In
finance,
moneyness is a measure of the the degree to which an
derivative security is likely to have positive monetary value at its expiration. An
option is
at-the-money if the
strike of the option is the same, or about the same, as the current price of the underlying on which the option is on. An
out-the-money option currently has no intrinsic value - e.g. a
call option is out-the-money if the strike is higher than the current underlying price. An
in-the-money option conversely does have intrinsic value. The strike of an in-the-money call option is lower than the current underlying price.
For example suppose the current stock price of IBM is $100. A call or put option struck at $100 is at-the-money. A call option struck at $80 is in-the-money. A put option struck at $80 is out-the-money. Conversely a $120 strike call option is out of the money and a $120 strike put option is in the money.
When working with the Black-Scholes model moneyness may be defined quantitatively. If we define the moneyness as
- <math> m = \frac{d_1+d_2}{2}</math>
where <math>d_1</math> and <math>d_2</math> are the standard Black-Scholes parameters then
- <math> m = \frac{\frac{S}{K}+rT}{\sigma\sqrt t}</math>
This choice of parameterisation means that the moneyness is zero when the forward/underlying price matches the strike after discounting at the risk-free rate. Moneyness is measured in standard deviations from this point, with a positive value meaning an in-the-money option and a negative value meaning an out-the-money option.