Why do some OTM options have a higher delta to price ratio then the ITM options ?

Discussion in 'Options' started by Aston01, Oct 3, 2011.

  1. Aston01

    Aston01

    Sorry if this is a no brainer question for some of you. I have been studying options for the last couple of weeks and noticed that on some stocks the delta to option price ratio is higher on the OTM than the ITM.

    For example AAPL trading at $376.50

    Oct 11 $375 Strike is $18.90 with a Delta of .54 & Imp Vol of 53.80%
    (Only factoring Delta alone that is a 2.85% increase in option value for every $1 increase in underlying price)

    vs

    Oct 11 $435 Strike is $2.04 with a Delta of .11 & Imp Vol of 49.22%
    (Only factoring Delta alone that is a 5.39% increase in option value for every $1 increase in underlying price)

    Can someone clarify why this occurs?
     
  2. MTE

    MTE

    It's called leverage. The further OTM you go the more leverage an option has.
     
  3. Aston01

    Aston01

    So in theory a OTM would provide better potential returns for a short term options trader (Due to the increased leverage) where as ITM is better used for insurance by a stock holder ?

    Did I get that correct?
     
  4. MTE

    MTE

    You can't really make a general statement like that since it really depends on the situation and goals for a particular trade.
     
  5. The IV of various strikes is a variable moving target throughout the day so I'm not sure if using an IV ratio doesn't jumble your data points.

    As the UL rises ITM, the lower strikes have higher deltas and higher premium but the pct of change in delta and the pct change in premium is greater for OTM strikes. Therefore, with an equi-dollar purchase, there's a lot more bang for the buck in the OTM's *IF* you get a large move. So the short answer is what MTE said. Leverage.
     
  6. What's best depends on the size of the UL's move as well as how long it takes to occur (decay). IV can affect results as well.

    Your comparison isn't a good one because the OTM trader is buying to profit from an up move and the stock holder is selling ITM because he's likely to be protecting against a down move.
     
  7. This question shows that you are smart but I have learnt that going too much into theory will not make you profitable. Learn everything on option and then use them as a black belt person who does Karate. He does it without thinking and calculation. Trading option is easier than what you think and more difficult that what you think !!!
     
  8. Aston01

    Aston01

    Without a doubt you have to keep learning