Natural Gas Option Price
The futures natural gas price, and the natural gas option
price is not the same thing. Option price valuation is not as straightforward as futures valuation. Option premium
is comprised of intrinsic value and extrinsic value.
An option has intrinsic
value if the market is trading above the strike price of a call option, or below the strike price of a put option. If an option
contract has intrinsic value it is called “in the money.” If an option contract does not have intrinsic value
it is called “out of the money.”
For example:
If natural gas is trading at $6.00, a $5.85 call option is $.15 in the money so the intrinsic
value of the option is $1,500.
The extrinsic value of
the option is its “time value.” Extrinsic value takes into account the possibility that an option may go in the
money by expiration. The more time that an option has, the more extrinsic value it has. As an option approaches its expiration
date it loses value. This is called time decay. At expiration an option has no extrinsic value so if the option is out of
the money it expires worthless.
Natural gas option prices
do not move in tandem with futures prices. A $.01 move in your favor in the natural gas futures markets does not necessarily
equal to a $.01 increase in the natural gas option value. The amount that an option value will increase based upon an increase
in its futures price is called its delta. Call option deltas are measures from 0 to 1. As an option goes from “out of
the money” to “in the money” its delta increases.
For example:
If a natural gas call option has a delta of .5 and the price of the natural gas futures
market increases by $.01 the value of the option will increase by $.005 or $50.
If you are a speculator
with a limited amount of risk capital then natural gas options may be best way for you to invest in the natural
gas market.
