Put Theta in binary options is the rate at which the price of a put option in binary trading decreases each day until expiry. It indicates the first derivative of the fair value of binary put options with respect to a change in time to expiration.
Put Theta in a nutshell
- Put Theta measures the daily decline rate of binary put option prices until expiry.
- Trading binary puts involves considering changes in theta position relative to the option’s moneyness and expiration.
What does Put Theta in Binary Options describe?
Put Theta is a ratio that describes the difference in the fair value of put options due to a time change. The Theta of binary put options is negative when they are out-of-the-money and positive when they are in-the-money, just like the Theta of binary call options. Time to expiration significantly impacts the absolute value of the Theta, with very short-term options having theta values well above the amount of premium that can genuinely devalue.
The Theta decreases rapidly as expiration approaches, often peaking as low as 0.5 ticks for 25-day binary put options. Across the spectrum of implied volatility, the Theta of binary put options typically maintains a fairly constant absolute value. However, the high and low values of the options approach the strike price as implied volatility decreases. This enlarges the probability that the binary option will expire at 0 or 100.
Example: How to calculate Put Theta in Binary Options?
To calculate Put Theta, denoted as Θ, you need the following formula:
Where:
- Θ: Put Theta
- V: Price of the put option
- t: Time until expiration
Imagine you hold a binary put option for a binary asset with a strike price of $100 and an expiration time set 30 days from now. The Theta for this option is -0.03. Now, if we’re five days into the option’s life, applying the Theta value tells us that the option’s value would decrease by $0.15 ($0.03 * 5 days). This means that with each passing day, the option loses $0.15 in value due to time decay.
How does Theta affect Binary Options trading strategies?
Theta impacts binary options trading strategies by shifting from a short theta position to a long theta position (or vice versa) when the underlying asset passes the strike, as Theta is zero when in the money. This characteristic makes selling out-of-the-money puts less effective for benefiting from time decay, as such positions risk losing money if the price falls through the strike.
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