Traders sometimes tend to lump all options together: in-the-money (ITM), out-of-the-money (OTM), at-the-money (ATM), front month and back months, puts and calls. However, I like to think of options as having personalities. They don't all behave the same.

For example, if you tend to trade single-option directional trades on equities or equity-related indices, buying a call or a put, you might have noticed that puts tend to hold onto their value better than calls when they go out of the money. I think of puts as having a kind of Steady-Eddy personality while calls are a bit flightier.

Why would equity puts hold onto their values better as they go out of the money? That harks back to the reason that options exist at all. They're insurance. Retail traders, institutions and hedge funds all might be buying OTM puts as insurance, so the price tends to stay steadier.

They stay steadier because their implied volatilities tend to pick up, creating the typical smile skew we see in a particular month's puts on equities. The skew can be much different on commodities.

Volatility Smile for RUT APR Puts as of APR 3:

I wasn't trading options before 1987, so I can't speak from personal experience, but I've read in many sources that this type of smile skew was a result of that particular market disaster. Some writers suggest that it didn't exist in the same form previous to that disaster. However, more people want put insurance below the market values now than they did before 1987, when they realized what could happen in a single day. That buying of deep OTM puts keeps their volatility and their prices higher than they would be otherwise.

Of course, as expiration approaches, all that volatility that plumps up the extrinsic part of the option's value will eke out of the option. An OTM option is going to go to zero at expiration.

Here, too, different options have different personalities. Some will stay steadier for longer than others will. It turns out that in- or near-the-money options and OTM options' extrinsic value decays differently. As Jim Bittman mentions in Trading Options as a Professional, and as I've mentioned from my own experience, far OTM options tend to decay a larger percentage in the period from 60 to 30 days than they do from 30 to 0 days to expiration. That differs from at-the-money or near-the-money options. Their decay graph is the one we're used to seeing, the one that is fairly steady until expiration approaches. Then the decay suddenly accelerates in a much steeper curve as option-expiration nears.

Why do you care about any of this? Maybe you don't. However, what if you have a butterfly with ATM options you've sold and far OTM options that you've bought as a hedge? What if you've bought that butterfly 60 days out or 30 days out? Will those two butterflies behave differently? Probably so, Bittman might argue. The extrinsic value in your far OTM option might start decaying more rapidly about 60 days out while the ATM ones hold their extrinsic value a bit longer, if all else remains equal. That means that those hedging longs you bought aren't such a good hedge as they were when you first placed the trade although they still do serve their purpose of keeping margin requirements at bay. However, closer to expiration, the ATM's will start losing extrinsic value more rapidly then they did previously.

These different personalities might impact when you place a trade, then, and how that trade reacts to different market conditions. What if you're selling premium, mainly using OTM options such as with iron condors? This is different than the butterfly, which employs both ATM and OTM options. Only far OTM options are used for iron condors, with the exception of the specialized version that constitutes an iron butterfly. All those far OTM options might decay similarly as long as they're at least 5 to 10 percent OTM while the butterfly's ATM and OTM options are expected to decay differently.

As I've quoted previously, Bittman says, these conclusions "should give pause to traders and investors who employ strategies that sell options consistently, especially if the sold options are 5 or 10 percent out of the money" (67). His evidence "suggests that under certain circumstances, selling a two-month option, covering it one month before expiration, and then selling the next two-month option can bring in more time premium than selling one-month options every month" (67). Of course, that tactic also exposes one to more price movement and event risk. Remember, though, that Bittman is talking about strategies that employ selling options at least five to ten percent OTM here, not strategies that are selling ATM options, such as butterflies and calendars.

If your options strategies are all working fine, there's nothing to concern you here. However, if your complex options strategies aren't behaving as you expect them to do, it may be because you're employing options that have a different personality than you expected. I wouldn't suggest Bittman's book for easy reading, but I would suggest it for a reference text if you're coming up against some unexpected behavior among your options strategies. You may have expected a butterfly to be profiting from a decrease in volatility, and it doesn't, or a calendar to behave better when volatility increases, and find that doesn't happen. Buried somewhere in Bittman's dense text, you may find the answer.