Options and Futures Trading Basics

Akuna Options 101

• Akuna Capital authored the document.
• The document is titled "Akuna Options 101".
• Status: Done
• Tags: finance, options

Section 1: Terminology and Trading Floors

• Bid: Highest price someone is willing to buy something
• Ask/Offer: Lowest price someone is willing to sell something
• Size/Lots: Number of contracts someone is willing to trade at a price
• Make a market: To provide a bid/ask price and sizes for each contract
• Spread: Ask price minus Bid price
• Hedge: A trade to reduce price movement risk in an asset
• Paper: The interested parties trading against you
• Broker: Acts as an intermediary between buyers and sellers
• Tick Size: Smallest increment between price levels
• Queue Priority: Determines order precedence (e.g., Price-Time Priority)
• Order Types:
  • Immediate or Cancel (IOC)/Fill-and-Kill (FAK): Order executed immediately. Unfilled parts are cancelled
  • Good for Day (GFD): Remains active until execution or end of trading day
  • Good-Til-Cancelled (GTC): Remains active until completed or cancelled
  • All-or-None (AON): Must be executed entirely or not at all
  • Fill-or-Kill (FOK): Must be executed in its entirety or cancelled
  • One-cancels-the-other (OCO): One order's execution cancels the other

Section 1.2: How Do Market Makers Profit

• Ans: Collecting spread, scalping

Option Specific Terms

• Settlement Time: Specific time options and futures settle
• Contract Size: Multiplier for options/futures contracts. Options on stocks = 100 shares, Futures = 1 future
• Vol bid, catching a bid, ripping/exploding: Variety of terms for rising volume
• Vol offered, vol smashed/smoked: Variety of terms for falling volume
• Teenie: Lowest-priced options (often traded for risk management)
• Theo: Theoretical fair value of something
• Liquidity: Ease of trading near a fair value
• Bid offset: Edge needed to auto-trade the option
• Quote bid offset: Edge needed to quote an option

Section 2: Payoff Diagrams

• Payoff diagrams illustrate profit of an option/multiple option combos at expiry for varying underlying prices

Section 3: The Greeks

• Greeks are partial derivatives of option pricing with respect to different variables.
• Describing characteristics and risk dimensions of an option position
• Main Greeks: Delta, Gamma, Theta, Vega and Rho

Section 3.1: Delta

• Definition: Partial derivative of option price with respect to underlying price
• Hedge ratio: Number of underlying contracts that establish a neutral hedge
• Probability for ending ITM: Example - a 40 delta call has roughly a 40% chance of finishing ITM

Section 3.2: Gamma

• Definition: Rate at which delta changes with changes in the underlying
• Gamma = d/dUnderlying Delta
• It's positive for all options

Section 3.3: Theta

• Definition: Amount of value an option loses daily
• Theta decay (loss of value)

Section 3.4: Volatility

• Definition: Annualized standard deviation of log returns
• Volatility (o) is given as the standard deviation of log returns for a specific time period

Section 3.5: Vega

• Definition: First partial derivative of price wrt to implied volatility (change in option price per 1-point shift in implied volatility)
• Vega is important for options traders and is dynamic
• Vega is affected by expiry time
• Vega decreases with the distance from ATM

Section 3.6: Rho & Boxes

• Rho: Sensitivity of an options price to changes in interest rates
• Rho values differ for calls and puts at the same strike
• Interest rates change through time, which models options pricing.
• Boxes trades (e.g., 250 call minus 250 puts, plus 255 put minus 255 call)