What does charm measure and why does it matter for overnight delta hedges?

Question

AcadiFi · Accepted Answer

Charm, also called delta bleed or DdeltaDtime, is the partial derivative of delta with respect to time. It quantifies how fast delta drifts toward zero for out-of-the-money options or toward plus or minus one for in-the-money options as expiry approaches, holding spot and vol fixed.

For an at-the-money call, charm is near zero because delta hovers around 0.5. But a 5-delta weekly put on a stock such as fictional Cedarwood Robotics has charm that pulls delta toward zero rapidly each day. A trader short 1,000 such puts with delta of negative 0.05 might need to re-hedge by buying only 50 shares today, but by Monday morning, charm may have pushed that delta toward negative 0.02, and over the weekend theta plus charm shrinks the hedge requirement without any spot move.

Desks watch charm on Friday because a three-day weekend bleed can reduce hedge needs noticeably, and failing to account for it leads to overhedging. Charm is largest for short-dated OTM options and flips sign around the strike: for ITM calls, charm pushes delta upward toward one over time. For CFA candidates, charm is one of the Greeks that explains why a static delta hedge drifts even when the underlying is unchanged, reinforcing that dynamic hedging requires continuous rebalancing or at minimum daily reviews.

What does charm measure and why does it matter for overnight delta hedges?

Master Level II with our CFA Course

Related Questions

Practice Questions