Since the previous example in Facebook was such a great time period to demonstrate option decay, we'll use it again. As mentioned earlier, out-of-the-money options decay slower and slower as expiration approaches. In this visual, you are looking at the price of AAPL (top) compared to the price of the AAPL 105 call expiring in February (bottom). Filed Under: Option Greeks Tagged With: option greeks, option theta, theta decay. ➜ Out-of-the-money option decay tends to slow down. To clarify, we analyzed the price of the AAPL call option with a strike price of $105, expiring in February of 2016 (standard expiration cycle). The Theta value of an options contract theoretically defines the rate at which its price will decline on a daily basis. As you can see here, the decay curve is almost the opposite of the at-the-money decay curve in the previous example. To hammer this point home, let's go through some visualizations to demonstrate which options have the most exposure to decay. It can be used to calculate the half-life of a radioactive element, the time elapsed, initial quantity, and remaining quantity of an element. At-the-money options have the highest theta. Here are the specifics: Time Period: March 1st to April 15th (2016). Options are essentially insurance contracts that market participants can buy and sell on certain stocks. Related Concepts. Overall, 118 expiration cycles were tested. To demonstrate the decay of an option with intrinsic value, we'll analyze all the same metrics as the previous example. As a general guide line they try to build portfolios that on average create 1% Theta Decay per day. Since there are many factors acting on the price of an option each day, this makes it difficult to measure Theta directly. Like the previous study, we tracked the "remaining extrinsic value" on each day, which is the combined price of the call and put relative to the initial price of the call and put. The Theta time decay ((32.5-25)/32.5 = 23%) in last month was not that much when compared with that ((170-57)/170 = 66%) of the Vega. Like most things related to options, nothing is linear due to all of the moving parts. Theta is the daily decay of an option’s extrinsic value. Theta Defines an Option's Time Decay. Theta decreases as the strike moves further into the money or further out-of-the-money. The rate of time decay is measured by one of the options Greeks, Theta. Here are the specifics: Stock: Tesla Motors (ticker symbol: TSLA), Time Period: April 1st to June 17th (2016). First, we'll analyze an in-the-money call, an at-the-money straddle, and a strangle. Options Theta is an extremely important measurement for the execution of Theta based neutral options strategies that aim to profit from the decay of extrinsic value or Time Decay. This is because there are factors other than time that cause option price changes. You've learned the basics behind the almighty "theta decay." Solve. An option’s theta can be calculated as follows: If a particular option’s theta is -10, and 0.01 of a year passes, the option price’s predicted decay’s about $0.10 (-10 times 0.01 is 0.10). So, how does theta decay impact an option that has intrinsic value? Theta is estimated to launch Q1 2020. As you can see, the 90 call is in-the-money the whole time, which means the option's price includes intrinsic value. This is theta decay in action (just like the insurance example from earlier). 29 Responses to “Theta-Time Decay of our Option Premiums” ... Elite Calculator, can use the “unwind now” tab to calculate your results if you unwind at any point in time.