What Is “Near the Money”?
“Near the money” describes an option whose strike price is very close to the current market price of its underlying security. Because it’s uncommon for the underlying’s price to match a strike exactly, traders commonly use “near the money” (or “close to the money”) in place of “at the money” (ATM). Near‑the‑money options sit between clearly in‑the‑money (ITM) and out‑of‑the‑money (OTM) contracts and have distinct pricing, risk, and strategy implications.
Key points
– “Near the money” = strike price is close to, but not exactly equal to, the underlying’s market price.
– ATM options typically have delta ≈ 0.5 (calls) or ≈ –0.5 (puts); near‑the‑money options have deltas slightly above or below that depending on how close they are.
– Near‑the‑money options often command higher premiums than far‑OTM options because they have a greater chance to finish ITM and contain more extrinsic (time) value.
– Whether a near‑the‑money option has intrinsic value depends on the sign of S – K: intrinsic value = max(0, S – K) for calls and max(0, K – S) for puts.
Understanding moneyness: definitions and examples
– In the money (ITM): exercising yields intrinsic value. Example: stock S = $20, call strike K = $19 → intrinsic value $1.
– At the money (ATM): strike K ≈ S. Example: S = $20, K = $20.
– Out of the money (OTM): exercising yields no intrinsic value. Example: S = $20, call K = $21 → intrinsic = $0.
– Near the money: K is close to S. Example: S = $20, call K = $19.80 or K = $20.20 — both are “near the money.” If K = $19.90 and S = $20.00, the call is slightly ITM with $0.10 intrinsic; if K = $20.10 it is slightly OTM with no intrinsic.
Why near‑the‑money matters to traders
– Probability and delta: ATM/near‑ATM options have deltas near ±0.5, so they’re roughly equally likely (by price movement) to end ITM or OTM. Traders use this when expressing directional views.
– Premium composition: near‑the‑money options typically have substantial extrinsic value (time value and volatility premium) and sometimes a small amount of intrinsic value if slightly ITM.
– Liquidity: strike series close to the current price usually have higher open interest and tighter bid‑ask spreads, making them easier to trade.
– Sensitivity to Greeks: ATM and near‑ATM options are most sensitive to changes in implied volatility (vega) and to price movement (gamma). Theta decay is also significant as expiration approaches.
Practical steps for using near‑the‑money options
1) Define your objective
– Directional bet (speculate on price move), income (selling premium), or hedge (protect a stock position)? Your goal determines whether you buy or sell near‑the‑money options.
2) Select strike(s) relative to outlook
– Slightly ITM (for buyers): lower premium per delta, higher intrinsic value, less time decay relative to premium.
– ATM / nearest‑ATM (for balanced exposure): delta ≈ 0.5, good leverage to directional moves, higher vega and gamma.
– Slightly OTM (for buyers seeking higher leverage): cheaper premium but lower probability of finishing ITM.
3) Choose expiration (time to expiry)
– Shorter-dated near‑the‑money options have faster theta decay and larger gamma near expiration.
– Longer-dated near‑the‑money options cost more (more extrinsic value) and are more sensitive to changes in implied volatility.
4) Evaluate premium and breakeven
– For a long call: breakeven = strike + premium paid. Example: S = $50, buy near‑the‑money call K = $50, premium = $2 → breakeven $52.
– For a long put: breakeven = strike – premium. Confirm that your expected move exceeds the premium cost.
5) Look at Greeks and implied volatility
– Delta: how much option price will move for $1 move in underlying. Near‑ATM delta ≈ 0.5.
– Gamma: rate of change of delta — highest near ATM and near expiration.
– Vega: sensitivity to implied volatility — big for near‑ATM and longer expirations.
– Theta: time decay — large for near‑ATM short‑dated options.
– Use Greeks to size positions and anticipate risks (e.g., big IV rise benefits long positions; IV crush hurts them).
6) Check liquidity and transaction costs
– Prefer strikes with meaningful open interest and volume to avoid wide bid‑ask spreads. Wider spreads can meaningfully reduce returns when trading near‑ATM options.
7) Size and risk management
– Size positions so maximum loss (premium paid for buyers; potential large losses for sellers) fits your risk profile.
– For sellers of near‑ATM options, consider defined‑risk alternatives (credit spreads) or hedges because selling naked near‑ATM options can be risky.
8) Monitor and adjust
– Track underlying price, IV, and time decay. Close, roll, or exercise positions as needed. If the option becomes deeply ITM or OTM relative to your plan, decide whether to take profit, cut losses, or adjust.
Examples
Example 1 — Buying a near‑the‑money call
– Underlying S = $100. You buy a near‑ATM call K = $100 for premium $3 (expiration in one month).
– Breakeven = 100 + 3 = $103. If stock finishes at $105, payoff = $5 intrinsic – $3 premium = $2 profit. Delta roughly 0.5 means a $1 move in the stock changes option price by about $0.50 (ignoring gamma/IV changes).
Example 2 — Selling a near‑the‑money covered call
– You own 100 shares at $100. You sell a near‑ATM $100 call for premium $3.
– You collect $300 premium; your downside remains (stock risk), but you get $3 cushion and cap upside above $100 (you may be called away if S > 100 at expiry).
Common strategies that use near‑the‑money strikes
– Long straddle (buy ATM call + buy ATM put): expects big move either way; highest vega exposure.
– Strangle (buy OTM call + OTM put): cheaper than straddle; needs bigger move to profit. Many traders use near‑ATM strikes for straddles for higher probability of being profitable but costlier premium.
– Spreads (verticals): use near‑ATM strikes to balance cost and probability; e.g., buy slightly ITM call and sell higher‑strike call to reduce net premium and define risk.
Checklist before entering a near‑the‑money trade
– Objective: speculation, income, hedge?
– Chosen strike and reason (ITM vs ATM vs OTM).
– Time to expiration and expected holding period.
– Premium vs expected move and breakeven.
– Greeks: delta, gamma, vega, theta.
– Liquidity: volume and open interest, bid‑ask spread.
– Position size and worst‑case loss.
– Plan: exit rules (profit target, stop loss, roll/adjust rules).
Practical tips and cautions
– Near‑ATM options are sensitive to implied volatility — if IV drops after you buy, you can lose money even if the underlying moves in the expected direction.
– Short‑dated near‑ATM options have rapid time decay; buyers must be timely.
– Selling near‑ATM options can generate premium but exposes you to large adverse moves; consider defined‑risk alternatives (spreads).
– Don’t ignore commissions and bid‑ask spreads — they matter most for near‑ATM trades where premiums may be modest.
Fast facts and rules of thumb
– ATM/near‑ATM options typically have delta ≈ ±0.5.
– Near‑ATM options often offer the best balance of leverage, probability, and liquidity.
– The closer to ATM, the greater the option’s sensitivity to changes in implied volatility and to gamma (accelerated delta changes).
Sources and further reading
– Investopedia — “Near the Money” (https://www.investopedia.com/terms/n/near-the-money.asp)
– CBOE — Options Institute: Options Basics and Greeks (https://www.cboe.com/education)
– Options Industry Council — Options Education (https://www.optionseducation.org)
Disclaimer
This article is educational and not investment advice. Consider your objectives, risk tolerance, and tax situation before trading options. Options trading involves risk, including possible loss of principal.