This segment explains why theta, the greek representing time decay, does not always seem to fit an out-of-the-money option (OTM) with little time left and presents an alternative method of determining theta under these condition. Several tastytraders had written TP about this recently and he provides an explanation.
The segment begins with a quick explanation of theta and how it usually works. The problem with theta and the price of OTM options is then introduced and TP provides an example. He expands on this and discusses if something is “wrong” and if there is any arb opportunity.
The discussion includes a warning about “chasing theta” and why that is a poor strategy. TP shows a slide of the Black-Scholes formula for theta, briefly explains it and then presents his alternative. The formula and TP's alternative are on separate slides.
Watch this segment of “The Skinny on Options Modeling” with Tom Sosnoff, Tony Battista and (TP) for a better understanding of theta, when and why theta doesn't seem to work and TP's alternative in such situations.
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