date
- This is the October option which expire on Oct 20th
- striking price
- 1175/1200 - 1375/1400 x2. There are 4 striking prices and the x2 means 2 contracts of each.
- call or put
- the lower two numbers are put options and the two higher numbers are call options. In this case 1175/1200 are puts options and 1375/1400 are call options.
- additionally 1200 and 1375 were sold. 1200 sold for $4 and 1375 sold for $1.6. What this means is if the S&P 500 index stays between 1200 and 1375 by Oct 20th, we would make $5.6×100 sharesx2 contracts = $1120.
- 1175 and 1400 were bought for protection. This helps limit the maximum option trading risk . We paid $2.6 for the 1175 and $.7 for the 1400 for a total of $3.3×100 shares x2 contracts = $660.
- $1120 - $660 = $460
NAV stands for Net Asset Value. The market value of all securities owned by a entity, minus its total liabilities, divided by the number of shares issued.
The graph on the side bar is a graph of the NAV, which help us track our online option trading strategy’s performance.
When I started to test this Option Trading Strategy on 6/1/2005, the initial NAV was set at $10.00. So if the currant NAV is at $11.80 that means every $10 invested then would now be worth $11.80. $10000 invested would be worth $11800.
Option Trading and Texas Hold’em Poker are similar because both are games of risk and reward. If you know how to accurately assess these two factors, you can make money regardless if you are playing Texas Hold’em Poker or Trading options. Our Option Trading System helps you define and limit your risk while creating a large range for “maximum reward”!
Proven winning Texas Hold’em poker concepts are being applied to Index Option Trading. The Poker Option Trading Strategy Blog tracks my trades and performance. We are off to a good start but the strategy is still in TEST MODE. Once the strategy becomes a ‘proven winning strategy’, we will look into adding more tools (newsletters, alerts, forums) to help you profit and build wealth.
