Options delta is one of the most important factors in making up an options contract. It is a member of the Greeks. Delta measures the rate of change in an options price per $1 move. Example: if an option contract has a delta of $0.35 and the price of the stock rises by $1 then the options contract would increase by $0.35. If the price of the stock decreases by $1 then it would lose $0.35.
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What Is Options Delta?
Option delta is the most commonly used aspect of the Greeks because it’s the easiest to understand. It measures the rate of change in an option price. To be specific, the delta of a stock option tells us how much an option price would increase by when the stock moves by $1.
O.D. is a part of what affects an options profit and loss. Delta makes up part of the Greeks in options trading. The Greeks are a part of the many moving parts that make up options. Options trading techniques give you the right but not the obligation to buy (call) or sell (put) a stock a specified price (strike). One options contract controls 100 shares. In essence, it’s less expensive to trade options. Hence the appeal.
However, there are many more moving parts that make up options. As a result, options trading is seen as more risky than trading shares.
It’s important to remember that there are three other Greeks that also work together as well as affect one another.
Time decay is one of the most important aspects of options trading. Options have expiration dates. As a result, they’re wasting assets because their value declines over time.
The value of options delta is swayed by the time remaining until the expiration date and the strike price relative to the current market price of the stock.
For example, let’s say we’re interested in purchasing a NVDA call that expires in 3 months. The stock is currently trading at $250. Let’s say we’re going to buy an in the money contract with a $235 strike price.
The delta for that strike is 0.69. The price will rise $0.69 for every $1 that NVDA moves from now until expiration. However, if you want to purchase an out of the money contract then the delta is less.For example, if you believe that NVDA will hit $260 in three months, then the delta of that option is 0.46. As a result, it’ll only go up $0.46 for every dollar it moves.
Options Price vs Stock Price
One way to think of O.D. is to liken it to mountain biking. The tires represent the delta and the pedals represent the stock’s price. Make sure to learn how to sell options.
A low delta is like riding your street bike up and down a mountain. You won’t get a lot of traction trying to accelerate to climb up the side of the mountain. You may even ruin your tires doing that.
A high delta option is like using the correct bike. You can get a lot of traction going up and down the mountain. Since the tires are made for the mountain, going down is much easier.
When a delta’s value is closer to 1.0 or -1.0. depending on whether you’re bullish or bearish, you’re provided the highest level of traction. As a result, your price moves more.
Where you buy your option affects delta; i.e. in or out of the money. If you’re looking for the greatest traction, look for an option with a high delta. It’s important to remember that these options are usually more expensive because they tend to expire in the money.
This could be considered a great day trading strategy especially on a stock that makes solid moves throughout the day. Give yourself a lot of time value and a high delta. You’re more apt to make money that way.
Being In the Money
One of the most common uses for delta is to determine the likelihood of an option being in the money when it expires. For example, if an out of the money delta of an option is 0.15 then it has 15% chance of expiring in the money.
However, if you’re looking at a deep in the money options contract with a delta of 0.92 then you have a 92% chance of your option expiring in the money.
The higher the delta, the higher the risk and reward. The lower the delta, the lower the risk although you can still have a high reward. It’s all about how much time you give yourself.
80% of options expire worthless because they tend to be out of the money. Out of the money options are cheaper than being in the money. However, being in the money gives you a cushion.
What is Gamma and Delta in Options?
Options delta measures the rate of change in the price of an option contract. Gamma measures the rate of change in an options delta per a 1 point move in the underlying security.
Using Delta for Direction
You can use delta to determine direction and the risk associated with it. Positive deltas are considered long whereas negative deltas are considered short. You can decide if you’re long vs short.
Neutral deltas are neutral, meaning the market is probably trading sideways at the moment. There are options strategies, iron condors, that profit in a sideways market.
In other words, you want the delta to be positive if you’re bullish and negative if you’re bearish on a play.
Bottom Line
Delta is used to determine how an options price will react to changes in a stock’s price. This can be useful in finding the probability of a stock expiring in the money. Since 80% of options expire worthless this can be a great tool to see which strike price would benefit the most when a stock moves.
If you need more help, take our options trading course.
