Why Use ITMs for Spreads?

Thanks to AW10 and others, I am strading spreads. The question is whether to go for ITM spreads or OTM spreads.

Suppose Nifty is at 5000, and I expect it to go down. Typically, I buy 5000Put and sell 4900 Put. So I am in the range of OTM spreads.

However, one can also go in for Buy 5100 Put and sell 5000 Put. Thats an ITM spread. Does anyone know of a logic why ITM spreads could be superior to OTM spreads?

Any help is welcome

Hi

Test on your option analyzing software spreads with different option expiration time frames itm and otm and you will have your non independent answers for the future.

Compare for example the 45 day expiration with the 29 day expiration of the options. Test it on stdv 1 with itm and otm options and you will see the different in probability, risk and reward.

DanPickUp

Dan,

I have done that. That is why there is a confusion in my mind. The spread price does not significantly differ till 4 days to expiry.

Can you be more specific? I am serious.

Hi

If your criteria by testing different spreads on different time frames are always the same ( Where to place the spreads (Stdv) and a fixed amount of money for the spread ), then there will be only the PP left.

The PP ( Probability of Profit ) shows you the clear risk you take with all the different spreads you can trade.

That should be the final criteria to choose whatever spreads you want to trade.

Tc

DanPickUp

my 2 cents :

ITM options have [comparatively] less time value as compared to ATM/OTM. And it would be wise to buy intrinsic and sell time.

hence, i believe [with my limited knowledge] that spreads on ITM + ATM combo would have a better payoff than ATM + OTM.

Example : as of this moment following are the premium values of options:
Index - 4942
ATM Put - 4900 and 4800
Premium - 114.80 and 83.45 [all time value on both]; spread cost = 31.35
ITM Put - 5000 and 4900
premium - 159.10 [58 IV and 101.1 TV] and 114.80 [TV]; spread cost = 44.30

so you are paying rs.101.1 as 5000 put's time value with 58 as IV, while the entire 114.80 for buying 4900 in the earlier scenario is TV; that's a difference of rs.13.70 of time value between the two.

IT ALSO HAS TO DO with delta..ITMs have higher delta and OTMs have lower delta.
so if you if you buy ITM option, if the price moves in the either direction, the premium gain/loss is higher in the ITM options than the OTM options

so, the ITM option you bought will be appreciate faster in premium price than the one that you sold(OTM) if the market moves in the direction you want...

that's what you want, right?

if the market moves in the other direction, then you will also lose more.. but that is a different story...

I'm a beginner, so take it with a fistful of salt...