THE FIRST FIGHT
The difference between the theoretical
values of a short- and long-term vertical
depends on how likely they are to be ITM at
expiration. At expiration, a vertical will be
worth zero if it’s OTM. If both options are
ITM, the vertical will be worth its full value
of the difference between the strikes. And
if the stock is in between the strikes of the
vertical, it’ll be worth the intrinsic value* of
the long ITM option. If you’re long a vertical,
you’ll potentially realize the most profit if
both options are ITM at expiration.
The likelihood that a vertical is ITM at expiration depends on where the stock’s price
is in relation to the vertical’s strikes and time
to expiration. For the 134/136 call vertical
with one DTE with the stock price at $136,
it’s ITM. And the likelihood that the stock
will stay at $136 or above over the next day
is fairly high. Over those 39 days, there’s a
chance the stock could drop back down from
$136 to $134 or below, to make that 134/136
call vertical OTM. That’s why the 134/136
call vertical with one DTE has a higher theoretical price with the stock at $136 than the
vertical with 39 days to expiration.
Alternatively, with the stock at $134, it’s
less likely the stock will rally to $136 in one
day versus 39 days. It’s not impossible, it’s
just not as likely. That’s why the 134/136
call vertical with 39 DTE has a higher theoretical price with the stock at $134 than the
vertical with one day to expiration.
Think of it this way: in most cases, the
maximum value a vertical can theoretically
get to is the difference between its strikes,
which happens if both options of the verti-
cal are ITM at expiration. Before expiration,
an ITM vertical will usually trade under its
full value, because with some time remain-
ing until expiration, there’s a chance the
stock price could change and turn that I TM
vertical into an O TM vertical. The more
time to expiration, the more time the stock
has to do that. With less time to expiration,
there’s less time for the stock to move to a
price that would make the vertical OTM.
The opposite is true for OTM verticals.
With less time to expiration, there’s less
chance for the stock to move enough to
make that O TM vertical I TM. With more
time, there’s more of a chance. The prices
of verticals, then, reflect the likelihood of
them being ITM or O TM at expiration, with
OTM verticals with more time to expiration
having higher theoretical values than O TM
verticals with less time to expiration, all
things being equal.
TIME TO MOVE ON
It makes sense to match the expiration of
the options to your opinion of when a stock
might move. Many stocks now have weekly
expiration options, in addition to standard
expirations (see Figure 1)*. This lets you
tailor a strategy to match your risk tolerance
by choosing certain strikes, while match-
ing your market expectation by choosing a
certain duration for a trade.
As always, consider the information at
hand. Are earnings coming up in a few days?
Is the Fed making
week? Is there a
tion in the months
ahead that might
call for specula-
tion? Gather up the
data. Find an expi-
ration that comes
close to these col-
lective events, then match your interest to a
reasonable level of commitment. Above all,
analyze with clarity and trust your instincts.
And don’t tell the wrong jokes when you
finally meet the parents.
Thomas Preston is not a representative of
TD Ameritrade, Inc. The material, views, and opinions expressed in this article are solely those of the
author and may not be reflective of those held by
TD Ameritrade, Inc. For more on the general risks of
trading and trading options, see page 37, #1– 2.
*Because they are short-lived instruments, weekly
options positions require close monitoring, as they
can be subject to significant volatility. Profits can
disappear quickly and can even turn into losses with
a very small movement of the underlying asset.
FIGURE 1: A really short-term fling. Many stocks offer weekly options, which means you have more choices when
it comes to finding an expiration to match your interest.
Source: thinkorswim by TD Ameritrade. For illustrative purposes only.
HELP YOU MATCH
TO YOUR OUTLOOK
FOR A STOCK.
Itching to find out more
on trading weeklys? Read
“Weekly Options: Stretch
Them Out” on the
thinkMoney archives online at