Good day Folks!
While I’m not hunting Apes (which I AM doing TODAY at 2pm EST so please check that out if you haven’t yet + AWESOME TRIAL AVAILABLE)…
I’m riding in on my horse to save you from one of the toughest lessons a new options trader could be facing right now!
“How do you interpret an options chain?”
In today’s lesson, I’ll show you how I calculate the potential opening price on SPY using theta, delta and some basic options chain numbers. By the end of this email I hope these terms are no longer foreign for you.
First, let’s take a look at the options chain below and identify a few starting components.
In yellow, you’ll see “May 3 ‘23” which is the Expiration date for the SPY options chain I am looking at. That means, I have up until May 3rd for this trade idea to work. Holding past May 3rd would convert any options that I am holding (assuming they had any value) into SPY stock. Please note, I almost always sell BEFORE expiration because holding up to the very last minute can be risky. So, if today is April 28th and I buy May 3rd expiration SPY options, that means I have about 5 days for the trade to move the direction, and the amount that I want. I can sell before expiration if I want.
Next, in red, you will see two boxes for “Puts” and “Calls.” Playing puts means that you believe the entity you’re trading will go DOWN. It would be like shorting a stock but when you short a stock you have unlimited risk which is extremely dangerous. Playing puts still allows me to hope for a downward move but it limits my risk to how much money I put into the options trade (unless I hold past expiration and my options have some value left which will be converted into stock, which again I try to avoid at all costs.)
On the flip side, playing calls means I believe the entity I am playing will go higher. This is similar to going long a stock. If the price moves up quickly, then I have a good chance of making profits. If the underlying security I am playing calls on goes down, then I will lose money.
Next, in the middle of the image below you will see a blue rectangle around the “Strike Price.” The strike price is where I believe the underlying security will stay above (if I am in calls) or below (if I am playing puts) by the time I want to sell or to the expiration date. It’s good to note that many people will play options that are far away from the underlying securities current price. This is called playing “OTM” or out of the money options. I’ll explain more on that at a later time.
Lastly, on the top of the image below is an orange box which shows the last trade of the underlying stock and how much it is up or down at the current moment.
Now, let’s take a closer look at two other KEY components of an options chain and usually the hardest two for most people to understand and they are Theta and Delta.
The column is green is Theta, that means “decay” or how much the option will lose in value overnight (also slowly as the day goes on.) Theta happens overnight no matter what, even if you pick the right direction. I love to look for options that have Theta in the low $.20 area.
Next is Delta, which is the “rate of change” on options. If the SPY moves $1 dollar and the Delta is $.60 for example, the option will move $.60 cents. If the SPY moves $1 dollar and the delta is $.43, then the option will move $.43 cents.
So let’s wrap up this very valuable lesson with a complete example. Below you will see I am spotlighting the May 3rd, $406 CALLS.
The trade here is “calls” meaning I am looking for the price of SPY to go UP. The strike price is $406 which means I want the price of SPY to be higher than $406 by May 3rd. Don’t forget, I ultimately want to sell these BEFORE May 3rd but I am able to hold them up to May 3rd if I wish. The Theta, or decay is $.279 meaning if I hold the options overnight I will lose $.279 cents just for holding. The Delta is $.529 meaning if the SPY increases $1 dollar I will gain $.529 cents on my options. If SPY moves up $2 I will gain $1.06 and if we move up $2.75 on SPY then I will gain $1.45. If we drop $1 I will lose $.529 per contract also.
We just scratched the surface here on “What is an options chain” but I really hope this sheds some light on the subject.
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I’d love to keep educating you on options and how I trade them daily.
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