Q & A. Pricing options below intrinsic value

Hi Mark,

I always appreciate your simple and clear explanations on OPTION trading.

Please help me out in this question:

CME-Price on 4 Sep 09 = $270.00

CME Price Today =  $310.        A Gain of $40.00.

OPTION" JAN 190 call:

Price on 4 Sep = $77.90

Price Today =    $122.00
A Gain of $45.00


DELTA=.97;  VEGA=.14;  IV=54%

Please explain the OPTION price move.
I expected the ITM OPTION to move $39.00, not $45.

I am just wondering what role did the other two GREEKS played in this OPTION .
I have not yet invested but am interested in buying may be TWO contracts.




Hi NG. 

It's nice to hear from you again.  But, today, I'm taking a harsh tone with you.

I believe I am very patient and take the time to help each individual solve his/her problems.  But today's question really bothers me on so many levels.

1) Why would you want to trade these options?  Did you just fixate on the Jan 190s and that's the end of the story?  The bid/ask spread is more than $3 wide as I write this, and you will not get filled at a good price.  When trading deep ITM options, there is little incentive for the market makers to care about your 2-lot and even less incentive for them to give you a fair price. 

2) Did you even look at the Jan 200 calls?  Or the 210s or the 220s?  If not, why not?   Each of these is a also deep ITM call, and if it suits your objectives to trade these options, the least I can do is offer guidance.

Each of those other calls is a better option to buy than your 190s – according to the current bid/ask prices.  Would you rather pay 122 for the 190 calls, or 112 for the 200 calls or 102 for the 210 calls?

It's foolish to pay $122 for the 190 calls when you can buy the $200 calls for $112.  And it's even less intelligent not to buy the 210 calls, if they are available at $102.  Do you recognize why that's true?

When you buy an option that is deeper ITM than another option, you must NEVER pay as much as the full difference between the strike prices for the higher priced option compared with the lower priced option.  Never.  Why?  When expiration arrives, the 190 call is going to be worth $10 more than the 200 call.  [I'll assume you understand why that is true and move on].  You cannot afford to pay that extra $10 now.  For two solid reasons: 

a) Paying that $1,000 means paying interest on that $1,000.  You pay interest and have absolutely nothing to gain. Nothing  Paying $12,200 for the 190 call instead of $11,200 for the 200 call would be doing exactly that.  But you do have something to lose:

b) If the stock tumbles and falls below the strike price, then your call expires worthless and you lose an additional $1,000 by buying the more costly call.  You lose that $1,000 (ok, I admit it's unlikely – about a 3% chance) for NO reason. You can never gain and may lose up to $1,000 extra.  Why would you do that?  [The 97 delta says there's a 97% chance the option will be ITM when expiration arrives, and a 3% chance it will be OTM]

The very fact that you are looking to buy the 190 calls tells me that you do not understand options well enough to be trading them.  But please do not let me stand in the way.  If you want to own 200 delta worth of CME, then do it.  But if you plan to use options, you must understand why the 190 call is a very poor choice.


You want to look at live option data, when determining the price of an option.

I am nitpicking here, but neither iVolatility nor your broker can give you the 'price' of an option.  It can show you the bid and show you the offer, but that's all.  The best 'price' to use is the mid-point between the bid and offer, NEVER NEVER NEVER use the 'last' as any indication of current price.  Especially with an option that is deep ITM.  It probably trades very infrequently and the 'last' price may be weeks old.

The option did not move  $44 (not $45) when the stock moved $39.  The prices you are using for the option are bad prices.  Not accurate.

With the stock trading at 270, this call option was in the money by 80 points, and it's INTRINSIC VALUE was $80. 

That means this option is worth $80 at the very minimum – and is worth more because a call owner only has to pay $8,000 to control 100 shares of stock and the stockholder has to pay $27,000 to buy 100 shares.  That $19,000 difference can be invested to earn interest and that interest adds to the value of the call option.  That's why the call is worth more than the $80.

The bid may have been $77.90 but no one who has the slightest understanding of how options work would consider selling at that price.  Never.  That's why it's a bad price.  Nor should you be using a price that is under parity as the current price of the option.

And in your question, you use a price quote that is 2 points over parity.  With stock at $310, the option has an intrinsic value of $120.  No one should pay $122.  It may have traded at $122 but it would be a bad idea to pay that price when the stock is $310.  It's not the price you should use to evaluate current the price of the option.

Once again, dealing with options such as these, always use the average of the bid and ask as a reasonable ESTIMATE of the option price.  I don't know where your broker got their 'price' but it's not the price you want to consider.

None of the other Greeks come into play with this option, except in a very minor way.

What really bothers me is:  How can you NOT know that $77.90 was $2.10 under parity and thus an unrealistic price?

For some people, options are easy to understand.  For others, a greater effort is required.  But to consider using options, and real money, when you do not understand that options are not priced below intrinsic value, and recognize that you never want to use less than the intrinsic value for the price of a call option, is a bad idea. You MUST grasp the concept that this option was worth more than 80 and selling it at any lower price is equivalent to throwing money into the trash can. 

NG, I don't want to take it out on you personally, but if you fail to understand this very basic concept, what does that say about me as a teacher?  I am very upset.


As I was ready to publish, I heard from NG again:


Thanks for your explanation (reply to a comment).
I can only tell you what I found.

TD Waterhouse data for OPTIONS are my only source OPTION data.
TD Waterhouse says the THOMPSON REUTER is the data source.
I have noticed that some of the OTM- DELTA values vary by a large amount between what TDW says and what IVOLATILITY.COM says.

For example CME – OCT 360 C -DELTA values are as follows


I asked my broker about this discrepancy and they said that
they cannot comment on IVOLATILITY.COM.
They feel that TDW values are correct. The front line guy
said that these values are calculated by complex formula and has no idea why these two sources differ so much.

I am trying to learn from experts like you how best to adjust
the RISK/ REWARD in CALL buy ,when I feel that stock may go up.
I am looking forward to your in depth discussion
of effect of IV and VEGA in option pricing.

At the moment I just look at DELTA and IV to determine
how much ITM CALL option to buy.
I learned that from you a while back, but still not quite sure
how to use IV in my BUY decision.

I remember you said earlier that HIGH IV is a risky situation
and OTM CALL or PUT can misbehave i.e. go opposite to stock price movement.
I am trying to use ITM option strategy.
I will look forward to your sage advice in RISK /REWARD
of ITM CALL/PUT buying.

Thanks again.



1) I appreciate that the only data you have is 'what you found.'  But that does not mean you must accept it blindly.  That $77.90 price was under parity by more than $2 and you must recognize when the data you see is incorrect.

I'm not telling you that when at option is priced at $1.50 you should be able to see that it should be $1.70 instead.  But this is a deep ITM option and you cannot just accept any price that's given to you when it is likely that the price quoted is 'last.'

2) There is something very wrong when you see delta of .28 and .09 for the same option.  Here's what you have to do.  [I really don't want to take the time to do it for you].  Use a calculator, such as this one.  Plug in the variables, including the volatility estimate and look at the option's theoretical value.  Determine which volatility gives a better estimate of the real market price) – and I do not mean your broker's price.  I mean the bid/ask midpoint).

3) People who buy call options do not hedge the position – most of the time.  Buying a call spread is one way to hedge, but nothing in your prior comments suggested that you were looking to hedge delta.  If you want to learn more about credit spreads, there are sources, including The Rookie's Guide to Options.  I cannot give an entire lesson to answer your question.

You want to buy deep ITM options.  To me, that's almost the same as buying stock.

4) IV and vega affects on option pricing are separate discussions in their own right.  You 'use IV' in your decision of which call to buy when an IV change makes a significant difference in the theoretical price of an option.  But, you are dealing with very deep ITM options.  They trade very near parity, and that means no time premium in the option.  The effect of vega shows up in the time premium and this option has none.  Thus, there is virtually ZERO effect of IV on the price of the option you want to trade.  Again, I ask, if you learned from me, why don't you know that?  I do not understand how that's possible.

You do not need an expert to teach this to you.  No time premium in the price of an option means the amount of time remaining is unimportant.  It means IV is unimportant.  You MUST learn that the price of an option = intrinsic value + time value.  If you don't get that, you will never understand how options work.

5) You have drawn another erroneous conclusion.  If I suggested NOT buying OTM options – especially when IV is high, that DOES NOT suggest you should buy ITM options instead.

The opposite of NOT buying OTM, is buying OTM.  It is NOT buying ITM.  I never suggested that you buy deep ITM options.

Here's my sage advice regarding buying options that are 120 points in the money: DON'T DO IT.

I hope I did not offend you but your questions hurt me to the core.  I am very upset.


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