The Rookie's Guide to Options; 2nd Edition: The Beginner's Handbook of Trading Equity Options by Mark D Wolfinger

Author:Mark D Wolfinger [Wolfinger, Mark D]
Language: eng
Format: mobi
Publisher: Options for Rookies Books
Published: 2014-09-09T23:00:00+00:00

Calculating the Greeks

The obvious question: how are the Greeks calculated? Luckily, it is not a problem. The calculator used in Chapter 5 to determine the theoretical value of an option does all the work and provides all Greeks discussed in this chapter. Such a calculator can be found at the CBOE website:

www.cboe.com/LearnCenter/ OptionCalculator.aspx.147

When the underlying stock undergoes a significant move, you already know if the position is profitable. It will be very helpful with the hold/close/adjust decision to pay close attention to the Greeks after such a move because it becomes apparent whether the position is now at imminent risk for additional losses.

‘Imminent’ risk differs from ordinary risk. It is one thing to be concerned about losing a given sum when the underlying moves 5% (ordinary risk). However, that is very different from a situation in which an additional 1% move would result in losing much more than you are willing to accept. That threat represents imminent risk and it is wise to take defensive action before that threat becomes reality.

Investors usually think of risk in negative terms—as something that measures potential loss. Risk also plays a role in deciding when to take profits. For example, there will be residual profit potential in a position (such as a credit spread, see Chapter 17), but if you already made 80-90% of the maximum possible profit and there is still one month remaining before the options expire, do give serious consideration to taking that profit. The decision is whether to risk that profit to earn the last 10-20%. When holding a position with little to gain, please recognize the possibility of sacrificing the large[226] profit already in hand.

When buying options (they come with positive gamma), profits come from major market moves and losses occur when time passes and nothing good happens. Use a calculator and the Greeks to estimate potential gains as well as the cost of waiting. Greeks help every option trader get a handle on how much money is likely to be won or lost under various market conditions.

NOTE: You can get along without using Greeks. If you choose that route, you will be flying blind part of the time and have difficulty estimating current risk. You’ll probably survive, but you are at a disadvantage compared with investors who have a better understanding of potential losses. It is worth the effort to learn to use the Greeks to make intelligent trading decisions. Your broker provides the Greeks for every option in your portfolio. That saves time and removes any excuse for ignoring the friendly Greeks.

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