What is Delta?
How Does Delta Work?
Let's assume you own a call option on Company XYZ stock. If the price of Company XYZ stock increased by $1.00 and the call option increased by $0.80 in the same time period, then the delta is 0.80 ($0.80/$1.00).
Put options work inversely. Since put options lose value as the underlying security increases, delta is a negative number. If a stock increases $1.00, and the put price decreases $0.50, then the put option has a delta of -0.50. Deltas aren't constant and change according to fluctuations in the underlying stock's price, time left on the derivative until expiration, and volatility in the underlying stock.
Why Does Delta Matter?
Delta allows derivatives traders to understand what sort of risk/return they can expect from an investment. For instance, if they believe a stock will increase $2.00 per share in the near future, they can buy a call option on the stock. By using the delta calculation, the investor can calculate their potential gain from the stock's move -- important information to know before taking a risk.
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