Options trading has always been a mysterious and controversial topic. One common belief is that 90% of options expire worthless. However, is this statement accurate? This article will explore the actual percentage of options that expire worthless, revealing the myths and realities of options trading and what the actual figures mean for you.
What Percent of Options Expire Worthless: The Myth
Some options “gurus” attempt to attract more investors by exaggerating the proportion of options that expire worthless. This promotional strategy can be explained by likening options trading to a casino. In a casino, the house always has an edge and profits from every game. By promoting the idea that “90% of options expire worthless,” these options “gurus” try to convince you that you can become the house by selling options and gaining considerable profits.
This myth implies that options sellers can let the options buyers take on the high risks while they sit back and profit. According to this belief, options sellers have a 90% win rate. However, for options buyers, this myth implies that they face significant risks with only a 10% chance of turning a profit. This perception might deter many investors from buying options, causing them to miss opportunities to achieve their investment goals.
What Percent of Options Expire Worthless: The Reality
Chicago Board Options Exchange (CBOE) Data
According to data from the Chicago Board Options Exchange (CBOE), option contract outcomes are as follows:
10% of option contracts are exercised
55% – 60% of option contracts are closed before expiration
30% – 35% of option contracts expire worthless (i.e., without any intrinsic value at expiration)
The Realities of Options Expiring Worthless
As you can see, only 30% – 35% of options contracts actually expire worthless. This figure is far from the widely circulated belief that 90% of options contracts expire worthless. The discrepancy might be due to the complexity of options trading. Many traders struggle to understand the mechanics of the options market, leading to misunderstandings.
It’s worth noting that only around 10% of options are exercised. So, if the statement were “90% of options are not exercised,” it would be closer to the truth.
However, not being exercised does not mean an option expires worthless! Unexercised options can have two outcomes: expiring worthless or being closed before expiration. Most options traders close their contracts before expiration to lock in profits or avoid more significant losses. Many of these closed options have provided gains for investors, so it’s unfair to lump them in with those that expire worthless.
What Does This Mean for You as an Options Trader?
Now that you know only 30% – 35% of options contracts expire worthless, what does this mean for you? In truth, this figure doesn’t hold much significance. Many options are deep out-of-the-money to begin with. It’s reasonable that these options will expire worthless. Moreover, whether an options contract expires worthless or not isn’t the sole determinant of profitability for you.
A substantial portion of options trading serves the purpose of implementing hedging strategies or multi-leg options strategies.
Actually, options were initially designed as financial derivatives for hedging. Hedging strategies help you reduce potential loss risks. For example, you can protect your stock portfolio by purchasing put options. If stock prices drop, the value of the put options will rise, offsetting some of the portfolio’s losses. Similarly, you can use call options to hedge short positions.
In these hedging strategies, options expiring worthless isn’t necessarily a negative outcome, as you anticipate this possibility and are willing to pay a particular insurance cost to mitigate risk.
Multi-Leg Options Strategies
Multi-leg options strategies, such as vertical spread, iron condor, and iron butterfly, can provide consistent returns in various market conditions. These strategies involve simultaneously buying and selling options with different strike prices and/or expiration dates. In these strategies, some options expiring worthless is expected, as it allows you to realize the maximum profit from the strategy.
Let’s use the iron condor strategy as an example. In this strategy, you sell an out-of-the-money call option and an out-of-the-money put option, while simultaneously buying a further out-of-the-money call option and put option to limit potential losses.
The goal is to profit from a range-bound market, where the underlying asset’s price remains between the two sold options’ strike prices at expiration. Ideally, the sold call and put options would expire worthless, allowing you to keep the premiums collected, while the bought options would only act as insurance in case the market moves against you.
In conclusion, the myth that 90% of options expire worthless is inaccurate. The actual figure is between 30% and 35%. As an options trader, you should not be overly concerned with this percentage, as it does not solely determine their profitability.
Instead, you should focus on using options for hedging or implementing multi-leg strategies to achieve consistent returns in various market conditions. Understanding the myths and realities of options trading allows you to make better-informed decisions and avoid falling prey to misconceptions.