43 lines
1.9 KiB
Plaintext
43 lines
1.9 KiB
Plaintext
Cl,apter 3: Call Buying 99
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money call on the same underlying stock, it will most surely move up on any increase
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in price by the underlying stock. Thus, the short-term trader would profit.
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THE DELTA
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The reader should by now be familiar with basic facts concerning call options: The
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time premium is highest when the stock is at the striking price of the call; it is lowest
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deep in- or out-of-the-money; option prices do not decay at a linear rate -the time pre
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mium disappears more rapidly as the option approaches expiration. As a further means
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of review, the option pricing curve introduced in Chapter 1 is reprinted here. Notice
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that all the facts listed above can be observed from Figure 3-1. The curves are much
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nearer the "intrinsic value" line at the ends than they are in the middle, implying that
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the time value premium is greatest when the stock is at the strike, and is least when
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the stock moves away from the strike either into- or out-of-the-money. Furthermore,
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the fact that the curve for the 3-month option lies only about halfway between the
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intrinsic value line and the curve of the 9-month option implies that the rate of decay
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of an at- or near-the-money option is not linear. The reader may also want to refer back
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to the graph of time value premium decay in Chapter 1 (Figure 1-4).
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There is another property of call options that the buyer should be familiar with,
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the delta of the option (also called the hedge ratio). Simply stated, the delta of an
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option is the arrwunt by which the call will increase or decrease in price if the under
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lying stock moves by 1 point.
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FIGURE 3-1.
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Option pricing curve; 3-, 6-, and 9-month calls.
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Q)
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0
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~
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C:
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0
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a
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0
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9-Month Curve
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6-Month Curve
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3-Month Curve
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/
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Intrinsic Value
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Striking Price
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Stock Price
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As expiration date draws
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closer, the lower curve
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merges with the intrinsic
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value line. The option
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price then equals its
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intrinsic value. |