These days, most stocks and exchange-traded funds have available put and call options. This opens up a multitude of choices for different options strategies, many of which we have discussed in this column. This vast number of available options may be bewildering for new traders. Today we’ll describe how to decode the massive list of alternatives on the option chain.
The two factors that distinguish one of the options for a given stock from another for that same stock are expiration date and strike price. For today let’s concentrate on expiration dates. For our explanations below, we’ll focus on options based on stocks and exchange-traded funds. Options on indexes and on currencies and futures differ slightly.
There are several different kinds, or series, of option expirations: monthly, quarterly, weekly, and LEAPS (long-term options). Here are the main features of the various series.
These have been offered for the longest time – since 1973, when listed options were first traded. The Monthly options expire on the third Friday of the calendar month. The particular calendar months which will have expiring options for a specific stock will depend on what cycle that stock has been assigned to by the options exchanges. The following table is from the website of the Options Industry Council, the trade group for the options industry:
The exchanges list options on a given security according to one of the following expiration cycles:
At any given time, there are at least four different expiration months trading on a particular security. All stocks & ETFs will have options listed for at least the two near-term expiration months along with two months from their expiration quarterly cycle. Recent exchange rules now allow for the listing of additional months beyond just four available expirations, so there are deviations from standard listing procedures.
Let’s look at an example. Today is December 22, 2015. The December monthly expiration was last week, on December 18, which was the third Friday in December.
Let’s say that a stock is assigned to Cycle 3, so that its regular expiration months are March, June, September and December. We know that there will be some expirations listed that fall in these months. But in addition, the rule above says “All stocks & ETFs will have options listed for at least the two near-term expiration months.”
So our stock would also have options that expire in January and in February, the two near-term expiration months, even though those two months are not part of its cycle.
Since February is not one of the months on this stock’s regular cycle (which includes March, June, September and December), the February options only became necessary after the December options expired, to meet the two-near-term-expiration requirement. So the February options would only have appeared on the option chain for this stock on Monday, December 21, right after the December options had expired on the previous Friday. The February options will thus have a total lifespan of just two months.
The rest of that rule reads: “… along with two months from their expiration quarterly cycle.” The next two months that fit that rule are March and June.
So, now the list of monthly expirations for this stock includes, at minimum, January, February, March and June.
The last sentence of the rule reads: “Recent exchange rules now allow for the listing of additional months beyond just four available expirations.” That means that if the exchanges feel that there would be a market for other monthly expirations in addition to the ones described above, they can add those months. We could call this the “and whatever else they want” rule.
Here is the option chain for the stock of General Electric (GE). GE is on Cycle 3, the March-June-September cycle.
The rules, as stated above, would account for the options shown at left for January, February, March, and June of 2016. We can see that there are also options for April 2016, which fall under the “and whatever else they want” rule.
In addition, there are also options that expire in January 2017 and January 2018. These are labeled as Monthly, but in fact are part of a different series called LEAPS, which we’ll cover next.
The purpose of LEAPS is to allow investors to hedge or speculate over longer periods than just a few months. The Chicago Board Options Exchange’s description of LEAPS is as follows:
“LEAPS options have the same characteristics as standard options, but with expiration dates up to three years in the future.“
LEAPS stands for “long-term equity anticipation participation securities”. Despite that imposing name, they are simply regular options that, at the time they are first listed, expire in a future year. They are usually (but not always) set to expire in January of a future year.
Other than their long lifespan, they are no different from any other monthly option. When the time comes in the future when the originally-LEAPS option’s expiration date falls into the range that would come under the regular monthly options expiration rules, then that option’s life continues as before until it expires. It is just no longer considered a LEAPS option at that point. This makes no difference at all in its behavior.
With the explanations of monthly options and LEAPS, we have accounted for all of the options visible on GE’s option chain shown above. There are, however, others we have not displayed yet, including:
Quarterly options have an expiration date on the last day of the month that ends the quarter, based on the stock’s cycle, even if that day is not a Friday. For GE, turning on the display of quarterly options results in a chain that looks like this:
The sole change is that now the Quarterly options for December 31, 2015 are shown as the first line on the chain. Note that if the quarter end fell on a date that would have been a regular monthly expiration date anyway, the option with that date would have been labeled as a monthly option. The special quarterly option for the same date would not have been added, as it would have been redundant.
Quarterly options can be useful for portfolio managers who rebalance their portfolios at quarter ends, so that their option positions can be made to coincide with these dates. Anyone is free to use the quarterly options, of course.
The last set of regular options are the weeklies. These expire on Fridays that would not otherwise be the expiration date for any other monthly, LEAPS or quarterly options. Not all stocks that have options have weeklies. They are offered on a stock if the exchanges and option market makers believe there would be a market for them. Their explanation of this is that they will offer weeklies if they feel there will be “sufficient liquidity,” which amounts to the same thing.
Originally, weekly options appeared on a Thursday and expired eight days later on Friday of the following week. Recently, exchanges have been offering multiple weekly options so that at any given time there is an expiration of some type on each of the next six Fridays. When a future Friday comes into the six-week window, if there is not already another monthly, quarterly or LEAPS option that expires on that date, it is added as a weekly.
Turning on the final setting on our option chain, which is to display the weekly expirations, the full chain of expirations for GE looks like this:
The Weeklies now take their place on the chain.
Now that we have described all of the possible expirations, the next step is to set out some guidelines for deciding which expirations are most suitable for a given purpose. We don’t have space to fully cover that this time so we will continue next week; but one consideration is that we want to select an expiration date where the options have small bid-ask spreads. This is because that spread is a cost to us. Of all of the series that exist, the monthly options could be called the “traditional” expiration in the sense that, that type has existed for the longest time. The monthlies have by far the most volume and open interest and, therefore, the smallest bid-ask spreads.
There are other considerations that are even more important in selecting expiration dates and strikes which we will discussion next time.
These short articles can only hit the high spots in the fascinating world of options. For a real education, contact your local center about our Professional Option Trader program.