Theta is the change in an option’s value given a one-day change in time. All options lose value over time and as expiration approaches. The rate at which an individual option loses value is primarily a function of how much time remains until expiration. Options tend to decay the most in value during the final 30 days, at which point, price decay accelerates.
Theta is expressed as a negative number to represent the loss of value as time passes. Since the time remaining on an option can never increase, Time Decay is a one-way street. If Theta is -0.05, the option will lose $0.05 per day in value. Theta can change over time if the price of the Stock doesn’t change. So, an OTM $3.50 option with a theta of -0.05 today will be $3.45 in value tomorrow. Also, if the stock does not move, the value of the option will approach zero as long as it remains out-of-the-money.
Let’s go through an example where a stock is trading at $162.38 and the price of 160 Strike Call Option is $7.20 as shown. Here the extrinsic portion of the option’s value is subject to Time Decay. Since the stock is trading at $162.38 and the option is 160 Call, at least $2.46 is of intrinsic value and any value above $4.74 will be extrinsic value and therefore subject to Time Decay, regardless of the time remaining until Expiration. The biggest portion of that decay will occur in the final 5 to 20 days prior to Expiration.