# How are options valued

## Evaluation of options

The valuation of options is a crucial factor for the successful options trader.

This involves the valuation of options when buying, but also the ongoing valuation of options from the portfolio. Three factors are important in evaluating options:

### Three important factors in evaluating options

1. Target price of the underlying

2. Base price of the option

3. Term of the option

Valuation of options: 1. Target price of the underlying

There is an expected trend for every trade. In the case of a call, it is directed upwards, in the case of a put it is downward. The expected target price of the underlying is also important for the valuation of options.

Let's say a share (base value) is quoted at 50 euros. If you expect the price to move 25% upwards, the target price is EUR 62.50. If you expect a 25% downward movement, the price target is 37.50 euros.

Valuation of options: 2. Base price of the option

The strike price of the option should be roughly the same as the price target of the option. However, depending on the term of the option, the base price can also differ.

However, the base price must be in the price region of the target price. In the example above with the share quoted at 50 euros, a reasonable base price for calls is around 60 euros and for puts it is around 40 euros.

Valuation of options: 3. Duration of the option

The term of the option must be chosen so that the base value (here the share) can at least reach the base price of the option by the last trading day of the option.

### Evaluation of options: interaction of the 3 criteria

To evaluate an option, the question is:

Does the share price reach the base price of the option within the remaining term?

Answer “yes”:

There are good chances of winning. This option is a purchase or should remain in the depot.

Answer “no”:

The option may not be bought or must be sold (closed) as quickly and as best as possible.

### The current price of the option is not a criterion for profit opportunities

I haven't talked about the current price of an option at this point. Because this is not important for the evaluation of options.

It has no influence on my decision and the recommendation to hold or sell options.

The prices of indices and stocks fluctuate very strongly, especially in the current stock market phase. Due to the leverage effect of options, these often have price jumps of 30%, 50% and also significantly more within a few trading hours or trading days. An option bought for 2.00 euros can stand at 0.80 euros today and a price of 3.50 euros in a few days.

This is not unusual, in fact typical of options. Even an option that is only quoted at EUR 0.10 can rise to EUR 2 or EUR 3 within its term and ultimately even unlimited in price. These price jumps show that current prices are not meaningful for evaluating options.

### Two “formulas” for evaluating options

With the information given above, you can estimate the profit prospects of an option well.

1. Evaluation of options: “Formula” for a call

Can the share price reach the base price of the call up to about 4 weeks before the call expires, or can it significantly exceed it by the call's expiry date?

Answer “yes”:

You have a good investment.

Answer “no”:

The profit target of the call must be adjusted or the call must be sold.

2. Valuation of options: “Formula” for a put

Does the share price fall significantly lower up to about 4 weeks before the put's expiry to the base price of the put or by the put's expiry date?

Answer “yes”:

You have a good investment.

Answer “no”:

The profit target of the put must be adjusted or the put must be sold.

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