Issue 3: Option pricing basics, in simple terms, how to make money? ?
In the previous two issues, we learned about the basic concepts and working principles of options. Today, we will take Binance options as an example to discuss the factors that affect option pricing and use simple examples to help you better understand.
1. What is option pricing?
Option pricing is the process of determining the current market value of an option contract. Understanding the price of options is important for traders because it directly affects your investment decisions.
2. Main factors affecting option pricing
Let's illustrate these factors with a simple analogy.
Example: Buying a car
Imagine you want to buy a car but you’re not sure if now is the best time. So you strike a deal with the owner:
Underlying asset price: The market price of the car, let's say it's worth $20,000 right now. If you think it will increase in value in the future, you might consider buying a call option.
Strike Price: The price you agree on, such as $22,000. This price gives you the right to buy the car at some point in the future.
Time to Expiration: You agree that the transaction will be completed within three months. If there are still three months, it means you have more time to observe market changes; if there is only one month left, there are fewer options because the time is short.
Volatility: How volatile the price of this car is. If the car market is very active and the price often goes up or down, this indicates high volatility. Higher volatility means greater uncertainty about future prices, so you are willing to pay a higher premium to lock in this opportunity.
Risk-Free Rate: This is the rate of return you can expect to earn without taking any risk. While it’s not as obvious in car trading, in the financial markets it can influence how you choose to invest.
3. Practical application: options trading on Binance
Assuming you bought a call option on Binance, here are the steps and examples:
Current market situation:
The current price of Bitcoin is $40,000.
The call option you purchased has a strike price of $42,000 and expires in one month.
Determine whether to exercise the option:
If in the next few weeks, the price of Bitcoin rises to $45,000, your option will be very valuable because you can buy Bitcoin at $42,000 and then sell it on the market at $45,000, making a profit of $3,000 per Bitcoin.
If the price fails to go above $42,000, and for example only goes up to $41,000, you would not exercise the option because it would not be cost-effective to buy Bitcoin at $42,000.
Loss Control:
If the market price does not rise as you expected and you choose not to exercise the option, your maximum loss is only the premium you paid. For example, if you paid $500 for the option, then this is your maximum loss.
Impact of volatility:
In a volatile market, even if the price of Bitcoin does not reach $42,000, the value of the option may still remain relatively high due to volatility. This means that even if you do not exercise the option, you may be able to sell it in the market for more than $500.
Understanding the basics of option pricing is essential for successful trading. If you want to learn more about options, you are welcome to join our community - Cash of King. Here, we provide a wealth of learning resources and communication platforms, including detailed tutorials, real-time market analysis, expert explanations and interactive discussions, to help you better master option trading skills.
