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Introduction to Derivatives
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What are options?
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Options Jargon
Glossary of options terminology - don't worry you don't have to know it all, feel free to use this just as a reference!
Infrastructure

Orderbook

A list of orders on a particular asset reflecting all the orders from the different buyers and sellers open in a market. It effectively shows the price and volume that participants are willing to buy/sell the asset for.

AMM

Is an Automated Market Maker (AMM) which uses an algorithm to define the price that it will buy or sell an asset at.

Options

Option

Contracts, which let the buyer of a 1) call (put) choose whether or not they want to 2) buy (sell) the underlying asset at the 3) strike price once the contract hits its 4) expiry date

Binary option

Options that are based on a binary success or failure outcome. The parties that chose the correct outcome (success of failure) win the entire pot.

Call Option

Gives the buyer the right (but not obligation) to purchase an asset at the particular price and date specified in the contract.

Put Option

Gives the buyer the right (but not obligation) to sell an asset at the particular price and date specified in the contract.

Option Premium

Is the market price of purchasing an option. By paying the premium you purchase the right to exercising an option. The seller receives this premium as their payoff for selling the option.

PnL

Profit and Loss. It represents the change in the value of a trader’s position. Whilst a trade is still open PnL is considered "unrealised" and when the trade is close it becomes "realised" PnL.

Exercising an Option

The event in which the buyer of an option choses to execute the option contract they purchased in order to buy or sell the underlying at the strike price.

Settlement

Occurs when an option is exercised. In the case of physical settlement, there is a transfer of assets between the seller and buyer of an option to reflect the contract that was exercised. In the case of cash settlement, the trader exercising the option is paid out in cash (no exchange of assets) based on their PnL.

Naked Option

Shorting an option without holding any (or enough) of the underlying asset to protect from adverse price movements, exposing the trader to high amounts of unhedged risk.

Collateral

An asset accepted as security for a loan or credit risk. In the case of options collateral is required to make sure that the trader can cover their position if they get margin called.

Greeks

  • Delta,
    δ\delta
    - The price sensitivity of the option relative to the underlying asset i.e. how much the option price changes when the underlying assets price increases by $1. When buying a call option the delta is positive, when buying a put option the delta is negative.
  • Theta,
    θ\theta
     - Reflects the options price sensitivity with respect to time i.e. the $ change in the option price given time moved 1 day closer to the expiry.
  • Gamma,
    γ\gamma
     - Reflects the rate of change between the Delta and the underlying asset price i.e. given a $1 change in price the Delta will change by the Gamma.
  • Vega,
    ν\nu
     - The price sensitivity of an option with respect to a change in the underlying asset's implied volatility i.e. the $ change in the option given a 1% change in the underlying assets implied volatility.

Hedging

The act of purchasing complementary (usually inverse) assets to reduce the trader's risk exposure to sudden adverse price movements. Options are a popular method to hedge risk as they allow traders to limit their losses to a fixed amount, almost acting as insurance.

Options Pricing

Spot Price,
SS
​

Is the current market price of the underlying asset.

Strike Price,
KK
​

The price defined in an option contract specifying the price that the underlying asset will be bought/sold at.

Expiry Time,
TT
​

The date specified in the option contract at which the option can be exercised (European options) or that time before which options must be exercised (American options).

Risk-free Rate of Return,
rr
​

The theoretical rate of return on an investment that carries no risk.

Volatility,
σ\sigma
​

Reflects the extent to which the underlying asset is expected to fluctuate between now and the asset expiry.

Mark Price,
VmarkV_{mark}

The last price at which the option was purchased/sold on the market.

Index Price,
VindexV_{index}

The price of the underlying asset, where this price is derived from more than 1 source.

Options Strategies

Covered Call

Long coin + short call.

Covered Put

Short coin + short put.

Debit Spread

Long lower strike call + short higher strike call, long higher strike put + short lower strike put.

Credit Spread

Short lower strike call + long higher strike call, short higher strike put + long lower strike put.

Short Straddle

Short call + short put on the same strike.

Short Strangle

Short call on higher strike + short put on lower strike.
​
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Options
Options Pricing
Options Strategies