# Option value calculator

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## Option Value Calculator

Are you planning to purchase an extra garage space with your apartment even though you are not certain of using it? Or are you thinking of pursuing a higher degree in statistics with a bachelor’s in chemical engineering just to broaden your career choices? Then you’re already buying options.

As a financial product, options or derivatives offer the advantages of leverage, low capital requirement, diversification and high risk-reward ratio to the investors. However, they come with trade-offs such as lower liquidity, higher risk, complexity of the trade and higher spreads. Therefore, it is critical for the investor to weigh the pay-offs before allocating resources to option trading.

The subject of option value is technical with nuanced terms and is likely to be perceived as complicated by first-time traders/investors.

So let’s attempt to decode the nuances related to option value.

### What are options?

Options are financial contracts that offer the buyer a right, but not an obligation, to buy or sell an asset on a specific date at a particular price called the strike price, which is predetermined at the date on which the option is being purchased or sold.

Thus, buyers can exercise the contract only if they feel that there is going to be a potential benefit. Otherwise, they can simply let go of the contract by not exercising it.

As a derivative product, options derive their value from an underlying asset such as Stocks, bonds, indices, foreign currencies and even commodities. There are basically two kinds of options: call options (which give the trader an option to buy the underlying asset) and put options (which give the trader an option to sell the underlying asset).

### What are the types of options?

The European option can be exercised only at the expiration date, whereas the American Option can be exercised anytime before the expiration date when the option holder desires. Since 2010, all options in India are European options.

### What are Option Greeks?

The price of an option is a function of many variables such as time to maturity, underlying volatility, spot price of underlying asset, strike price and interest rate, it is critical for the option trader to know how the changes in these variables affect the option price or option premium. The Option Greeks sensitivity measures capture the extent of risk related to options trading.

The sensitivity measures are Delta, Gamma, Theta, Vega and Rho

### What is Delta?

As an investor or trader, one may seek an answer to how much will the price of my option move if the stock moves ₹1? That’s where “delta” comes in. Delta is the amount an option price is expected to move based on a ₹1 change in the underlying stock. Calls have positive delta, between 0 and 1. If the stock price rises and other pricing variables remain constant, then the price for the call will go up.

For example:If a call has a delta of 0.75 and the stock goes up ₹1, in theory, the price of the call will go up about ₹0.75. If the stock goes down ₹1, in theory, the price of the call will go down about ₹0.75.

Puts have a negative delta, between 0 and -1. If the stock price rises and all other variables remain unchanged, then the price of the option will go down.

For example, if a put has a delta of -0.70 and the stock goes up ₹1, in theory, the price of the put will go down ₹0.70. If the stock goes down ₹1, in theory, the price of the put will go up ₹0.70.

As a thumb rule, in-the-money options will move more than out-of-the-money options, and short-term options will react more than longer-term options to the same price change in the stock.

### What is Gamma?

It is the rate that delta will change based on a ₹1 change in the stock price. So if delta is the “speed” at which option prices change, gamma is the “acceleration.” Options with the highest gamma are the most responsive to changes in the price of the underlying stock.

### What is Time decay, or theta?

Theta is the amount the price of calls and puts will decrease for a one-day change in the time to expiration. Therefore, at-the-money options are likely to have relatively significant rupee losses over time than in- or out-of-the-money options with the same underlying stock and expiration date. This is because at-the-money options have the most time value built into the premium. And the bigger the span of time value built into the price, the more is the downside.

### What is Vega?

It is the amount call and put prices will change, in theory, for a corresponding one-point change in implied volatility. Vega does not have any effect on the intrinsic value of options; it only affects the “time value” of an option’s price. Typically, as implied volatility increases, the value of options will increase. That’s because an increase in implied volatility suggests an increased range of potential movement for the stock.

For example, a 30-day option on stock ABC with a ₹40 strike price and the stock exactly at ₹40. Vega for this option might be 0.03. In other words, the value of the option might go up ₹0.03 if implied volatility increases one point, and the value of the option might go down ₹0.03 if implied volatility decreases one point.

### What is Rho?

To get the output, the user must input all the following variables: underlying, market price and strike price, transaction and expiry date, rate of interest, implied volatility and the type of option (i.e. call option or put option) and accordingly evaluate the output.

### What are the key inputs or dependent variables to be plugged in the option value calculator?

To get the output, the user must input all the following variables: underlying, market price and strike price, transaction and expiry date, rate of interest, implied volatility and the type of option (i.e. call option or put option) and accordingly evaluate the output.

### Can this tool be used for the index option also?

Yes, our option value calculator can be used for both index options (such as Nifty50 and Bank Nifty) as well as stock options.

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Disclaimer:
This calculator is meant to be used for indicative purposes only. It is designed to assist you in determining the appropriate amount of prospective investments. This calculator alone is not sufficient and shouldn’t be used for the development or implementation of any investment strategy. Upstox does not take the responsibility/liability nor does it undertake the authenticity of the figures calculated therein. Upstox makes no warranty about the accuracy of the calculators/reckoners. The examples do not claim to represent the performance of any security or investments. In view of the individual nature of tax consequences, each investor is advised to consult his/her own professional tax advisor before making any investment decisions on the basis of the results provided through the use of this calculator.