Delta is a simple measure used in derivatives trading to indicate the relation between the price of an option and the price of its underlying security.
The delta of an option is the discount factor that will directly translate the price change in a security into the price change of that option.
The delta on call options will always range from 0 to 1 and the delta on put options will range from 0 to -1 due to the nature of the relationship between these option types and their underlying securities.
Delta Example
In this example the price of the underlying security will be $10, the price of the option will be $1 and the delta of the option will be 0.1. If the price of the security increases by $1 to $11 total, then the price of the option will increase by $0.1 ($1 x 0.1) to $1.1 total.
One thing you need to know is that the it can be positive or negative and this depends with the type of option. As an important statistic, it can be used to calculate reasons why option prices move the way they do.
By looking at delta, investors and traders can tell whether an option or a portfolio of options will go up or down a particular move in the underlying stock and by how much. This is why delta is powerful for position management and hedging.
Delta in Trading
It is one of the primary indicators used by options traders out of all the “Greeks” (the name given to the various options indicators that derive their names from letters in the Greek alphabet).
Since option prices often follow strict mathematical formulas, delta is extremely useful for predicting subsequent option price changes following price changes in the underlying security.
It is also often used when creating complex and sophisticated positions involving options, as the measure can be used as an element in mathematical formulas that seek to, for example, maximize potential profits or minimize potential risks.
Final Thoughts
All the Greeks indicators play an important role in options trading, but delta is likely the one most often used and the one employed most often in simpler trading strategies and intuitive positions.
As such, it is a good first stepping-stone for day traders who are new to options trading and looking to gain experience with using the Greeks in their options trading strategies.
Warrior Trading Pro Tip
Option delta is a vital measure especially when it comes to trading assets. As said earlier, a call’s delta will range between 0 to 1 with in-the-money being closer to 1 while out-of-the-money being closer to 0.
A put’s delta ranges from -1 to 0 with in-the-money being closer to -1 and out-of-the-money close to 0.
Since option delta can be used as a probability measure, it will help you determine if an option will finish in-the-money at expiration. It is important to ensure that one’s portfolio profits according to the market bias.
Now that you know what option delta is and how it works, you can come up with trading strategies that incorporate this important measure.