VEGA - Price Sensitivity to Implied Volatility



In options trading, Vega (ν) is a measure of the sensitivity of an option's price to changes in implied volatility. Vega measures how much the price of an option will change Vega is a measure of the sensitivity of an option's price to changes in implied volatility. Vega measures how much the price of an option will change for every 1% change in implied volatility.. It is an important option Greek, especially for traders who focus on volatility trading.


Example

Let's say you purchased a call option for a stock with a strike price of ₹100, a current stock price of ₹105, and an expiration date of one month. The option has a Delta of 0.5, a Gamma of 0.1, a Theta of -0.02, a Vega of 0.05, and the current implied volatility is 20%.


If the implied volatility increases by 1% to 21%, the Vega of the call option would be multiplied by the change in implied volatility to calculate the change in the option price. In this case, the call option price would increase by 0.05 x (21% - 20%) x ₹105 x 0.5 = ₹0.26. This means that the option price would increase by ₹0.26 for every 1% increase in implied volatility.


Conversely, if the implied volatility decreases by 1% to 19%, the call option price would decrease by 0.05 x (20% - 19%) x ₹105 x 0.5 = -₹0.26. This means that the option price would decrease by ₹0.26 for every 1% decrease in implied volatility.


The impact of Vega on option prices can be significant, especially for options with longer maturities or for options that are out-of-the-money or at-the-money. This is because these options are more sensitive to changes in implied volatility. On the other hand, options that are deep-in-the-money have lower Vega values and are less sensitive to changes in implied volatility.


Traders who focus on volatility trading often use Vega to help identify trading opportunities. For example, a trader who expects volatility to increase may purchase options with high Vega values, while a trader who expects volatility to decrease may sell options with high Vega values.


Summary

Vega is a measure of the sensitivity of an option's price to changes in implied volatility. Vega can have a significant impact on option prices, especially for longer-term or at-the-money options. Traders who focus on volatility trading often use Vega to help identify trading opportunities.