The Greeks

Description

When I was a market maker at the CBOE I would have an inventory of at least a thousand options in twelve different series in one stock. There is no way that I could figure out the risk in my position by remembering what spreads I established and what adjustments that I made. I needed a firm understanding of the options “Greeks” in order to properly monitor my risk.  I don’t expect that many people will have inventories that approach those kind of numbers. Regardless of the size of your position the most important aspect of options trading is risk control.

When you trade futures or stock the variable that you have to worry about is price direction. If you are a buyer you want it to go up and if you are a seller you want it to go down. Options traders also need to look at the absolute movement in the underlying, the amount of time value that is embedded in the option premium as a result and the erosion of time value in an option premium. Remember, options are a wasting asset.

You need to know the delta, gamma, theta and vega for the options you are specifically trading and the other options that are listed as well. There’s an opportunity cost if you don’t know all of them. It’s not quite as daunting as it sounds. There is a big inter relationship amongst the Greeks and once you get used to using them they become much easier to understand.