Even More Greeks
In the last two articles I discussed Delta and Gamma, which measure change to an option’s price resulting from a change in the price of the underlying. As listed earlier, the other Greeks measure the option price change due to the passage of time (Theta), and due to changes in implied volatility (Vega). Rho, the littlest Greek, measures the effect of interest rate changes, and is only a minor player.
Delta, Gamma, Theta, Vega – how can we make use of these?
We can use them to estimate how effective a particular position will be at accomplishing what we want it to do. Let’s look at a popular strategy and see how each of the Greeks comes into play.
The first options strategy that many people are exposed to is the Covered Call. In this strategy, the investor (we’ll call him Al ) owns 100 shares of the QQQ ETF, which is currently at $63.80 per share. Al thinks QQQ will be pretty stagnant for a while, so he sells calls at the $65 strike price one month out. Those particular calls (the QQQ December 65 Calls) have these readings for the Greeks:
Delta: .33 Gamma: .14 Theta: -.02 Vega: .07
They are quoted at $.55 bid, $.56 ask. By selling them now, Al collects $55 for one call option contract ($.55 per share times 100 shares per contract). If, when the call expires, QQQ is at or below the strike price of $65, then the calls expire worthless. Al will then keep the stock and the option premium. If the stock is above the strike at expiration, the calls will be exercised by the call buyers. The stock will be “called away” from Al, who will then get paid $65 per share for it, whether the stock is at $65, $165 or $6500.
The reason the position is called a “covered” call is that Al’s obligation to deliver the stock, if need be, is covered, because he owns the stock. He can just give up stock he already owns, and will not have to buy it on the open market. If Al had sold the calls without owning the stock, then his obligation to deliver the stock would not be covered – his position would be uncovered, or naked. He might then end up having to buy the… Continue Reading
