By John Summa, CTA, PhD, Founder of OptionsNerd.com
Many beginning options traders never quite understand the serious implications that volatility can have for the options strategies they are considering.
Some of the blame for this lack of understanding can be put on the poorly written books on this topic, most of which offer options strategies boilerplate instead of any real insights into how markets actually work in relation to volatility. However, if you're ignoring volatility, you may only have yourself to blame for negative surprises.
In this tutorial, we'll show you how to incorporate the "what if" scenarios regarding changing volatility into your trading. Clearly, movements of the underlying price can work through Delta (the sensitivity of an option's price to changes in the underlying stock or futures contract) and impact the bottom line, but so can volatility changes. We'll also explore the option sensitivity Greek known as Vega, which can provide traders with a whole new world of potential opportunity.
Many traders, eager to get to the strategies that they believe will provide quick profits, look for an easy way to trade that does not involve too much thinking or research. But in fact, more thinking and less trading can often save a lot of unnecessary pain. That said, pain can also be a good motivator, if you know how to process the experiences productively. If you learn from your mistakes and losses, it can teach you how to win at the trading game.
This tutorial is a practical guide to understanding options volatility for the average option trader. This series provides all the essential elements for a solid understanding of both the risks and potential rewards related to option volatility that await the trader who is willing and able to put them to good use.(For background reading, see The ABCs Of Option Volatility.)
TradingA thorough understanding of risk is essential in options trading. So is knowing the factors that affect option price.
TradingThis value is an essential ingredient in the option pricing recipe.
TradingThe estimated volatility of a security's price.
TradingThese risk-exposure measurements help traders detect how sensitive a specific trade is to price, volatility and time decay.
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