Options Vega Explained | Options Greeks Guide
Discover how options vega cam affects your options trading positions and how to utilize it to make better trades.
Key Takeaways
Vega is one of the options Greeks, which are mathematical measures used to assess the sensitivity of an option's price to various factors.
Vega measures the sensitivity of an option's price to changes in implied volatility, which is the market's expectation of the underlying asset's future volatility.
Vega is expressed as the change in an option's price for a one percent change in implied volatility.
A positive Vega means that the option's price will increase as implied volatility increases, while a negative Vega means that the option's price will decrease as implied volatility increases.
What is Options Vega?
The definition of options vega is the amount the premium of an option will increase when volatility increases by 1%. In other words, options vega measures the sensitivity of an option to changes in implied volatility.
When looking at an options chain, vega is represented as a positive number because option prices increase when implied volatility increases ceteris paribus.
What is Implied Volatility?
Implied volatility represents how much an underlying stock is expected to move according to market expectations.
A stock with high implied volatility will have expensive options due to the expectation of a significant move. If the market expects a stock to move sharply, then options become more costly to price in the expected volatility.
How Does Time Affect Options Vega?
According to most options trading platforms, options with a further expiration date have higher vega. Therefore, options with a further expiration are more sensitive to changes in implied volatility.
However, when you trade options with a further expiration date, the gamma risk is also lower, which helps negate the effect of the higher vega values.
For example, let’s say you want to sell a 15 delta put on $SPY and must choose between the 45DTE and 150DTE expiration cycles.
The 150DTE has more volatility risk yet less gamma risk.
On the other hand, the 45DTE has more gamma risk but less volatility risk. The reason the 45DTE has more gamma risk is because a 15 delta strike put for 45DTE will be much closer to the underlying price than a 15 delta put for the 150DTE expiration.
For example, the 45DTE 15 delta put may be the $380 strike price, while the 150DTE 15 delta put could be the $350 strike price.
The main risk of selling options is the overnight gap risk. Overnight gap risk on an option with higher gamma will hurt more than more vega.
Therefore, if you want to take the slower and more consistent route, further DTE options are better for selling premium if you want lower volatility in your portfolio.
Positive and Negative Vega
When you look at an options chain, all option vega values will be positive. However, your position vega can be positive or negative.
Options vega on the Tastyworks options chain.
For example, if you are selling options, your position vega will be negative. A negative position vega signifies that you will make money when implied volatility decreases.
If you are long options, your position vega will be positive, signifying that you will make money with an increase in implied volatility ceteris paribus.
Which Options Have the Highest Vega?
The options with the highest vega values are ATM options and options with a long time until expiration. ATM options contain the most intrinsic value explaining why they have higher vega values.
Options with a long expiration date also have more extrinsic value, which explains how they have higher vega values.
Vega and the Bid-Ask Spread
The bid-ask spread of an option is the difference between how much a seller is willing to buy (bid) and how much the buyer is willing to sell an option (ask).
When the bid-ask spread is lower than the vega of an option, it is considered a competitive spread.
It is crucial to avoid option contracts with a large bid-ask spread, and this is one way to help identify when a spread is too large for you to trade options on that underlying.
Options Vega | Bottom Line
Options vega is a crucial metric for options traders as it measures the sensitivity of an option's premium to changes in implied volatility.
ATM options and options with longer expiration dates have the highest vega values due to their high extrinsic value.
As an option seller, your position vega will be negative, while option buyers will have a positive position vega. Option sellers make money when implied volatility decreases and vice versa.
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