To The Moon

Hello， everyone!

Welcome to Tiger Academy - 「Options Academy Column」episode 4.

In our previous article, we discussed how the price of options is related to volatility, with higher volatility resulting in more expensive options.

However, many friends have asked, 'Why are the prices of option decreasing every day when the stock prices in their portfolios have been stable, with no change in volatility?

There is a common saying in the capital market: Once you learn how to trade stocks, you realize that you lose money when prices fall. Once you learn how to trade futures, you realize that you lose money regardless of whether prices rise or fall. And once you learn how to trade options, you know that you lose money even when prices remain unchanged.

Why does this happen? Today, we will address this question for all of you."

1. Why are stocks not moving while options are losing money?

Let me give you an example. Imagine Jack and his buddy David making a bet on whether their friend Tony will have a dream tonight. If Tony dreams, Jack wins $100; if not, David wins $100. The bet ends when Tony wakes up the next morning.

Now, think about this: if we could trade this bet in the market, let's say it starts at $50 (meaning whoever holds the bet gets $100 if Tony dreams). Would the bet's price change during the time from when Tony goes to sleep until he wakes up?

The answer is yes, and it's pretty simple. You know that saying： A long delay may cause trouble.

When Tony goes to bed at 8 PM, there's uncertainty, and the chances of him dreaming are relatively high. But as time passes, if it's 7:59 AM the next morning and Tony hasn't had a dream, the probability of him dreaming at that last minute becomes close to zero. In other words, as time goes on, things become more apparent.

So, if the bet started at $50 at 8 PM, by 7:59 AM the next day, the bet's price would practically be zero. As time gets closer to Tony waking up, the outcome becomes more certain, and the bet's value fades away completely.

That bet is similar to an option. In our previous article,Day2.Unveiling the Secrets of Option Pricing with Apple and NVIDIA! we mentioned that options have two parts: intrinsic value and time value.

Time value represents uncertainty. The longer the time until expiration, the higher the time value. But as the expiration date nears, the time value decreases until it's nearly zero on the expiration day.

So, this explains why options lose money when stock prices remain stagnant. The reason is that the time value keeps diminishing, tick by tick.

Now that we understand this, what insights does it offer for trading options?"

2. How to deal with the decay of time value in options?

1. Choose to be a seller

Earlier, we discussed how stock prices remain stagnant while options lose money from the perspective of the option buyer. However, if you take the role of the option seller, the situation is the opposite. As the counterparty to the buyer, when time value decays and the option price drops, the seller actually profits.

Therefore, if you anticipate low volatility in the future, you can choose to sell out-of-the-money options with significant time value. This way, you can enjoy the daily profits generated by the decay of time value.

2. Avoid holding until expiration

We know that the price of options is primarily influenced by the underlying asset, which is the stock price. As a buyer, to avoid the decay of time value from long-term holding, if the stock price movement causes the option price to rise and meets our profit target before the expiration date, it is advisable to close the position and sell within a shorter timeframe instead of waiting until expiration to exercise and profit.

Of course, many people doubt whether to make money through exercising options or by closing positions. During our demonstrations of option profitability, we often assume how much money can be made through exercise. So why not wait until expiration to exercise and make money?"

I will reveal the secret in the next issue. In addition, for friends interested in option investment, here is a free Options tour course for you to learn.

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