Cboe Nano Options
Making Sense of Nano Index Options: What to Know Before You Trade
Do you want to trade Nanos options but have concerns about the learning curve that comes with trading index options? Knowing these product details may help.Read More
Your Nano Index Options Trading Guide: Breaking it Down
Do you want to trade Nanos options but have concerns about the learning curve that comes with trading index options? Knowing these product details may help.
Trading S&P 500® Index (SPX®) options has benefits—you gain exposure to the broad-based US market index in a single product, may reduce your overall portfolio risk exposure, receive possible tax benefits, and so on. If you’re an individual trader, Nanos S&P 500 Index options (Nanos)* are a great way to trade index options. But they have some characteristics that are different from those you would find in single stock or ETF options contracts. So, before you trade Nanos, it’s a good idea to familiarize yourself with some of their unique characteristics.
Benefits of Trading Index Options
Professional traders often trade SPX options to size their hedging strategies bets relative to their total portfolio. Their objective: to make more winning trades than losing ones. You can use a similar strategy with Mini-S&P 500 Index (XSP) options. But the downside of trading SPX options is the high notional value of these options. Nanos have a small notional value, so it’s possible to tailor your position size relative to your portfolio size. That way, you can trade like the pros.
But what is notional value? What about multipliers, exercise style, and settlement?
Let's dive into some of these terms.
Notional value has to do with the total value of your options position, or how much an options contract controls, without taking margin into account. It’s the maximum amount you could lose on a long position.
When trading stocks, the notional value is straightforward. If you own 100 shares of stock at $20 per share, the notional value is $2,000. That's how much you control or how much risk you have taken on by buying those 100 shares of the $20 stock. Say you buy an option for a stock that's trading at $20. The notional value of the option will be $2,000 regardless of the price of the option.
The notional value of index options is calculated based on what is referred to as a multiplier (more on that below). SPX options contracts have a $100 multiplier, so if the SPX was trading at 3600, the notional size of the SPX options would be the full value of the SPX multiplied by $100, or $360,000.
The Mini-SPX option also has a contract multiplier of $100 but is 1/10th the value of the SPX. So, it has a smaller notional value at $36,000 ($360 x $100). The SPDR S&P 500 ETF (SPY) options have the same notional value as the XSP.
Nanos have a multiplier of one and Nanos are 1/100th the size of the XSP. So, if the XSP is trading at 360, the notional value of a Nanos contract would be $360—much more manageable for individual traders to control.
Keep in mind that you don’t have to put up the entire notional value when you buy an options contract. However, your account must have enough capital to cover the notional size of the position. When you buy an option, you’ll have to pay the price of the option contract or premium to gain exposure to the notional value of the underlying. To understand option premiums, multipliers enter the picture again.
Multiplier for Calculating Option Premiums
A standard option contract gives you the right, but not the obligation, to buy or sell 100 shares of an underlying. Most stock or ETF options contracts are made up of 100 shares. In other words, they have a multiplier of 100. If you buy a call option for $1.50, the market price of that contract would be $150 (100 x $1.50). Since the SPX and XSP options also have multipliers of 100, you would multiply the option premium by $100 to calculate the market value of the option contract.
But Nanos is a one-multiplier option—the only listed option that’s a one-multiplier—so if the option is priced at $1.00 that would be how much premium you would pay or receive for that Nano option (plus applicable fees and commissions).
Another key difference between stock and ETF options and Nanos is the exercise style. Nanos are European-style options, which means they can be exercised only on the expiration date of the contract. If you’re an option seller you can better manage your risks since there’s no risk of being assigned shares during the lifetime of the option. In addition, European-style exercise means you don’t have to worry about exercising for a dividend or interest considerations. Conversely, single stock or ETF options are American style, which means they can be exercised at any time before expiration. Some brokers may even restrict opening American-style options on the day of expiration.
There's also a difference in the settlement. When options are traded, there’s a buyer and a seller. Settlement completes the process of the risk transfer between the buyer and seller. When you buy one option contract on a stock or ETF, you receive physically delivered shares of the underlying at settlement. The payment would be equal to the amount of the strike price of 100 shares of the underlying. With Nanos, the settlement payment is in cash, which means the payment is equal to the difference between the strike price and settlement value. Learn more about why option settlement style matters.
You should discuss potential tax issues with your tax advisor, but generally Nanos get the 60/40 tax treatment like most index options. That means 60% of your capital gains will be taxed as long-term and 40% will be taxed as short-term.** Single stock or ETF options are taxed at short- or long-term capital gains rates depending on how long you held the position.
Nanos Terminology in Play
The example in the table below can help clarify the idea of notional value even further. Say the Nanos were trading at $370. You want to buy a 368 call option that expires on October 21.
Notional value = (number of contracts) x (the multiplier) x (the strike price). In this example, the notional value would be 1 x 1 x 368 = $368. The option premium would be 1 x 1 x 4.25 = $4.25. So for $4.25 you could potentially control $368 of the S&P 500 Index.
Practice, Practice, and Practice
Explore the Nanos contract specs and become familiar with their unique characteristics. Try scaling up with different options trading strategies using a simulated trading account with one of the brokerages that offer them. Remember, trading is about having more winning trades than losing ones. But before trading Nanos, you should discuss with your broker whether trading Nanos is right for you and review the Characteristics and Risks of Standardized Options (or Options Disclosure Document) from The Options Clearing Corporation regarding risks associated with trading options.
*Nanos trade on Cboe as a $1 multiplier option (versus a $100 multiplier for standard options) on the Mini-S&P 500 Index, which is 1/10th the value of the S&P 500 Index.
**Under section 1256 of the Tax Code, profit and loss on transactions in certain exchange-traded options, including SPX, XSP and Nanos options, are entitled to be taxed at a rate equal to 60% long-term and 40% short-term capital gain or loss, provided that the investor involved and the strategy employed satisfy the criteria of the Tax Code. Investors should consult with their tax advisors to determine how the profit and loss on any particular option strategy will be taxed. Tax laws and regulations change from time to time and may be subject to varying interpretations.
Options are not suitable for all investors. Before trading Nanos, you should discuss with your broker whether trading Nanos is right for you and review the Characteristics and Risks of Standardized Options (or Options Disclosure Document) regarding risks associated with trading options.
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