Hello all, I am very curious as if there is a significant difference between the time value lost from a) close to open and from b) open to close during the trading day. Assuming all else remained equal (stock price, volatility, etc). Any thoughts? studies? I do know there can be so many variables to affect it, but thought I would see the general consensus would be. Thanks!
Yes mate the greek called Theta Theta will appear as negative if you buy an option, which indicates the amount of dollars you LOSE everyday, weekends too. Theta increases rapidly in the last month before expiration
Good question. And yes I believe this does depend on a lot of things, most importantly what is going on with implied vol. An increase in implied vol is essentially a slowing down of time or even going back in time. In markets with high vol-of-vol, your greek theta number will be highly misleading. Long options may increase in value while the underlying goes nowhere for a few days as IV gets bid, only to lose a week's worth of theta decay in one day on an IV crush. Another issue to deal with is how to price in a way that bridges the calendar day (24 hrs) with the trading day (6.5 hrs). Personally, by 3pm CST, I want to be pricing and computing greeks as if it is virtually 8:30am CST the next day (I'm in TX, not NY). In order to do this, I price on the clock throughout the day, extracting the current entire 24 hour day over the course of 6.5 hours of trading time. This adjusted "T" gets plugged into my pricing formula to calculate my IV's and greeks. So the way I price implies that I take out the close-to-open hours during the trading day itself. I'm already priced for the next day's open at the current day's close. I am not on a deriv's desk so I'm not sure if this is the proper market convention -- i'll leave it to others to chime in.
No ....... On options with a week or more to expiration. Maybe ..... On options with less than a week to expiration. I assume the purpose of your question is to determine whether it's best to enter a position at market open or market close. The answer would be: It doesn't matter.
Longthewings: Please correct me if I am wrong. From what I understand you're saying. If the stock, heck, the entire market, stayed exactly the same from one open to the next day open, the options would not nearly decrease in value over the night as they would during the trading day, due to the options being priced (bid/asked down) at close for the next day open? Thanks for the response! I really appreciate it.
If you are talking about stocks, then the theta decay should be greater during market hours than non market hours. If you are talking about assets that are traded 24hours a day with volatility equally distributed for the whole day, then the theta decay should be spread equally for the 24hour period.
Yes....especially going into expiration when you are seeing delta bleed, it makes sense to be hedged forward in time to the next open versus staring at a gap open, hedged using stale inputs from the prior trading day. I believe prices should therefore reflect traders' forward mindset -- i.e. the majority of the overnight time decay is likely already taken out into the close. They've already moved on to the next day.