The Greeks are the five metrics that measure the risk of an options position. When you trade options, it is important to understand how each Greek option affects your trade so that you can make smarter decisions at every step of the way. But, what are Option Greeks exactly and how can you use them to make a profit on your portfolio? Let’s find out!
What Are Option Greeks?
Option Greeks are measures of the sensitivity of options prices for some particular variables. There are five types of Option Greeks, namely Delta, Gamma, Theta, Vega, and Rho. Each of them shows how much the price of an option moves in response to a change in one of the variables on which it depends. Let’s read about each of them in detail below.
How to make a trade using different option Greeks
What is the meaning of each type of Option Greek? How can you use them for an effective trade on an options trading app? Read on.
Delta is the amount by which an option price changes in response to a unit change in the underlying asset’s price. The delta for call options increases with time until expiration and decreases thereafter, whereas put options exhibit an opposite trend. You can make use of delta to understand the price trajectory of your options holding, basis the price movement in the underlying asset.
It is the second derivative of delta. That means it represents how rapidly your position will change as the price changes. In other words, gamma is the rate of change of delta. If you have a long call option, your delta will move in the same direction as an increase in price. Similarly, If you have a short put option, your delta will move in the opposite direction as an increase in price.
Theta is the minimum possible loss in value of an option over a day. It measures how much a call or put can decrease in price as time passes. Theta is also known as “time decay” because it implies that the longer you hold a position, the more it will lose its value. You can calculate theta by dividing the amount of premium on your option by the change in time until expiration, and accordingly make changes to your portfolio, if required.
Vega is the amount by which an option value will change as volatility increases by one percent. It is measured in percentage points, so if an asset experiences a 1% increase in volatility on any given day, its price could potentially rise or fall by 1%.
Rho is a measure of the change in an option’s price due to an increase in the interest rates by 1%. It is positive for long call options as with an increase in the interest rate, the call premiums rise. Similarly, it is negative for long put options as the put premium falls when the interest rates experience a jump.
Greeks are indicators that can provide you with a timely signal for the risk involved with your options holding. Whenever you are trading on an options trading platform, it is wise to keep a check on these metrics as they can help you enter and exit positions on time.
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