The September 40 puts your Broadcom play are deep in the money. Why not buy something at the money, which looks cheaper--at least on the surface? (September 5, 2001)

  When playing the downside the moves down can be fast and the moves back up can be fast as well. We are looking for movement as well as some protection. What do I mean? Deeper in the money gives us a good delta, and hence better movement on the option when the stock moves. September is a bit close to expiration, but same month options add to the movement. So, that gives us a good move. We also like deeper in the money for protection to a certain degree. We know that an option is made up of intrinsic value (the amount in the money, sort of the 'book value' of the option) and the extrinsic value (the out of the money portion that is made up of time value and volatility). With deeper in the money options you pay less and less for intrinsic and extrinsic value. If the stock goes nowhere, you lose less value in your option because you have the intrinsic value that will be dollar for dollar the amount the option is in the money.

Say you buy an option $10 in the money and pay $13 for it. An at the money option costs $5. On the in the money option you have paid $3 for time as the remaining $10 is how much money the option is worth at expiration if the stock holds steady. The at the money option at expiration is worth $0. If you hold to expiration and then sell, you lose only $3 on the in the money option versus $5 on the at the money.


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