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Options Math for Traders: How To Pick the Best Option Strategies for Your Market Outlook, + Website

Book Description

A practical guide to the math behind options and how that knowledge can improve your trading performance

No book on options can guarantee success, but if a trader understands and utilizes option math effectively, good things are going to happen. The idea behind Options Math for Traders + Website is to help retail option traders understand some of the basic tenants and enduring relationships of options, and option math, that professional and institutional traders rely on every day. This book skillfully highlights those strategies that are inherently superior from an option math point of view and explains what drives that superiority while also examining why some strategies are inherently inferior.

The material is explained without complex equations or technical jargon. The goal is to give you a solid conceptual foundation of options behavior so you can make more informed decisions when choosing an option strategy for your market outlook. Topics covered include the volatility premium, because over time, options will cost more than they are ultimately worth; skew, wherein far out of the money put options may seem cheap from an absolute term, but are very expensive in relative terms; and the acceleration in option price erosion. The book also has a companion Website, which includes links to those sites that can scan for the best strategies discussed in the book.

  • Explains, in a non-technical manner, the mathematical properties of options so that traders can better select the right options strategy for their market outlook

  • Companion Website contains timely tools that allow you to continue to learn in a hands-on fashion long after closing the book

  • Written by top options expert Scott Nations

Most independent traders have an imperfect understanding of the math behind options pricing. With Options Math for Traders + Website as your guide, you'll gain valuable lessons in this area and discover how this information can improve your trading performance.

Table of Contents

  1. Cover
  2. Series
  3. Title Page
  4. Copyright
  5. Dedication
  6. Preface
    1. THE PHENOMENA
    2. THE GOAL
    3. THE STRATEGIES
    4. THE TAKEAWAYS
    5. JUST ONE EQUATION
    6. ABOUT THE WEBSITE
    7. GETTING STARTED IN OPTION TRADING
  7. Acknowledgments
  8. Part One: The Basics
    1. Chapter 1: The Basics
      1. OPTION SPECIFICS
      2. DESCRIBING AN OPTION
      3. OPTION COST AND VALUE
      4. HOW TIME VALUE CHANGES
      5. DOING THE SAME FOR PUTS
      6. MONEYNESS
    2. Chapter 2: Direction, Magnitude, and Time
      1. MAGNITUDE AND TIME ARE RELATED
      2. UP AND DOWN AREN'T THE ONLY POSSIBILITIES
      3. THE PATH MATTERS
      4. VOLATILITY COMBINES THESE ISSUES
    3. Chapter 3: Volatility
      1. RISK IS VOLATILITY
      2. INVESTORS DEMAND A RISK PREMIUM, REDUCING THE PRICE OF RISKY ASSETS
      3. VOLATILITY IS THE STANDARD DEVIATION OF RETURNS
      4. STANDARD DEVIATION TELLS US WHAT RANGE OF OUTCOMES TO EXPECT
      5. STANDARD DEVIATION OF RETURNS IS VOLATILITY
      6. TYPES OF VOLATILITY
    4. Chapter 4: Option Pricing Models and Implied Volatility
      1. IT'S AN OPTION PRICING MODEL, NOT AN EQUATION FOR OPTION VALUES
      2. A BLACK-SCHOLES EXAMPLE
      3. THE ASSUMPTIONS
      4. INPUTS TO THE BLACK-SCHOLES OPTION PRICING MODEL
      5. IMPLIED VOLATILITY
      6. THE SENSITIVITY OF OPTION PRICES TO CHANGES IN THE INPUTS
  9. Part Two: The Phenomena
    1. Chapter 5: The Volatility Risk Premium
      1. VOLATILITY RISK PREMIUM, THE WHAT
      2. THE ASSUMPTIONS, THE WHY OF THE VOLATILITY RISK PREMIUM
      3. THE VOLATILITY RISK PREMIUM—HOW MUCH
      4. HOW TO THINK ABOUT THE VOLATILITY RISK PREMIUM
      5. THE VOLATILITY RISK PREMIUM BY ASSET CLASS
      6. THE VOLATILITY RISK PREMIUM OVER TIME
    2. Chapter 6: Implied Volatility and Skew
      1. IMPLIED VOLATILITY BY STRIKE PRICE
      2. OPTION SKEW, THE WHEN
      3. OPTION SKEW, THE WHERE
      4. Assumptions, the First WHY of Option Skew
      5. ASSUMPTIONS AND OTHER REASONS
      6. DETERMINING IF ONE OPTION IS A GOOD HEDGE FOR ANOTHER OPTION
      7. SKEW, THE HOW MUCH
    3. Chapter 7: Time Value and Decay
      1. TIME VALUE BY STRIKE PRICE
      2. THETA—THE MEASURE OF DAILY OPTION TIME VALUE EROSION
      3. OPTION PRICE EROSION DOESN'T HAPPEN IN A STRAIGHT LINE
      4. OPTION PRICE EROSION, THE WHAT
      5. ANOTHER WAY OF LOOKING AT DAILY EROSION
    4. Chapter 8: The Bid/Ask Spread
      1. WHAT DO WE MEAN BY “THE MARKET”?
      2. MARKET MAKERS
      3. BID/ASK SPREAD, THE WHAT
      4. DELTA'S IMPACT ON BID/ASK SPREADS
      5. WIDER BID/ASK SPREADS
      6. THE BID/ASK SPREAD WHEN THERE'S MORE COMPETITION
      7. EQUITY OPTIONS
      8. THE BID/ASK FOR OPTION SPREADS
      9. THE BID/ASK OF MULTI-LEGGED SPREADS
      10. WHAT'S THE REAL FAIR VALUE OF AN OPTION BASED ON THE BID/ASK?
    5. Chapter 9: Volatility Slope
      1. THE CORRELATION BETWEEN MARKET PRICES AND IMPLIED VOLATILITY
      2. THE VOLATILITY SLOPE, THE WHY
      3. THE ASYMMETRY
      4. VOLATILITY SLOPE AND SKEW ARE RELATED
  10. Part Three: The Trades
    1. Chapter 10: Covered Calls
      1. COVERED CALLS ARE BEST FOR STOCKS YOU ALREADY OWN AND WANT TO KEEP
      2. THE PHENOMENA AND COVERED CALLS
      3. BREAKEVEN POINTS
      4. BREAKEVEN POINTS AND RATES OF RETURN
      5. USING COVERED CALLS FOR DOWNSIDE PROTECTION
      6. IF OUR STOCK RALLIES
      7. SELECTING THE COVERED CALL
      8. COVERED CALLS AND DAILY PRICE EROSION
      9. COVERED CALLS AND THE VOLATILITY RISK PREMIUM
      10. PLACING YOUR COVERED CALL ORDER
      11. FOLLOW-UP ACTION
      12. GETTING ASSIGNED
      13. ROLLING
    2. Chapter 11: Selling Puts
      1. SELLING PUTS IS BEST FOR STOCKS YOU WANT TO OWN AT A DISCOUNT
      2. THE PHENOMENA
      3. SELLING PUTS IS IDENTICAL TO A BUYWRITE
      4. SELLING PUTS TO BUY STOCK AT A DISCOUNT
      5. ROLLING
    3. Chapter 12: Calendar Spreads
      1. MAXIMUM PROFIT AND LOSS
      2. THE PHENOMENA
      3. LONG CALENDAR SPREADS AND IMPLIED VOLATILITY
      4. CALENDAR SPREAD PAYOFF AT FRONT-MONTH EXPIRATION
      5. NEUTRAL, BULLISH, AND BEARISH CALENDAR SPREADS
      6. CALENDAR SPREAD PROFITABILITY WITHOUT MOVEMENT
      7. CALENDAR SPREAD SENSITIVITIES
      8. FOLLOW-UP
      9. BULLISH BECOMES BEARISH…
      10. CATALYSTS
    4. Chapter 13: Risk Reversal
      1. A RISK REVERSAL AND SKEW
      2. WHEN TO USE A RISK REVERSAL
      3. USING A RISK REVERSAL
      4. RISK REVERSALS PRIOR TO EXPIRATION
      5. WHEN A RISK REVERSAL DOESN'T WORK
      6. RISK REVERSALS AND LONGER-DATED EXPIRATIONS
      7. FOLLOW-UP ACTION
    5. Chapter 14: Vertical Spreads
      1. BREAKEVENS
      2. SKEW AND VERTICAL SPREADS
      3. VERTICAL SPREAD RISK AND REWARD
      4. LONG PUT SPREADS AND SHORT CALLS SPREADS ARE ALIKE
      5. LONG PUT SPREADS AND SHORT CALL SPREADS ARE DIFFERENT
      6. THE WIDTH OF THE SPREAD VERSUS THE COST
      7. THE GREEKS
      8. IMPLIED VOLATILITY AND THE COST OF VERTICAL SPREADS
      9. VERTICAL SPREADS—HOW AGGRESSIVE?
      10. CALL SPREADS, SKEW, AND THE PROBLEM OF THE “TROUGH”
      11. FOLLOW-UP ACTION
  11. Appendix
    1. STANDARD DEVIATION
    2. REALIZED VOLATILITY
    3. VOLATILITY FOR DIFFERENT TIME PERIODS
    4. THE BLACK-SCHOLES FORMULA EXTENDED, PUTS AND THE GREEKS
    5. LINEAR INTERPOLATION
    6. ANNUALIZING YIELD
  12. Index