Options gamma is a part of the Greeks and measures the delta rate of change. Delta tells you the amount of change in an options contract per $1 move. Delta moves up and down, whereas gamma stays constant. A higher gamma means the stock is much more volatile, which is good. However, if you’re a trader who likes more predictable trades, you’d want to avoid a contract with a high gamma.
Options gamma measures the rate of change of the delta. Delta tells you how much an options price changes given a $1 movement in a stock’s price. If security is $100, the strike is $100, the delta is 40, the gamma is 2, and the price goes up to $101, then the delta moves up to 42—important stuff to know when you’re trading options.
Options Trading Course
Gamma is a member of the Greek family in options trading. Gamma is one of the more ambiguous Greeks but is still important in analyzing different strategies.
Options trading strategies have many moving parts that can affect profit and loss. However, trading options are less expensive than trading shares. One option contract controls 100 shares, but you’re paying a premium instead of the price per share.
That makes it cheaper than buying 100 shares of a stock. However, options are more risky because of the many factors that affect different options.
Rate of Change
Delta increases and decreases with a stock’s price, whereas gamma is the constant that measures that rate of change.
Stock options give you the right but not the obligation to buy or sell a stock at a specific price. Calls and puts are the bullish and bearish components.
The great thing about put options is that they’re like shorting, but all brokers have options, whereas not every broker has shares to short.
Options are a great tool for making money in any market. There are strategies for when a stock is moving up, down, and even sideways. However, studying and practicing are imperative since they tend to be risky.
A stock may look attractive to you but can have a high gamma. An option with a higher gamma is a much riskier option. However, a contract with a lower gamma is less risky.
A high gamma means that any stock with an unfavorable swing will have a bigger negative impact. In essence, with high gamma, expect volatile moves. If you’re day trading options, this can be good if you choose the correct direction.
Forming Strategies
While it may be one of the more obscure Greeks, it can be used to form your trading strategy. Just think of gamma as a way to measure the stability of an option.
Delta represents the probability of an option ending up in the money. It is representative of the stability of that probability happening over time.
Delta and gamma tend to work hand in hand. Options expire. As a result, you want to be able to profit before they do. However, 80% of options end up expiring worthless. That’s a lot of lost money.
That could be because people treat options like shares when they’re not. The Greeks, open interest, extrinsic value, and time decay affect how a contract profits or loses.
While that may seem overwhelming, don’t let it deter you from learning options. You can customize your options chain to show the parts you focus on.
Remember that gamma brings about a higher risk level. However, that’s not bad, especially if you’ve given yourself enough time. For every $1 a stock moves, gamma accelerates profit in your favor.
Gamma also decelerates loss for every $1 that price moves against you. In other words, for every $1 the trade you’re in moves, you’re getting a nice return on the capital you put up.
Gamma Evaluation
Traders look at the Gamma of an options strike to measure it against other options strikes, and traders also monitor their open positions at Gamma levels to see how things are progressing in the trades they are holding.
When performing Dynamic Hedging strategies – the Gamma will warn traders if their position’s risk is increasing so they can increase their hedge (or take some off if it is no longer needed).
This allows traders to manage risk – essential for options traders to survive!
Volatility and Gamma
Gamma decreases as Implied Volatility rises and rises as Implied Volatility decreases; this is one way that options prices are affected by stock movements. “Volatility” or price movements can cause a rise in implied volatility, and that change in implied volatility can change the Gamma, which will then impact the Delta. This is how traders monitor their Delta Risk.
Since a high Gamma means that the options Delta will change quickly – traders will want to monitor their position’s Gamma levels when the strike’s implied volatility rises or falls.
Positive and Negative Gamma
Long options have a positive Gamma, and Short options have a negative Gamma; spreads also have a long and a short Gamma, so it’s important to consider the “net Gamma” for the options position you hold.
By trading a spread, traders can effectively reduce the impact of Gamma on their position. See the picture below – where we have the 530 and the 535 call marked out. If we were to buy the 530 call (buy a 5 Gamma) and sell a 535 call (sell a 5 Gamma), we’d have a starting position with a Gamma of 0. As the trade gets closer to expiration, the Gamma will eventually change, and the trade will become more exposed to Gamma.
As the price in the market moves higher – the 530 call option will go deeper ITM, and the Gamma is likely to fade.
Net Gamma
When looking at the Options Chain – we want to consider the Open Interest (OI) on the strikes we see; a strike with a high OI means a strike with a lot of Gamma exposure. Consider where that strike is located and if the Gamma exposure is Positive or Negative.
We want to consider Dealer Positioning and the Dealer’s Net Gamma Exposure (GEX). The higher the GEX – the more sensitive the options will be to changes in the underlying price moves. Dealer Gamma is not just looking at one strike but all the options for a specific symbol (or all the options with a specific expiration date).
GEX quantifies the rate of change in delta exposure across all options for a specific asset.
Here is an example to Calculate GEX. To calculate GEX, consider the following example:
Suppose the current price of
WLC Stock is $100.
If WLC Stock moves 1% down to $99, the total delta exposure for all options is -5,000.
If WLC Stock moves 1% to $101, the total delta exposure becomes +7,000.
GEX = Change in Delta / 1% move = (7,000 – (-5,000)) / 1 = 12,000.
The higher the GEX value, the more sensitive options are to sudden changes in the stock price.
To see GEX, traders must get an account with a company that provides GEX values.
Final Thoughts: Options Gamma
Options Gamma tells us how fast the delta changes when a stock moves. It’s most helpful to use it to see the stability of an option’s probability of reaching the strike price before it expires. Since options trading has so much that goes into it, take the time to study and practice.
If you need more help, take our options trading course.
Frequently Asked Questions
- Here’s what it means to be long gamma:
- Being long the option means that you want a higher gamma
- The delta of your security will increase based on the gamma of position
- Example: delta = $0.50 then contract moves up or down this amount per $1
A good gamma for options is around 40-60. This is when options are at the money. Deep-in-the-money and out-of-the-money options have a lower gamma because their deltas don't change as quickly.
Gamma is high for at-the-money strike prices. It's low for deep in the money and out of the money. The higher the gamma, the more volatile the stock.
