ATM vs. OTM

D

daytrader85

Currently the deltas on CSCO Nov Call options are below:

Nov $23 Call - $1.51 (last offer price) - 0.627 delta
Nov $26 Call - $0.24 (last offer price) - 0.337 delta

If I wanted to be long roughly 150 deltas, I could purchase 3 $23 calls to get be net long 188 deltas. That would cost me $453 ($1.51 x 3) based on the current offer price.

Now, let's say I wanted to purchase the $26 Call. I could buy 5 contracts to establish a net long of 165 deltas and it would only cost me $120 ($0.24 x 5)

I maintain the same delta exposure but at a 1/3 of the cost. How is one better than the other? My bias is still the same. Would the OTM have a higher theta so it would decay faster then ?

Thanks.
 
Quote from option911:

I dont think anyone on this board is in the advice business. But I will say this, think about how fast you expect csco to move. Typically if there is alot of speed OTM's work better if its a slower move ITM's work better.

http://www.option911.com
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That's what I was thinking. I just wanted to someone reinforce my thought process! :)

Thanks.

-Daytrader85
 
There's an infinite number of ways to generate a position with the same spot delta. It's the other characteristics of the position that may influence your choice of which method to use.
 
otm deltas decay on their dgamma sensitivity. As you leverage gamma you have decay on delta. atm deltas are ~50 with a reduction in gamma as you diverge from the strike.

The risk of atm, beyond the obvious, is vega. ATM is considered a vega-bet.
 
Quote from daytrader85:


I maintain the same delta exposure but at a 1/3 of the cost. How is one better than the other? My bias is still the same. Would the OTM have a higher theta so it would decay faster then ?

Thanks.
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Yes, one third the cost.

But the value of your options will erode more than one third as quickly. Thus, as you have already been told, you need a more rapid price increase for these options to become profitable.

All delta are not created equal. It truly depends on why you are buying those deltas.

a) If you expect this stock to quickly soar> 30, but the OTMs

b) If you believe this stock will rise steadily over the next several weeks, buy ATM

c) If you believe this is a good long-term holding, don't buy options. Buy shares, or ITM LEAPS options

Mark
 
If the OTMs move in your favour, all other things being equal, it will be moving into the area of maximum theta; which with the Nov will be considerable.

If it does it move with a blue flame out of it's arse, fine, take your profit quickly and get the **** out.

If it grinds up you get eaten alive. It possibly will have to grind its way a fair way into the money to make a profit. (see atticus' post)

You don't have these factors with the ITM.

Then there is contest risk. 5 bid/ask spreads and 5 commissions versus 3. It can make a difference over the long haul.
 
Quote from daytrader85:

Currently the deltas on CSCO Nov Call options are below:

Nov $23 Call - $1.51 (last offer price) - 0.627 delta
Nov $26 Call - $0.24 (last offer price) - 0.337 delta

If I wanted to be long roughly 150 deltas, I could purchase 3 $23 calls to get be net long 188 deltas. That would cost me $453 ($1.51 x 3) based on the current offer price.

Now, let's say I wanted to purchase the $26 Call. I could buy 5 contracts to establish a net long of 165 deltas and it would only cost me $120 ($0.24 x 5)

I maintain the same delta exposure but at a 1/3 of the cost. How is one better than the other? My bias is still the same. Would the OTM have a higher theta so it would decay faster then ?

Thanks.
More...

I think your delta calculation for Nov26 call is a little off. Total delta for Nov26 is about 100 based on the price you gave,
which means you need 10 contracts instead of 5, that gives you
total theta -$8.68 vs -$3.77 theta for three Nov 23 call's

See attached chart.
 

Attachments

Thanks for the information guys.

Actually I was meaning to give you Jan '10 options info, since that is what I actually hold. Sorry about that.

But anyways my takeaway from this, is that gamma is higher on front month options and further in the money and less in the back months or on strikes that are further out of the money. Did I understand that correctly?
 
Quote from daytrader85:

But anyways my takeaway from this, is that gamma is higher on front month options and further in the money

You mean at the money
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