Time Value (Option)
IntermediateThe time value of an option is the part of its price above its intrinsic value. It reflects the possibility that the option will become more valuable before it expires.
An option's premium equals its intrinsic value plus its time value. Even an option with no intrinsic value can have a price, because there is still a chance that the underlying asset will move favourably before expiry.
For example, if a call option with a strike price of 50 trades at a premium of 7 while the share price is 55, its intrinsic value is 5 and its time value is 2. An out-of-the-money option priced at 1.20 has no intrinsic value, so its entire price of 1.20 is time value.
Time value depends mainly on two things: the time remaining until expiry and the expected volatility of the underlying asset. More time and more volatility increase time value, because they give more opportunity for a large favourable move.
Time value falls as expiry approaches, a process called time decay, and reaches zero at expiry. This decay usually speeds up in the final weeks. Option buyers lose time value each day if the price does not move, while option sellers benefit from it, which is a key consideration in many options strategies.
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