Read Options Symbol
In order to trade a particular option, you might need to look up its symbol. (If you trade with us, we will of course provide you with the exact symbols you require to place a trade). In order to understand how options symbols are structured, we have created a hypothetical example below:
Hypothetical Option Symbol: “ABCDEF”
- Every option symbol consists of three distinct parts, but the six letters it contains are stringed together.
- The first part of an options symbol consists of three letters, which represent the name of the underlying security. For an option based on a stock, it is generally the ticker symbol of the underlying stock. For Nasdaq stocks, it can vary greatly.
- The middle part of an option symbol is comprised of two letters. These represent (a) the expiration month and (b) identify whether it is a put or a call option (see the table below for details).
- To determine what the option symbol is, you need to know that they are broken down into three separate sections. Let’s use an example to explain this.
- The final letter of an option symbol represents the strike price. In our particular example, the letter “F” represents a strike price ending with 30.
Options Open Interest
For a given option, the open interest is the number of open contracts – either puts or calls – that have not been exercised, closed or expired on a particular day. While each open transaction has a buyer and a seller, for the purposes of calculating the open interest, only one side of the contract is counted. Open interest increases when a buyer opens a put or call position and, vise versa, it decreases when a buyer sells/closes a put or call position.
TimeTrading ActivityOpen InterestJan 1stA buys 1 options and B sells 1 options contract1Jan 2ndC buys 5 options and D sells 5 options contracts6Jan 3rdA sell his 1 options and D buys 1 options contract5Jan 4thE buys 5 options from C who sells 5 options contracts5
- On Jan 1 A buys an option which leaves an open interest and also creates trading volume of 1.
- On Jan 2 C and D create trading volume of 5 and there are also 5 more options left open.
- On Jan 3 A takes an offsetting position and therefore open interest is reduced by 1, and trading volume is 1.
- On Jan 4, E simply replaces C and therefore open interest does not change, trading volume increases by 5
Volume and open interest are important indicators in futures and equities markets.
Options Fair Value
An option’s fair value is simply its value at the current moment. The fair value will therefore fluctuate with market conditions.
It is important to know the parameters that affect the price of an option:
- Valuation Date: This is the date for which you are determining an option’s fair value (i.e., the current date.)
- Expiration Date: The date on which an option expires. After this date, it cannot be exercised and is therefore worthless..
- Price: The price of an underlying security – provides the basis for pricing the option at the time of its valuation.
- Strike Price: This is the price at which the option may be exercised.
- Volatility: The volatility of an asset provides a measure of the random variability or dispersion of price data per unit of time, usually quoted as the annual standard deviation of an asset’s price.
- Type of option: Call or put.
- Option Style: There are American style and European style options. American style options can be exercised at any time up to the expiration date. European style options may be exercised only on the expiration date itself.
Options Definition: Expiration Date
On an options exchange, every 3rd Friday of the month is an expiration day – this means that a number of options series expire on this day.
At the end of the expiration date, all those call options whose strike prices are higher than the price of the underlying stock or index will be worthless. On the other hand, those options series, whose strike prices are lower, will have some intrinsic value and may be exercised. In the case of put options, the opposite applies.
The options expiration date is the most important factor in calculating options prices:
- The Black Scholes model is used to price European style options. This is done by factoring in current stock prices, strike prices, time left until expiration, interest rates, any dividends, as well as the volatility of the underlying security.
- The binomial model is used to price American style options. The binomial model calculates a tree of stock prices for various given time intervals within the expiration period. Using the volatility of a stock and the time left to expiration, the model determines how much a stock might increase or decrease in value. This calculation gives all possible prices for a stock. Then, working backward from the expiration date to the present, option prices are calculated using a risk neutral valuation. Ultimately, a each option is priced .
Option Style: There are American style and European style options. American style options can be exercised at any time up to the expiration date. European style options may be exercised only on the expiration date itself.