Terms and Abbreviations

Phrases are alphabetized by their most significant word. This word is usually the noun in the phrase.

A

Adjusted Option

Normally one option contract represents 100 shares of an underlying security. Some options represent a number of shares other than 100, represent more than one security, and/or an amount of cash. Adjusted options are commonly created during mergers and spin-off distributions. For a merger, it is common for the options of the company being absorbed to be adjusted to represent a calculated number of shares in the absorbing company. For a spin-off, it is common for options to be adjusted to represent shares in both companies plus some cash. Adjusted options are not processed correctly by the SelectOptions analysis programs. Information on an adjusted option's underlying security configuration is usually available at the major option exchange web sites. For example, on the CBOE's site you can usually locate this information by entering the option symbol into the site's "Search CBOE.com" function.

Assignment, Option

The fulfillment of the option contract. For Call Options, its is the delivery of stock from the option seller to the option buyer. For "cash settled" options, the equivalent value of the stock, in cash, is delivered by the option seller to the option buyer.

B

Black-Scholes Option Pricing Model

An option pricing model initially developed by Fischer Black, Myron Scholes, and Robert Merton for securities options. The 1997 Nobel Prize in Economics was awarded for this work. A detailed description of the model can be found on the web by searching for "Black-Scholes". A modified version of this model that accounts for continuous dividend payments is used by the analysis tools.

Break-Even

The price of the underlying that will result in neither a profit nor a loss. The return is equal to the original investment. Typically, in this web site, the "break even" point is calculated without consideration of brokerage fees or lost opportunity cost.

Bearish Investment

An investment that will result in a profit if the underlying increases in value.

Bullish Investment

An investment that will result in a profit if the underlying decreases in value.

C

Calculation, Brokerage Fee

Brokerage fees are calculated and used in portions of the analysis.
The stock trade fee calculation algorithm is currently hard coded as $29.95 for the first 1000 shares and $.03/share for additional shares.
The option trade fee calculation algorithm is currently hard coded as:
For less than 30 contracts, $29.95 for the first contract and $1.40/contract for additional contracts.
For 30 or more contracts, $29.95 for the first contract and $1.10/contract for additional contracts.
In addition to that a .00334% of proceeds SEC fee is added to both stock and option transactions.
This fee is calculated for each leg of a multi-legged trade.

Call Option

The contractual promise to sell shares of an underlying security at a specific price (strike price) for a specified time period. Typically, each contract unit represents 100 shares of the underlying security. The buyer pays the seller a "premium" to obtain rights to demand fulfillment of the promise. The seller receives the "premium" from the seller as compensation for incurring the obligations of the promise. Exceptions to the 100 share unit quantity exist, especially when trading index options. Analysis programs on this site assume that the contract unit is 100 shares. Do not use these analysis programs for securities that do not have contract units of 100 shares. The results will not be valid. Information regarding contract unit sizes can be obtained in the option exchanges. The above describes an "American style" option. "European style" options allow for the buyer to demand fulfillment on a specified date rather than foe a specified time period. See CBOE for a complete description.

Call, Covered

A "Short Call" option contract that is secured by shares the underlying security held in a portfolio. The strategy for Covered Call investing is discussed in the site's Education section under "Analyzing Simple Call & Put Options".

Call, Long

The option position that results from buying a Call option contract. Possessing a Long Call gives the holder the right to demand fulfillment of the terms of the option contract.

Call, Short

The option position that results from selling a Call option contract. Possessing a Short Call obligates the holder to fulfill of the terms of the option contract.

Call, Uncovered Short

A "Short Call" option contract that is not secured by shares the underlying security held in a portfolio. The risk from this type of option investment is unlimited. Uncovered Calls are generally not discussed on this web site.

Call Writing

Selling Call option contracts. This practice is considered very risky unless the Call option contracts are secured by portfolio securities. See Covered Call.

Contracts

Options are traded in units of "contracts". Typically, one contract maps to options on 100 shares of stock. The software on this site assumes that this is the case. Brokerage fees for option trading are usually based upon the number of contracts being traded.

D

Distribution, Lognormal Probability (formal description)

A distribution of a random variable whose logarithm is normally distributed. The lognormal distribution is geometrically symmetrical around its mean. That is, given a mean of m. The following pairs of values have equal probability: (2m,m/2), (3m,m/3), … (km,m/k). This distribution is often used in securities price modeling and is the basis for the Black-Scholes option pricing equations.

Distribution, Lognormal Probability (simplified description)

The probability curve that is often used to model security and derivative pricing. According to this curve, the likelihood of a security doubling in value is equal to it loosing half its value. Similarly, the likelihood of a security tripling in value is equal to it falling to one-third its value. Etc.

Distribution, Cumulative Probability

A curve derived from a probability distribution, where each y-value is the probability of all outcomes of its x or less. When applied to securities and derivatives, the x-values correspond to possible pricing outcomes. The y-value corresponding to a x-value is the probability that the outcome price will be x or less. This curve will start at zero on the left and climb monotonically to 1.0 (100%) on the right.

Distribution, Probability

A mathematical function (graphed curve) whose x-values are all of the potential outcomes of a process. The y-value corresponding to each x-value is the probability of that x-value occurring. When applied to securities and derivatives, the x-values correspond to possible pricing outcomes, and the y-value is the probability that the outcome of that price is achieved. The sum of all the y-values of a probability distribution is 1.0 (100%)

E

Expected Value

The average result that would occur if an experiment were to be repeated a very large number of times. For example, given a fair coin, if you gained $2 for each outcome of heads, and you lost $1 for each outcome of tails. If you flip the coin many many times, the average gain per toss (expected value) would be $0.50. This is computed by multiplying the probability of each outcome by its profit(loss) and summing these results.
(.5 x $2) + (.5 x $-1) = $0.50
If you flipped the coin one million times, you should expect to have gained about $500,000. Note that this result is not certain, you could lose $1,000,000 or gain $2,000,000, but the odds of either extreme occurring are miniscule. For any game of chance, if the "expected value" is in your favor and you can keep playing, you will accumulate winnings. If the "expected value" is against you, you will eventually go bankrupt.

ExpVal

See Expected Value.

F

Filter, Analysis

Our analysis programs typically run in three stages. (Screening-->Analysis-->Filtering). The "analysis filter" examines the result of the analysis and reports only the analysis results that fits the filter criteria.

G

Geometric Relationships

Geometric relationships are variations measured by a multiplying factor. For example, stock ABC increases in price from $10 to $12, while stock XYZ increases from $40 to $44. The geometric increase in ABC stock (a multiplier of 1.2) is greater than that of XYZ (a multiplier of 1.1). Geometric relationships are not quite the same as "percentage differences". Geometric symmetry is obtained via the reciprocal of the multiplier. The negative symmetrical geometric change for ABC stock is $10 to $8.33 (a multiplier of 1/1.2 or .833). This differs from a negative symmetrical "percentage difference", which would be $10 to $8.

H

I

In the Money

A call option is said to be "in the money" if the current value of the underlying security is above the exercise price of the option. A put option is said to be "in the money" if the current value of the underlying security is below the exercise price of the option.

J

K

L

Last

Last trade price of the underlying security.

Liquidity

Liquidity is a measure of the ability the ability to enter or exit an option position without a substantial change in the current option price. The trading volume of the security or option is used as the measure liquidity. Screening based upon liquidity will omit options which trade below a specified threshold from consideration.

M

Margin, Safety

The amount the price of an underlying security may change in the unfavorable direction before less than the "maximum profit" is achieved.

N

O

Out of the Money

A call option is said to be "out the money" if the current value of the underlying security is below the exercise price of the option. A put option is said to be "out the money" if the current value of the underlying security is above the exercise price of the option.

Overvalued

An option is overvalued if its current premium is higher than its computed theoretical value. This value is normally expressed as a percentage (current_premium / theoretical_value). The programs use the Black-Scholes options pricing equations to compute theoretical values.

P

Premium, Option

The premium is the price that the buyer of the option pays the seller.

Probability

The likelihood that a specific outcome will occur, expressed as a percentage. These percentages are rounded to the nearest whole percent. A probability expressed as 100% represents a value of 99.5% or greater. Similarly, a probability expressed as 0% represents a value of 0.5% or less.

Probability, Assignment

The probability that an option will expire "In the Money", thus resulting in the option buyer demanding fulfillment of the option contract.

Probability of Profit

The probability that an option will expire with its underlying security priced equal to or more favorable than the break-even price of the position.

ProbProf

See Probability of Profit.

Profit, Maximum

The profit per contract corresponding to the most favorable outcome. This profit is computed without regard to brokerage fees.

Put Option

The contractual promise to buy shares of an underlying security at a specific price (strike price) for a specified time period. Typically, each contract unit represents 100 shares of the underlying security. The buyer pays the seller a "premium" to obtain rights to demand fulfillment of the promise. The seller receives the "premium" from the seller as compensation for incurring the obligations of the promise. Exceptions to the 100 share unit quantity exist, especially when trading index options. Analysis programs on this site assume that the contract unit is 100 shares. Do not use these analysis programs for securities that do not have contract units of 100 shares. The results will not be valid. Information regarding contract unit sizes can be obtained in the option exchanges. The above describes an "American style" option. "European style" options allow for the buyer to demand fulfillment on a specified date rather than foe a specified time period. See CBOE for a complete description.

Put, Long

The option position that results from buying a Put option contract. Possessing a Long Put gives the holder the right to demand fulfillment of the terms of the option contract.

Put, Short

The option position that results from selling a Put option contract. Possessing a Short Put obligates the holder to fulfill of the terms of the option contract.

Put Writing

Selling Put option contracts to open a position.

Q

R

Rate, Risk Neutral Growth

The annualized expected rate of investment growth. Many publications refer to this number as the "Risk-Free Interest Rate". I prefer the term "Risk Neutral Growth Rate" because the way the number is used in the analysis algorithms. This number has the effect of setting the 50% point of probability distributions that are used in the analysis. For example, if we are trying to determine pricing a year into the future using a "Risk Neutral Growth Rate" of 10%. The pricing probability distribution will be constructed such that there is a 50% probability of achieving less than 10% growth and a 50% probability of achieving greater than 10% growth. Since the S&P 500 average annual return for that last 30 years is about 10% this is a reasonable value. However, calling the number "Risk-Free Interest Rate", would lead the user to enter the 1-year Treasury Rate (now about 2%) thus positioning the mid-point of the distributions much lower.
This term is subjective. You should specify the annualized rate that is your best estimate if the equity's price growth.
Because of the uncertainty involved in choosing this number, the analysis programs allow you to specify a range for it. The minimum value of the range is used for calculations that would show profit most strongly under bearish conditions. The maximum value of the range is used for calculations that would show profit most strongly under bearish conditions. This introduces a degree of conservatism (worst case analysis) into the result.
The growth rate values you specify are expected to be "annually compounded" rates. They are converted to "continuously compounded" rates (cont_rate = ln(1+annual_rate)) before they are used in computations. The "continuously compounded" rate is displayed in reports as the"effective" rate. Note that most pricing and probability calculators require a "continuously compounded" rate as input.

Return, Annual Max

"Annualized Maximum Return on Risk" is computed as the most optimistic outcome divided by the most pessimistic outcome (reward/risk). In cases where the most pessimistic outcome is infinite (such as the short sale of stock) the programs computes the "most pessimistic" result is at the 99th percentile (only 1% of the time will results be more pessimistic). Brokerage fees are not considered in the "gross return on risk" calculation.

Return, Annualized Net Expected

The "annualized net expected return on risk" is the annualized result of the investment's "expected value" divided by the amount risked on the investment. It is computed with consideration of brokerage commissions. See the "Expected Value" page of the Education section of this site for a more in depth discussion.

Return, Gross

The return on risk computed without consideration of brokerage commissions.

Return, Net

The return on risk computed with consideration of brokerage commissions.

Return on Risk

The profit corresponding to the most favorable outcome divided by the loss corresponding to the most unfavorable outcome. This value is expressed as a percentage.

Risk, Maximum

The "amount lost per share" corresponding to the most unfavorable outcome. This loss is computed without regard to brokerage fees. For investments that theoretically have infinite risk, the 99th percentile risk value is used.

Risk$

A report column header for Maximum Risk.

S

Safe

Report column name for safety margin.

Screen, Analysis

Our analysis programs typically run in three stages. (Screening-->Analysis-->Filtering). The "screen filter" examines the input the analysis eliminates input that does not fits the filter criteria.

Spread, Bull Put Credit

Selling an Out of the Money Put and simultaneously buying a Put on the same underlying and same expiration date that is further "Out of the Money". Since the option purchased is further "Out of the Money" the result of the initial option purchase and sale should be a positive amount, referred to as a credit. Maximum profit is the credit. This profit is achieved if both options expire "Out of the Money". Therefore, the safety margin for this investment is the percentage that the sold option is "Out of the Money". The worst case scenario of this investment is if both options mature In the Money. In that case the maximum loss (amount risked) per share of underlying is computed as long_put_strike_price - short_put_strike_price. Note that if your long option matures "In the Money", you must either exercise it or make an other closing transaction. Failure to do so will forfeit the gains from the option.

Spread, Bear Put Debit

Selling an In the Money Put and simultaneously buying a Put on the same underlying and same expiration date that is further "In the Money". Since the option purchased is further "In the Money" the result of the initial option purchase and sale should be a negative amount, referred to as a debit. Maximum profit is computed as long_put_strike_price - short_put_strike_price + debit (note that debit is negative, so adding it subtracts from profit). This profit is achieved if both options mature "In the Money". Therefore, the safety margin for this investment is the percentage that the sold option is "In the Money". The worst case scenario of this investment is if both options expire Out of the Money. In that case the maximum loss (amount risked) per share of underlying is the debit. Note that if your long option matures "In the Money", you must either exercise it or make an other closing transaction. Failure to do so will forfeit the gains from the option.

Spread, Bull Call Debit

Selling an In the Money Call and simultaneously buying a Call on the same underlying and same expiration date that is further "In the Money". Since the option purchased is further "In the Money" the result of the initial option purchase and sale should be a negative amount, referred to as a debit. Maximum profit is computed as short_call_strike_price - long_call_strike_price + debit (note that debit is negative, so adding it subtracts from profit). This profit is achieved if both options mature "In the Money". Therefore, the safety margin for this investment is the percentage that the sold option is "In the Money". The worst case scenario of this investment is if both options expire Out of the Money. In that case the maximum loss (amount risked) per share of underlying is the debit. Note that if your long option matures "In the Money", you must either exercise it or make an other closing transaction. Failure to do so will forfeit the gains from the option.

Spread, Bear Call Credit

Selling an Out of the Money Call and simultaneously buying a Call on the same underlying and same expiration date that is further "Out of the Money". Since the option purchased is further "Out of the Money" the result of the initial option purchase and sale should be a positive amount, referred to as a credit. Maximum profit is the credit. This profit is achieved if both options expire "Out of the Money". Therefore, the safety margin for this investment is the percentage that the sold option is "Out of the Money". The worst case scenario of this investment is if both options mature In the Money. In that case the maximum loss (amount risked) per share of underlying is computed as long_call_strike_price - short_call_strike_price. Note that if your long option matures "In the Money", you must either exercise it or make an other closing transaction. Failure to do so will forfeit the gains from the option.

Spread, Volatility

A delta-neutral option spread designed to speculate on changes in the volatility of the market rather than the direction of the market. This type of spread is currently not supported by analyzers on this site.

T

Theoretical Value

The value of an option as computed by the Black-Scholes option pricing equations for European style Calls or Puts on underlyings paying continuous dividends.

U

Underlying

The security or interest upon which an option is based.
Example: IBM stock is the underlying for an IBM Call or Put equity option.

Undervalued

An option is undervalued if its current premium is lower than its computed theoretical value. This value is normally expressed as a percentage (current_premium / theoretical_value). The programs use the Black-Scholes options pricing equations to compute theoretical values.

V

Volatility

Volatility refers to the computed standard deviation of the underlying's price fluctuations.

Volatility, Implied

The volatility that when input into a theoretical pricing model, would cause the theoretical computed price to equal that current actual price.

W

Write

1 verb : Creating a short position in an option by selling the option. The terms "selling options" and "writing options" are used interchangeably.

2 noun : A shortened reference to the simultaneous selling of an In-the-Money option and trading its stock. See Buy-Write and Sell-Write.

Write, Buy

Simultaneously selling short an In the Money Call option and buying equivalent shares of the underlying. Maximum profit is computed as the option_premium + call_strike_price - stock_purchase_price.
This profit is achieved if the option matures "In the Money". Therefore, the "safety margin" for this investment is the percentage that the option is "In the Money". The worst case scenario of this investment is that value of the stock going to zero. Therefore the amount risked is computed as stock_purchase_price - option_premium.
The goal of this investment is usually to have the Call option assigned and deliver the purchased stock to fulfill the option.

Write, Sell

Simultaneously selling short an In the Money Put option and selling short equivalent shares of the underlying. Maximum profit is computed as the option_premium + stock_sale_price - put_strike_price.
This profit is achieved if the option matures "In the Money". Therefore, the "safety margin" for this investment is the percentage that the option is "In the Money". The worst case scenario of this investment is that value of the stock becoming very high. Therefore the amount risked is computed as stock_sale_price - stock_buy_back_price - option_premium. Strictly speaking, there is no bound on the stock_buy_back_price and therefore the amount risked is infinite. But since stock prices have never increased to infinity, the SelectOptions.com analysis programs use a stock_buy_back_price equal to the 99th percentile of the cumulative probability distribution being used in the analysis.
The goal of this investment is usually to have the Put option assigned and close the short stock position with the stock received in fulfillment of the option.

Write, Sell (Warning)

The worst case scenario of this investment is the value of the stock becoming very high. Since there is no bound on how high the price of a stock can go, the amount risked is infinite. Since a stock price has never increased to infinity, the SelectOptions.com analysis programs use a stock buy back price equal to the 99th percentile of the cumulative probability distribution being used in the analysis. That means, under random conditions, there is a 1% chance that your actual losses will be greater than the displayed amount risked. Under non-random conditions, such as specific favorable news that is not yet priced into the stock, the risk of losses in excess of the displayed amount risked, is substantially greater than 1%. Also note that if you enter a "short" position on a dividend paying stock, you will be responsible for paying any dividends that have ex-dividend dates during your position. These dividends are not accounted for in the analysis and can have a significant effect on the profitability of a Sell Write.

X

Y

Z