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Let's say it is Tuesday and a 75 strike, monthly put expires Friday. Its bid/ask are .30 x .50. The current stock price is 79.86. Implied volatility is 61%. Delta is -0.15.

Why is the put so elevated given how close it is to expiration? Should the bid/ask be close to zero?

There is no intrinsic value in this put right? If that is the case, how does one calculate the ~0.40 midpoint for this put? Without any intrinsic value, I'd like to know how you get to 0.40.

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Even with only 4 days to maturity, an implied volatility of 61% means that the market believes that there is a decent chance that the stock will dip below 75 (only a 6% drop) over the next 3 days.

I'd like to know how you get to 0.40.

The dominant model in options pricing, the black-scholes model, prices the option you quote at $0.42 with a delta of 0.15, meaning that there is roughly a 15% probability that the stock will drop below the strike. So the market apparently thinks that there is a decent chance that the stock will drop enough to trigger the option and is willing to pay for that option.

  • 15% is a decent chance? Also, you are saying that the main factor to the elevated bid/ask is the ImplVol? – 4thSpace Dec 18 '18 at 16:30
  • It's the same as rolling a 6 on one die. It's definitely not zero. – D Stanley Dec 18 '18 at 16:34
  • I'm saying that the market thinks that there's a decent chance that the put will end up in-the-money, which is reflected in the implied volatility. – D Stanley Dec 18 '18 at 16:34
  • Yes, the one and only reason for the elevated bid/ask is the implied volatility. It would take an IV down in the 30 range for your put to be near worthless. – Bob Baerker Dec 18 '18 at 16:53
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As D Stanley wrote, the Black-Scholes model prices this put at 42 cents which is in line with a quote of 30x50 cents.

Another thing that should be taken into account when pricing out options is a pending dividend. Since share price is reduced by the amount of the dividend by the stock exchanges on the ex-dividend date, option premium reflects this. Relative to each other (same series), puts gets more expensive than calls. For at-the-money options, the dividend is about evenly spread across both.

IOW, if the dividend is 50 cents, you would expect the put to increase by 25 cents and the call would decrease by 25 cents by ex-div eve. For options away from the money, the distribution would affect the ITM option more.

This is important because if unaware of the pending ex-div date, one might think that you're getting an inflated and over valued put premium (seller) and conclude that there is more downside protection than there really is. More practically speaking, if XYZ is $50 and it goes ex-div by 50 cents in the morning, receiving 75 cents today for selling the $50 put means that tomorrow morning your put will opens 50 cent ITM at $49.50. That 75 cent premium was effectively 25 cents of time premium and 50 cents of intrinsic value.

Based on the pricing (42 cent fair value), I'd surmise that there is little to no dividend involved in the pricing of your $75 put.

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