Kappa – Definition

Cite this article as:"Kappa – Definition," in The Business Professor, updated April 7, 2020, last accessed October 29, 2020, https://thebusinessprofessor.com/lesson/kappa-definition/.

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Kappa

Kappa is a ratio that measures the effect of volatility on the price of an option. It measures how much an option’s price will change given the level of implied volatility, regardless of whether the underlying stock’s price remains the same. Kappa holds that if the underlying investment has a 1% chance, the change in the price of the option will likely occur.

Kappa is referred to as Vega in Greek and the letter “V” symbolizes volatility. Kappa can either be positive pr negative, given the level of change in the price of an option as a result of implied volatility.

A Little More on What is Kappa

Kappa is important to investors, it tells them how much impact a change in volatility will affect an option’s value or price. Kappa also refers to the change in the premium that an investor paid for an option for every 1% change in the implied volatility of the underlying asset. Individual options have a Kapa, while a portfolio comprising of several options or securities has a net kappa (chich is realized by summing up the kappas of each position).

When a long option has a positive kappa, it means the option increases in value as the implied volatility increases. Negative kappa, on the other hand, is attributed to a short option and means that the option increases in value as the implied volatility reduces.

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