April 4, 2011 10:38 pm

Option Greeks

 
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Greek letters are often used to represent data in mathematical equations. There are mathematical equations used to give investors detailed information about the projected behavior of a specific option. The option greeks are used to signify various information about options that is obtained through mathematical formulas.

Some investors may feel intimidated by the thought of having to solve equations to learn about an option, but many options calculators give the option greek values. Many option calculators are available for free on the Internet.

It’s not uncommon for investors to feel that they do not need to know what the option greek values mean. However, many investors appreciate using the available tools like the greeks and making informed decisions about their investments.

While some may not see the value in them, the options greeks can help an investor predict an option’s price change, volatility, and time value decay. Options trading strategies often make use of the options greeks.

People who build option strategies use the greeks in mathematical models about options behavior. Investors in options do not need to know how to construct complicated strategies, but knowing the basics about greeks can allow an investor to see the risks and rewards for potential investments.

If the investor inputs some of the information about a particular option, the option calculator provides the summary of the information about the option’s volatility and options greeks. Many experts believe that though knowing how the options greeks are calculated is not necessary, the investor should understand what they mean.

Delta is an option greek that measures how much the value of an option will change depending on the movement of the stock. The value of delta is determined by what would happen to the option’s value if the underlying stock went up or down one dollar in price.

According to TD Ameritrade, many investors mistakenly believe that delta is the probability that an option will expire in the money. The options greek value of delta can be negative one to one.

As the expiration date approaches, options generally become less valuable. Theta is the option greek that estimates how much the value of a option declines as one day passes without a change in the stock price.

Gamma predicts how much the delta changes with the movement of the stock price by one dollar. Therefore, gamma gives an investor the idea of how prone delta is to fluctuations.

The estimate of the changes in value of an option when interest rates move up one percent is represented by the option greek rho. The value of rho is not a popular instrument to use to make options investment decisions.

Vega is not an actual Greek letter but is an option greek. The value of vega predicts how the value of the option changes when the volatility changes one percent.

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