 Hey everyone, Lee Lowell here from SmartOptionsSell.com, how are you all doing today? It is Saturday, August 14th, 2021. Welcome to another edition of our Saturday YouTube Options Educational Videos. My goal here is to help you become a smarter and more profitable options trader. And the way I do that is by answering your questions and making videos about things that people write to me about. People wanna know more about options trading, everything about options trading, specific strategies, the Greeks, private losses, margin requirements, all that kind of good stuff. So I'm here to help you. And today, as you can see on your screen, we will be talking about theta. Once again, I get emails all the time. People ask me about the Greeks. Theta is one of the Greeks. People wanna know about theta. Lee, tell me about theta. What is it? What does it tell me? How does it help me? What can I do? I wanna learn more. So this is what we will be discussing today. We're talking about theta. So sit back, relax, and let's jump right to it. As you can see on your screen, I always have my cheat sheets here. And what I do is write down the finer points about whatever topic we're discussing. Today, we're talking about theta. And theta is, as you follow me down here, one of the Greeks, one of the Greek outputs of the option pricing model. Now, for those of you that don't know much about options is that options all have a price, right? And that options price just doesn't get magically produced out of thin air. There's things that go into an option pricing formula, and it goes into a calculation and it spits out an options price. But on top of the options price, the model will spit out what are called the Greeks. And there's four Greeks. There's delta, gamma, vega, and theta. And some will say rho, a fifth element. We don't really talk about that too much. But today, we're talking about theta. And it's one of the Greek outputs of the model. And theta tells us all about how an options price is related to the time left until expiration. All options have an expiration date. And the option price changes based on how much time is left until expiration. And if you know something about options, or if you've been watching options pricing, theta is not a constant static number. It changes over time. And when there's a lot of time left to expiration, let's just say six months, the theta is small, meaning an option, let's jump back here for a second. An option contract has a certain price. And over time, that price will erode because time is slipping away and towards expiration. And each day that an option is in existence, it will lose a little bit of value every single day. And that's called theta, or time decay. It's value declines because time is slipping away. And I always use the ice cube scenario where you have an ice cube sitting out on the counter. At first, it doesn't look like it's melting at all. But then over time, it starts to melt and it melts faster and faster and faster. That's what happens to an options value. And when you, if you have a long-term option, it won't lose a lot of value on a day-to-day basis. You can't really tell because it's not slipping away so quickly, but as it moves closer to expiration, the options value will lose a lot more of its value. The closer it gets to expiration, it's like the melting ice cube, all things being equal. So here, we just follow me down here. So theta calculates the daily change in an options price based on how much time is left until expiration. All else being equal meaning. The strike price stays the same. The stock price stays the same. Volatility stays the same. All those other factors, okay? All those factors stay the same through the life of the option, which obviously they don't. But theta tells you how much the options price will change due to the passage of time, okay? So if you're an options buyer, let's just say you bought an option, call option, put option, whatever, you obviously need the stock to move in a certain direction, right? Okay, if the stock doesn't move, the option is not going to work for you. And the longer it takes for the stock to move, the more theta is going to have an effect on that options price. So if you're an option buyer, you're at the mercy of theta, okay? You can't stop time. And so the longer it takes for a stock to move in your favor, theta is going to overwhelm your investment. And you're going to lose money on that option contract because time is ticking away and theta is stripping that option value away from you. So if you tried to sell it, you'd have to sell it probably for a loss because the stock is not moving in your favor. Now conversely, theta is an option seller's best friend, so to speak, because if the stock's just sitting there, the option value is declining, which option sellers love, right? When you're an option seller, you sell something at a high price and then you try to buy it back at a cheaper price. Well, theta helps you do that. Theta helps that option value decline, all else being equal. So option buyers don't like theta, option sellers love theta because of that time decay factor. All right? And so theta is measured in dollars and cents per day or an option price, depending on which strike you're looking at, dollars and cents, dollars and cents it can lose per day. And in order to find out the actual dollar value, you have to multiply the theta value by 100 because there's 100 shares of stock in each option contract. And I'll show you, we're going to pull up an option chain and I'll show you how theta works. We'll look at an option calculator as well. Okay? So like I said, theta is not static. It gets bigger as time moves on. So theta starts at one level as you get close to expiration, theta gets greater, meaning the option is going to lose more and more value every single day as you get closer to expiration. Okay? So short dated options have the largest theta and at the money options also have the largest theta. And at the money options means the strike price is pretty similar to where the current price of the stock is. And we'll look at the option chain as well. So down here, at the money short dated options have the highest level of theta of all. And if you're an option buyer of at the money short dated options, you are at the risk for losing the most amount of money on a daily basis due to the passage of time. And if the stock doesn't move where you needed to move in that very short period of time, you can lose a lot of money very quickly. So if you're an option buyer of at the money short dated options, you better be damn sure that you know exactly where that stock is going to move in a very short period of time. And that's a very hard thing to do. Unless you're super good or you have a crystal ball, whatever, which most people don't. So buying short dated at the money options is what I consider very risky because who knows where the stock's going to go. And if it doesn't make the move, you can lose money very quickly. Conversely, at the money short dated options for option sellers can bring you in a lot of money very quickly because those options have a very short lifespan as long as the stock doesn't move. It doesn't make a big adverse move. So people tend to like to sell at the money, short dated options straddles or strangles around the money because they know the stock or they think the stock's not going to make a big move. But you never know. There could be a corrupt CEO or a bad earnings announcement, whatever that can make the stock move higher or lower very quickly and could wipe out any gains that the time decay moves in an option seller's favor. So you have to be careful. You know, you have to weigh out the risk rewards. If you're an option buyer, you know you can lose money very quickly due to time decay, but if the stock moves in your favor, whatever direction that is, you can make a lot of money. Conversely, option sellers, if the stock stays flat, you can make a lot of money, but if it jumps or drops on you big time, you can lose money very quickly. So there's no free lunch here, but I like to be an option seller because we like to sell out of the money options that don't move a lot, even if the stock makes a big move, okay? So that's not a problem here. Anyway, so let's take a look at some examples, show the numbers, look at an option calculator and we'll see where things stand. So let's pull up our, let's go to our options chain here. This is the Interactive Brokers option chain in our fake money account. Anyone that has an Interactive Brokers account can also have access to a fake money account. You can test your strategies, whatever. So let's take a look. I've got AMD up here, Advanced Micro Devices, and let's take a look at, let's take a look at some October options here and we'll look at the theta. So when you pull up your option chain, no matter what broker you use, you can adjust what comms you want to see in your option chain. Now here I have all the Greeks. We've got Delta, Gamma, Vega, Theta, and today we're talking about Theta. So you wanna look in the Theta Com. So here's where AMD closed yesterday, Friday, August 13th, Friday 13th, 2021, $110.56. So in the Theta Com, let's start at the at the money options, which will be about the 110 puts and calls, okay? The call and put options, no matter what strike, will always have the same theta because they're gonna lose value due to the passage of time at the same rate, whether it's a call or put, and this is theta, okay? So let's look at the 110 puts, the 110 calls and puts. Here's the Theta Com. The 110s have, this is, see it says 0.066. That means 6.6 cents per day. The option will lose value. So let me move myself up here so we can see everything together. So the 110 calls went out $8.50 bid at $8.65 offer. And you figure somewhere in the middle is fair value, $8.58, roughly. Now, if tomorrow, if trading was open tomorrow, this option, the 110 calls would lose about 6.6 per contract tomorrow. Tomorrow you wake up, if everything else was the same, this option would be worth $8.45 at $8.55 bid nask. So it's gonna lose 6.6 cents per contract per day. If you wanna multiply that out, find out what the actual dollar value is, you multiply that by 100. So that's $6.60 per day per contract that you would lose in actual dollars. Same thing with the put options over here. This put option went out $7.90 bid at $8.00 ask. It's got the theta of 6.6 cents per day. So tomorrow it would be worth $7.83, $8.84 bid at $7.90 ask, whatever, $3.94 ask. So it's gonna lose 6.6 cents per contract per day. Okay? Now, if you go out to let's say a longer term option, let's go to the January. So just a couple months later, January, look at the same 110s, you can see the theta is only 4.1 cents per contract per day, 4.1 cents. So the longer you go out in time, the smaller the theta, okay? Because time decay is not having a huge effect on the option price, on longer dated options, okay? So the January's have 4.1 cents per day. We'll go back to the October's. These have 6.6 cents per day. So let's look at a very short term option. Let's go to the August 20 contracts that expire next Friday. The 110s, the 110 calls and puts about almost 21 cents per day per contract. Calls here, here's the theta for the puts, same thing. About 21 cents. So these calls are worth $3.15 today. They'll be worth roughly $2.95, or $2.94 tomorrow, all else being equal. You know, if AMD stayed at the same price, these 110 calls would be worth $2.95 tomorrow. You know, poof, gone just because of the passage of time just because we turned the page on the calendar. Same thing with the puts. They're worth about $2.60. Tomorrow they'd be worth about $2.39, $2.40 per contract. So if you're an option buyer, you know, the value of your investment is just gonna lose value just because time is slipping away. And the closer you get to expiration, the larger each day's theta will be. And these are the at the money options. Okay, the at the money options have the largest theta. As you move lower in strikes, you can see the theta get smaller. And as you move up in strikes, from away from the at the money options, you can see the theta get smaller as well. Okay, so just know that when you're dealing with option prices, you wanna know how these option prices change on a day-to-day basis, theta is a huge deal. Theta is a huge deal as time gets closer to expiration. Now let's take a quick look at an option calculator. And I always like to go to ivolatility.com. They have a volatility calculator. They have lots of other things as well. But we're using the volatility calculator. We got AMD in here. And the last price as of August 13, 2021, yesterday. And the faults here on the left side is the inputs. Over here is the outputs for the calls and puts. So yesterday, AMD went out at $110.55, $110.55 cents. The at the money strike, we were looking at the 110s. Let's change that. Okay, so the 110 calls and puts, let's look at the theta. So this is for the August 20. These are, theta is about 22 cents per day. We're in the other, the Interactive Brokers option chain was about 21 cents per day. That small glitch is just a difference in whatever option pricing model ivolatility and Interactive Brokers may be using. But you can see it's still about 21.22 cents per day with six days left to expiration. Let's go out to the October 15th expiration and we'll see. So you can see here the theta pretty much matches Interactive Brokers. So it was 6.6 cents per day, roughly, okay, for both. 6.6 cents a day. So I wanna show you what happens that let's go out to the January options here again. Change the date here. Still using the 110 strikes. The price is still the same for AMD. So the theta is about four cents a day. Four cents a day. I wanna show you what happens over time. 30 days, let's just say 30 days have gone past and we'll keep the volatility the same because that has a big effect on options prices as well. So it's 45.54%. We're gonna keep all these things the same but we're gonna just drop the days of expiration to 130 days. Now remember, theta's at four cents a day. Let's change this to 130 days and we'll keep the volatility at 50.45.54. Okay, we'll hit calculate. Interest rates has such a small effect on option prices. We don't need to worry about that. Now remember, it's 4.1 cents. We just knocked 30 days off the time here. Let's see what happens, calculate. So it's still just under 4.6 cents per day for the option. So we took away 30 days. So theta didn't really change all that much but let's change this to, let's start with 40 days left. And see what happens. So we're starting with 40 days left to expiration. Theta is now at 8.2 cents per day roughly, 8.25 cents per day, which is larger than the four cents we were started with because we had a lot of time up. Now let's drop this down to 10 days. 10 days, so another 30 day gap. I wanna show you how that changes. 10 days and we'll leave this at 45.4. Trying to keep everything the same, stock price the same, strike price, hit calculate. Remember, theta is 8.25 cents per day. That was with 40 days left. Let's see what it looks like with 10 days left. Change that. So it doubled, it went from 8 cents a day to 16 cents a day, a theta loss, option value loss. We went from 40 days to 10 days and it lost double the amount whereas we started at 160 days and went to 130 days, the theta barely changed. So my point here is that longer term options don't lose a lot of value due to time decay or theta until you start to get closer to expiration. Okay, so if you're going to play short term options, you have to be pretty sure if you're an option buyer you have to be very sure that the stock's gonna move in your favor because ultimately where the stock goes will determine how the option price really moves. Okay, so if you're bullish and you're buying short term options, you better make sure, or short term call, you better make sure that stock moves hard and fast or else you're gonna give up a lot of value just to time decay. Or if you're an option seller and you're selling these short term options, you better be sure that there's no big news item that's coming out. You don't want that stock to say level. You don't want it to move anywhere. So you have to be careful. All right, so there's basically your lesson on theta, time decay, how it works, how it's different. A 30 day gap is different when you have a lot of time left versus when there's a 30 day gap with not a lot of time left. So theta is always constantly changing. It's getting larger, it moves towards expiration and it's the largest for at the money options. So you have to take these things in consideration when you're deciding which options to buy or which options to sell, how you feel about the stock. Most important is how you feel about the stock. Is the stock going to move or not? Is it gonna move in your favor as well? Okay, the stock may move in that short period of time but will it move in your favor? So you have all these competing things. It's not easy to make money in the investing world if you're trying to be a trader, especially if options, especially if you don't know a lot about options. So my goal here is to try to help you become a smarter and more profitable option trader. All right, so that's it. There's your lesson for today within this YouTube video. Don't forget to subscribe, hit that red subscribe button in the bottom right hand corner. Please leave me a comment. If this has been beneficial to you, give me a thumbs up and send me an email if you have questions. Write a comment here, I'll always answer. And also in this video, I'm gonna put up our, you'll see at the end of the screen here, our Saturday Synopsis, linked to the Saturday Synopsis video that will, where we go over the charts and I show you what I'm thinking or seeing on individual stocks and indexes. So if you like to watch that, click on the video. All right, well, that's all for me today. I hope this has been helpful to everyone and hope everyone has a great weekend and a great trading week ahead. This is Lee Lowell signing off.