Financial Glossary
Theta
Time decay: how much value an option loses each day as expiration approaches.
What is Theta?
Theta measures how much an option's value decays per day (or per time unit) as expiration approaches, assuming the stock price and implied volatility don't change. A call option with theta of -0.05 loses approximately $0.05 per day purely from the passage of time. Theta is negative for long options (you lose money from waiting) and positive for short options (you gain money from time passing).
Theta decay is slow early in an option's life but accelerates dramatically in the final weeks before expiration. An at-the-money option might lose $0.01 per day with 6 months to expiration but $0.10 per day with 2 weeks left. This exponential decay is crucial to understand if you're buying options and want to hold them for a while—you're fighting the clock.
Why Theta Matters
Theta is the cost of optionality. When you buy a call, you pay a premium that includes theta. Every day you hold it without the stock moving, you bleed money. This is why option buyers prefer explosive moves to happen quickly—the longer you wait, the less profitable a given move becomes because theta has eaten your profit.
Conversely, option sellers thrive on theta. They collect premium upfront and make money as time passes, assuming the stock doesn't move against them. Covered call writers and put sellers benefit directly from selling theta. This creates the gamma-theta tradeoff: long gamma positions (long options) pay theta; short gamma positions (short options) collect theta.
Disclaimer: Theta decay accelerates near expiration and can cause rapid losses if the stock doesn't move as expected. Real theta can differ from estimates due to implied volatility changes. Before trading options, consult a qualified financial advisor. Options involve substantial risk, especially from time decay.