Calculation and mechanics
At opening, the sold premium is divided by the margin contribution of the trade (maintenance margin). 500 premium on 2'500 margin is 20%. If the buyback value then falls, a paper profit arises. The remaining premium is what buying back all open legs costs net, for a credit spread the value of the whole spread. If it costs only 100, the remaining premium on the same margin is 4%.
To compare positions with different time to expiration, the remaining premium is annualized. 100 left on 2'500 margin comes to about 37% a year with 40 days to expiration and about 487% with 3 days. The figure relates the remaining premium to margin and time to expiration. It only holds if all options expire worthless and the margin stays unchanged until then. With only a few days left this produces very high values that are pure extrapolations.
The captured share is the paper profit at today's buyback value as a share of the premium: (premium - remaining premium) / premium. With 500 premium and 100 left that is 80%. It depends only on premium and remaining premium. Remaining premium against margin, by contrast, can only be compared directly with the value at opening when margin is unchanged.
Remaining/margin p.a. = remaining premium / margin x 365 / days to expiration
Distinction
Premium/margin is not a return in the classic sense, since margin is not invested capital but a changing collateral requirement. Nor is it a return on the account. The margin can change over the life of the trade and the max loss of an uncovered position can be a multiple of the margin. The annualized remaining/margin p.a. also assumes that the options expire worthless and margin stays unchanged. It is a theoretical rate, not a forecast.
The hedge budget relates premium to the cost of the open hedges, premium/margin relates it to the collateral tied up.
Related terms
- Sold Premium (Short premium, sold option premiums)
- Margin (Initial and maintenance margin, margin requirement, collateral)
- Max Loss (Maximum loss, max loss (limited), option max loss)
- Hedge Budget (Hedge cost ratio, hedge budget share)
- DTE (Days to Expiry)
All market and analytical information is provided for educational and analytical purposes only and does not constitute investment advice or a trading recommendation.