Most retail investors count option chains among the most natural ways to represent information. It’s easy to follow sequence simplifies the entire process of gathering information about specific options for particular underlying securities. To make the most of the data presented in an option chain, one must become familiar with its terminologies and role in general.
In this article
What is Option Chain?
It can be described as the listing of all option contracts. It includes both puts and calls for a specific security. It is also known as an Option Matrix and is considered useful for trading on the following day.
With the help of Option Matrix, skilled users can decipher the direction of price movements. It also helps to identify the points at which a high or low level of liquidity appears. Typically, it permits traders to evaluate the depth and liquidity of specific strikes. It captures these following metrics successfully –
- Executed price
- Real-time bid price
- Ask price
- Ask quantity
- Bid quantity
Collectively, they extend a fair idea about the overall depth and liquidity of specific strikes.
Components of Options Chain Chart
In general, there are 4 columns, namely – net change, bid, ask and the last price. They represent vital information. Such information helps traders to assess prevailing market sentiment.
Take a close look at these points below for understanding option chain better –
- Option type
Typically, options are of 2 types, namely – Call and Put. Call Option is essentially a contract that extends the right to buy an underlying asset at a particular price within a given date. However, it is not mandatory to carry it out. On the other hand, the Put Option is also a contract that extends the right to sell an underlying asset at a particular price within a specific date. Regardless, it is not mandatory to do so.
- Strike price
Fundamentally, it is a price at which both buyers and sellers of an option agreement to carry out a contract. Notably, options trade turns out to be profitable when its price exceeds the strike price.
- In-The-Money or ITM
The call option is In-The-Money if the current market price of an underlying asset is more than its strike price. Conversely, the put option is In-The-Money if its current market price is less than its strike price.
- At-The-Money or ATM
It indicates a situation wherein the strike price of a call or put option is equivalent to the prevailing market price of an underlying asset.
- Over-The-Money or OTM
When the strike price is more than the current market price of an underlying asset, the call option is said to be OTM. Similarly, when the strike price is lower than the current market price of an underlying asset, the put option is said to be at OTM.
This table below discusses those components which are found on both sides of strike prices –
|S.N.||Components of Option Chain Chart||Description|
|OI||An abbreviated form of Open Interest.|
|Chng in OI||Indicates a change in open interest.|
|IV||An abbreviated form of Implied Volatility.|
|Volume||An indicator of traders’ interest price at a specific strike price of a particular option.|
|LTP||An abbreviated form of Last Traded Price of an Option.|
|Net Chng||The net change in LTP.|
|Bid Qty||Buy orders for a specific strike order.|
|Bid Price||The quoted price of the last buy order.|
|Ask Price||The quoted price of the last sells order.|
|Ask Qty||Open sell orders for a specific strike price.|
Significance of Option Chain
Here are some benefits of referring to Option Chain –
- Offers a glance at the in-the-money (ITM) and out-the-money (OTM) options.
- It proves useful for assessing the depth and liquidity of specific strikes.
- It aids traders to find option premium against its corresponding maturity date and strike price.
- Option chain serves as a warning against breakouts or sharp moves in the index.
- Unlike, stock option chain, index option chain provides macro-level indications. Regardless, the former serves as a potent stock-level indicator.
- It provides a better view of the economic Straddles and Strangulations at various strike prices. Thus, enabling them to align investments as per market sentiments.
Thus, it can be said that option chain serves as a useful tool for both option traders and cash market traders.
Difference between Puts and Calls
The fundamental differences between the two types of Options are represented in this tabular format –
|Parameters||Puts Option||Calls Option|
|Reaction to changes in the underlying price||Puts have a negative delta. It means Puts decrease in value when there is a positive change in an underlying asset.||They have a positive delta. Calls increase in value when there is an increase in the stock price.|
|Reaction to changes in interest rates (measured in rho)||Puts decrease in value when the interest rates increase.||Calls increase in value when there is an increase in interest rates.|
|Reaction to the approach of dividend date||As the dividend gets closer, the puts increase in value.||As the dividend date gets closer, the calls decrease in value.|
|Impact of the strike of an option||Typically, puts that have a lower strike tend to have a lower value when compared to a higher strike.||Calls that have a lower strike tend to have a higher value when compared to Calls with a higher strike.|
Other than these, there are certain similarities between puts and calls. They are as follows –
- Puts and calls can be used for hedging.
- Both are sensitive to time expiration. Theta is used to measure how much a specific option is going to lose with each passing day.
- They show high sensitivity to implied volatility. For instance, higher volatility indicates a higher price for both puts and calls.
- Puts and calls are used for short and long positions.
Though the information presented in a chain option proves useful for trading on the next day, one must weigh in other sources of information and market indicators before trading. They should also consider their capability as a trader and gauge the impact of the prevailing market sentiment accordingly.