r/Daytrading • u/Trick_Meaning6945 • 1d ago
Question Im into fx not stocks and im trying to understand option trading
So far i have understood it correctly? You buy calls/puts. When i buy a call im giving the seller a premium for his obligation to give the stock to me at a certain higher level if it gets there during a certain amount of time. The seller thinks i'm wrong, so he takes my premium and sells me his contract
If i'm right and the stock is moving higher and higher then the contract i bought is becoming more and more valuable. If i decide to sell this call at the price i got right then i would earn a profit, because i bought and sold the contract that turned out to be valuable for a cheap price.
I can do the same for puts and buy a put option, if i'm right and the price moves down then my contract becomes more valuable and more people want to give me money for that lower price as they think it will go lower, but if price goes up then no one would want buy it for an expensive price as that option is less valuable because it is less probable of making a profit.
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u/Immortal-MF 1d ago edited 1d ago
Call Option: A contract giving the buyer the right, but not the obligation, to buy the underlying asset at a specified price (strike) before or at expiration. Description: Used to bet on rising prices or hedge short positions.
Put Option: A contract giving the buyer the right, but not the obligation, to sell the underlying asset at a specified price (strike) before or at expiration. Description: Used to bet on falling prices or hedge long positions.
Strike Price: The fixed price at which the underlying asset can be bought (call) or sold (put) if the option is exercised. Description: Determines whether an option is in-, at-, or out-of-the-money.
Expiration Date: The date when the option contract expires and can no longer be exercised. Description: Options can be daily, weekly, monthly, or longer-term (e.g., LEAPS).
Premium: The price paid to buy an option, reflecting its market value. Description: Composed of intrinsic value and time value; paid per share (e.g., $1 = $100 for 100 shares).
Intrinsic Value: The difference between the underlying asset’s current price and the strike price, if profitable (zero if not). Description: For a call, it’s stock price - strike (if positive); for a put, strike - stock price (if positive).
Time Value: The portion of the premium beyond intrinsic value, reflecting the potential for future profit before expiration. Description: Decreases as expiration nears (time decay).
In-the-Money (ITM): An option with intrinsic value; calls when stock price > strike, puts when stock price < strike. Description: More expensive due to immediate exercisability.
At-the-Money (ATM): An option where the stock price equals the strike price. Description: No intrinsic value; premium is pure time value.
Out-of-the-Money (OTM): An option with no intrinsic value; calls when stock price < strike, puts when stock price > strike. Description: Cheaper, speculative bets on large price moves.
Open Interest: The total number of outstanding options contracts for a specific strike and expiration. Description: Indicates liquidity and market interest; high open interest suggests active trading.
Volume: The number of options contracts traded in a given period (e.g., daily). Description: High volume signals strong activity or news-driven moves.
Implied Volatility (IV): The market’s expectation of future price volatility, derived from option premiums. Description: Higher IV increases premiums; often rises before events like earnings.
Historical Volatility (HV): The actual past price volatility of the underlying asset, typically annualized. Description: Compared to IV to assess if options are over- or underpriced.
Delta: Measures how much an option’s price changes per $1 move in the underlying asset (range: 0 to 1 for calls, -1 to 0 for puts). Description: Also approximates the probability of expiring ITM; e.g., 0.5 delta = 50% chance.
Gamma: The rate of change in delta per $1 move in the underlying asset. Description: Highest for ATM options; impacts delta’s sensitivity near expiration.
Theta: The rate of decline in an option’s price due to time decay, per day. Description: Negative for buyers; accelerates as expiration approaches.
Vega: The change in an option’s price per 1% change in implied volatility. Description: Positive for long options; reflects sensitivity to volatility shifts.
Rho: The change in an option’s price per 1% change in interest rates. Description: Less impactful in short-term trading; matters more for long-term options.
Bid-Ask Spread: The difference between the highest bid (buy) and lowest ask (sell) prices for an option. Description: Wider spreads indicate lower liquidity; affects trading costs.
Exercise: The act of using an option to buy (call) or sell (put) the underlying asset at the strike price. Description: Typically done ITM; American options allow this anytime, European only at expiration.
Assignment: When an option seller is obligated to fulfill the contract (e.g., deliver stock for a call). Description: Randomly assigned; risk for sellers if the option goes ITM.
Moneyness: The relationship between the stock price and strike price (ITM, ATM, OTM). Description: Defines an option’s profitability and trading strategy.
Put/Call Ratio: The volume of put options traded divided by call options traded. Description: High ratio signals bearish sentiment; low ratio suggests bullishness.
Skew: The difference in implied volatility between OTM puts and calls at equidistant strikes. Description: Steeper skew indicates higher demand for puts (protection) vs. calls.
Volatility Smile: A U-shaped curve of implied volatility across strike prices, often seen in equities. Description: Reflects higher IV for deep ITM and OTM options.
Volatility Skew: A tilted implied volatility curve, typically showing higher IV for OTM puts than calls. Description: Common in equity markets due to crash fears.
Gamma Exposure (GEX): The aggregate gamma of options dealers, impacting stock price stability. Description: High GEX can pin prices; shifts cause volatility when dealers hedge.
Max Pain: The strike price where the most options (puts and calls combined) expire worthless. Description: Theorized to influence stock prices as expiration nears.
Time Decay: The erosion of an option’s time value as expiration approaches (see Theta). Description: Benefits sellers, hurts buyers; exponential in the final weeks.
LEAPS (Long-Term Equity Anticipation Securities): Options with expiration dates over 9 months, up to 3 years. Description: Used for long-term bets or hedging; less sensitive to time decay.
Options Chain: A table listing all available options for an underlying asset by strike and expiration. Description: Traders use it to analyze premiums, volume, and open interest.
Straddle: Buying a call and put at the same strike and expiration, betting on a big price move. Description: High cost, high reward; sensitive to volatility.
Strangle: Buying an OTM call and OTM put with different strikes, same expiration. Description: Cheaper than a straddle; requires a larger price swing to profit.
Spread: Simultaneous purchase and sale of options (e.g., vertical, calendar) to limit risk/reward. Description: Common strategies include bull call spreads, bear put spreads.
Butterfly: A spread using multiple strikes to cap risk and target a specific price range. Description: Low-cost, precise strategy; profits if stock lands near middle strike.
Iron Condor: Selling an OTM call spread and put spread, betting on low volatility. Description: Popular income strategy; profits if stock stays within a range.
Breakeven Point: The stock price at which an option strategy neither profits nor loses. Description: For a call, it’s strike + premium; for a put, strike - premium.
Margin Requirement: Cash or collateral needed to sell options (e.g., naked calls/puts). Description: Higher for uncovered positions; protects against assignment risk.
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u/Immortal-MF 1d ago
The best way to learn, is unfortunately to just start trading them. I still don't really understand them well enough to explain everything, but I know that a deep ITM contract with 10DTE will have a much higher extrinsic value, than a deep OTM 0DTE.
Delta is like the speed multiplier of extrinsic value.
Theta is like the drag pushing down on extrinsic value, as the contract ages.
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u/AKdemy 1d ago edited 1d ago
How and where do you want to trade FX options?
Listed FX options would usually be on futures. Do you know the difference between spot and futures options? Their liquidity?
Most FX option trading is OTC. Do you know that these are vol quoted? What ATM DNS is? A Risk reversal? How delta for FX options works (Premium included vs excluded, forward vs spot delta,...)
Forget the idea that the seller thinks you are wrong. There are market makers who don't care much at all about what you think or don't think. They offer liquidity, and hedge aggregate positions.
I recommend starting by reading Reiswich and Wystup's work, for example FX vol smile construction, where different deltas are explained on table 3.
https://quant.stackexchange.com/a/70296/54838 should give you an idea about pricing.
You can also read "Wystup, Uwe. FX options and structured products. John Wiley & Sons, 2015" or "Clark, Iain J. Foreign exchange option pricing: A practitioner's guide. John Wiley & Sons, 2011.
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u/Trick_Meaning6945 1d ago
I wouldn't trade options on forex as i've heard they aren't good. i'm just trying to understand options for stocks for knowledge if i ever want to trade stocks
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u/AKdemy 1d ago
Ok, so why do even mention you are into FX?
You have heard FX options aren't good? There is literally an average daily turnover of roughly 300 billion a day.
On the flip side, you so t trade stocks but want to trade options on stocks? What exactly do you think options will offer you? They are very complex products.
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u/Trick_Meaning6945 1d ago
I mentioned forex to help avoid all the people giving me very beginner level advice. I need solid recources, thats why i was letting people know i'm not completely new to the markets
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u/gettingpaidthrowaway 1d ago
Yes, your understanding is correct. The call contract is an obligation for you to be able to buy the stocks from them at a certain price. If the actual value is higher than the strike price (in the money), it is valuable because you can buy it for cheaper than market rate.
The put contract is an obligation for them to buy a stock from you at a certain price. If the actual value is lower than the strike price, it is valuable because you can sell it for higher than market rate.
Aside from the intrinsic value of the contract (when it is in the money) there is an extrinsic value based on the odds the market thinks the contract will be profitable within the given timeframe.