Forex Investment and Currency Trading

The leverage of an option – viewed as a static reference value – essentially characterizes the relationship between the capital sum which would have to be expended for the purchase of the relevant underlying asset (i.e. the market price of the underlying asset) and the capital required for the purchase of the option (i.e. the market price of the option). The degree of option provides an indication of the degree to which you, as the buyer of an option, will participate, positively or negatively, in a change in the market price of the underlying asset.

However, the effects of the leverage can only be quantified more exactly if viewed dynamically. When the price of the relevant underlying asset changes, the price of the option also changes, generally overproportionately in relation to the capital employed, but not always according to a fixed ratio. The extent of the change depends, in particular, on the intrinsic value of the option – or, more precisely, on the associated probability of the option right being exercised. As a rule, the further the option moves “into the money”, the more pronounced its change in value in comparison with the underlying asset. Conversely, if it moves “out of the money”, it loses value more slowly.

Price sensitivity (also known as “delta”) describes the change in the price of the option in relation to the change in the price of the underlying asset. The (dynamic) reference value of the price sensitivity of an option lie somewhere between 0 and 1 for a call and between 0 and -1 for a put.

Changes in the price of the underlying asset have a relatively insignificant effect on options which are “far out of the money”, and these therefore have price sensitivities close to 0. In contrast, the value of an option which is “deep in the money” consists almost entirely of its intrinsic value. Such an option moves virtually “in step” with the price of the underlying asset and has a price sensitivity of close to 1 or -1, as the case may be.

This means that it is quite possible that the price of the underlying asset can change significantly, yet the price of the option (as a whole) reacts only underproportionately or indeed not at all. In this case, the change in the strike price only affects the premium. Not only the static reference values which are of importance in evaluating the option, but also a dynamic assessment.

When determining the prices of option, various price-calculation models are available, the aim of which is to determine the theoretically correct price (“fair value”) for the option taking into account the above-mentioned factors. One of the best-known is the Black/Scholes model developed by Fischer Black and Myron Scholes. Ultimately, however, such models can only provide indications as to which price will actually be obtained on the market.