Jul
29
2025
The Effects of Deadweight Loss

The Effects of Deadweight Loss

By | invest, Investing, Terminology | Comments Off on The Effects of Deadweight Loss

Deadweight loss is a macroeconomic term that refers to the total value of lost trades, caused by a mismatch between supply and demand. Deadweight loss can be the result of taxation, price restrictions, the impact of monopolies, and other factors.

Deadweight loss isn’t limited to a single company, but rather describes the impacts on the overall economy of certain policies, which can trickle down and have an effect on the markets.

Key Points

•   Deadweight loss refers to the value of all the trades or transactions that did not occur owing to a market inefficiency.

•   These inefficiencies are the result of a market distortion, or mismatch, such as what occurs when a tax or minimum wage is imposed.

•   These factors can impact production costs and pricing, which can cause a disequilibrium in both supply and demand, leading to deadweight loss.

•   Deadweight loss generally plays out in terms of larger societal and/or economic trends, and as such can impact markets as well.

What Is Deadweight Loss?

Deadweight loss refers to inefficiencies created by a misallocation or inefficient allocation of resources, and is an important economic concept. Deadweight loss is often due to government interventions such as price floors or ceilings, or inefficiencies within a tax system that effectively reduce trades or transactions by interfering with supply and demand equilibrium.

To understand more fully, it can be helpful to think about how government interventions can impact the equilibrium between supply and demand.

First: Calculate Surplus

In order to know how to calculate deadweight loss, we must first be able to calculate surplus.

Typically, a business will only sell something if they can do so at a price that’s greater than what they paid for it themselves, and a consumer will only buy something if it’s at or less than the price they want to pay for it — the same principle as generating a stock profit.

Scenario A — The Equilibrium: Let’s imagine Store X sells comic books for $10 each. The store buys the comic books from the wholesaler for $5 and sells them for $10, pocketing $5 of “producer surplus.”

Before the Store X opened, consumers traveled to another store to buy comic books for $15. This $5 difference between the price they were willing to pay and the newly available price is the “consumer surplus”.

In this case, let’s say Store X is able to sell 1,000 comic books, that means the combined producer and consumer surplus is $10,000.

Breakdown:

•  P1 = Producer’s Cost of a Comic Book = $5

•  P2 = Producer’s Price to Sell a Comic Book = $10

•  P3 = Price the Consumer Pays = $10

•  P4 = Price the Consumer Is Willing to Pay = $15

•  Units Sold = 1,000

•  Producer Surplus = (P2 – P1) * Units Sold = ($10 – $5) * 1,000 = $5,000

•  Consumer Surplus = (P4 – P3) * Units Sold = ($15 – $10) * 1,000 = $5,000

•  Total Surplus 1 = Producer Surplus + Consumer Surplus = $5,000 + $5,000 = $10,000

In this theoretical example, there is no deadweight loss because supply and demand are in balance. That would change if another factor entered the picture that caused a market distortion that caused a loss in the number of purchases. Deadweight loss being the value of the trades or transactions that did not occur, owing to a market inefficiency.


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Common Causes of Deadweight Loss

There can be several causes of deadweight loss, but some of the most common are government-mandated changes to markets. Examples include price floors, such as a minimum wage, which can create some inefficiencies in the labor market (there may be workers who would be willing to work for less than minimum wage).

Price ceilings, also can create deadweight loss — an example could be rent control. Finally, taxes can create deadweight loss, too.

How to Calculate Deadweight Loss

To properly calculate deadweight loss, you need to be able to represent the supply and demand of the goods being sold graphically in order to determine prices. According to the laws of supply and demand, the higher a price goes, the fewer of that item will get sold; and vice versa.

Example of Deadweight Loss

Let’s go back to our comic book example and imagine that the town’s government imposes a $2 tax on comic books.

Scenario B — The Impact of Taxes

What happens to the price of comic books and the surplus generated by the sales of comic books? Theoretically, Store X could simply bump up prices $2 and sell 1,000 comic books for $12 each, maintaining a $5 producer surplus on each comic book sold, with $2 going to the government, and consumer surplus of $3.

In this case the combined consumer and producer surplus is lower — $5 × 1,000 + $3 × 1,000 = $8,000. So there’s a missing $2,000 of what economics call “gains from trade.” But, the government is collecting $2,000, so the money does not disappear from the economy.

In other words, the government is collecting $2,000, with which it can buy things, hire people, and literally send money to people via economic stimulus measures. Thus, the tax revenue does not disappear from the economy.

But in reality, if Store X were to increase the price to $12, thus passing on the tax to customers, they may not be able to sell enough comic books to maintain the revenue needed to keep the store open.

If they lower the price to $11, splitting the cost of the tax between the store and consumers, it’s likely fewer consumers would buy comic books: let’s say Store X would now sell 600 comic books instead of 1,000.

The combined consumer and producer surplus is $4,800 ($4 × 600 + 600 × $4) with $1,200 of tax collected (600 × $2) meaning there’s a total of $6,000 of consumer surplus, producer surplus, and government revenue. In this case the deadweight loss is $4,000.

Breakdown:

•  P1 = Producer’s Cost of a Comic Book = $5

•  P2 = Producer’s Price to Sell a Comic Book = $9

•  P3 = Price the Consumer Pays = $11

•  P4 = Price the Consumer Is Willing to Pay = $15

•  Units Sold = 600

•  Tax = $2/Comic Book

•  Producer Surplus = (P2 – P1) * Units Sold = ($9 – $5) * 600 = $2,400

•  Consumer Surplus = (P4 – P3) * Units Sold = ($15 – $11) * 600 = $2,400

•  Gains From Trade (Tax) = $2 * 600 = $1,200

•  Total Surplus 2 = Producer Surplus + Consumer Surplus + Gains From Trade = $6,000

•  Deadweight Loss = Total Surplus1 – Total Surplus2 = $10,000 – $6,000 = $4,000

The higher price, created through taxation, has impacted the equilibrium between supply and demand and created a deadweight loss — the number of sales that evaporated due to fewer transactions happening between the comic book seller and the readers.

While this is a rather extreme example of what happens when taxes force up prices, it’s a good way of thinking about how deadweight losses are more than just items getting more expensive. Rather, the deadweight loss formula can illustrate the evaporation of mutually beneficial economic transactions due to different types of taxes and other policies.

A similar impact can occur when a government imposes price floors or ceilings on items.


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Why Investors Should Care About Deadweight Loss

Deadweight loss can affect investors in a number of ways, and it’s important to consider it when looking at different types of investments. One of the most debated issues in economics is the effects that the tax system has on income, investment, and economic growth in the short and long run.

Some argue that income taxes, payroll taxes (the flat taxes on wages that fund Social Security and Medicare) and capital gains taxes work like the comic book tax described above, preventing otherwise beneficial transactions from happening and reducing the economic gains available to all sides. There’s evidence on all sides of this debate, and the effects of tax rates on overall economic growth are, at best, unclear.

As an investor, deadweight loss might matter when it comes to companies or sectors impacted by specific taxes, such as sales taxes or excise taxes on alcohol or cigarettes.

Deadweight loss shows how taxes on specific items can not only reduce profitability by increasing a company’s tax bill, but also affect revenue by reducing overall sales or driving down prices that businesses can charge or receive from buyers. As an investor, this knowledge and insight can be useful when allocating capital between companies, sectors, or types of assets.

The Takeaway

Deadweight loss is the result of economic inefficiencies, and it can affect an investor’s portfolio if it results in slower sales and revenues for businesses. It’s a large economic concept, and may not have a day-to-day direct impact on the stock market. But it’s still good for investors to know the basics of deadweight loss and how it applies to them.

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FAQ

Why does a monopoly cause a deadweight loss?

A monopoly can cause deadweight loss because competitive markets create competition and fairer prices. A monopoly distorts prices, leading to inefficiencies.

Can deadweight loss be a negative value?

No, deadweight loss cannot be a negative value, but it can be zero. Zero deadweight loss would mean that demand is perfectly elastic or supply is perfectly inelastic.

Is deadweight loss market failure?

Deadweight loss is not a market failure, but rather, the societal costs of inefficiencies within a market. Market failures can, however, create deadweight loss.

Photo credit: iStock/akinbostanci

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN-Q325-025

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Jul
25
2025
Comparing SPAC Units With Different Warrant Compositions

SPAC Warrants and Warrant Compositions

By | Growing Wealth, invest, Investing | Comments Off on SPAC Warrants and Warrant Compositions

An investor in a SPAC, or special purpose acquisition company, typically buys something called units, which are like packages that include shares of common stock as well as warrants (or fractions of warrants).

SPAC warrants are similar to options in that these contracts give investors the right to purchase shares of common stock, for a certain price (the strike price), by a certain date in the future, when the warrant expires and can no longer be redeemed. Fractions of warrants must be combined in order to purchase the appropriate number of shares.

The terms of different SPAC warrants can vary widely, though, and have a direct bearing on how many shares of stock the investor can purchase, during what period, and the circumstances whereby a SPAC can redeem the warrants. Investors interested in investing in SPACs after the IPO need to verify whether they are buying common stock shares, warrants, or units.

Key Points

•   A SPAC is a shell company that raises capital in order to go public, and then seeks a private company to acquire or merge with, thereby taking that company public as well.

•   Investors in a SPAC purchase “units,” which include common stock shares as well as warrants.

•   SPAC warrants are contracts that allow investors to buy more common stock shares as long as certain terms are met in terms of price, timing, and so on.

•   The terms of one SPAC warrant can differ from another, so investors have to understand the conditions so they make the best choices.

•   A SPAC can decide to redeem outstanding warrants, particularly if the stock is trading above a certain price. If investors miss the redemption period, their warrants can expire worthless.

How to Evaluate SPACs

When evaluating whether or not to invest in a SPAC IPO, potential investors often consider:

•   Who is the sponsor?

•   Have they launched other SPACs before?

•   Have those SPACs found targets and completed a successful company merger?

•   Do the board members have the experience and track records that you would expect to evaluate investment opportunities?

However, it’s just as important for investors to understand the quantitative aspect of a SPAC deal. All SPACs are typically priced at $10 per unit, but the makeup of the units can vary.

Warrants and their inclusion, or absence, in a SPAC unit can affect investor profits. A SPAC unit can have the following compositions:

•   One share + one full warrant

•   One share + no warrant

•   One share + partial warrant (e.g., ⅓ or ½ )

SPAC Warrants 101

SPAC warrants are similar to contracts known as stock warrants.

These contracts give stock warrant holders the right, but not the obligation, to buy stocks online or through a brokerage, at a later date. But unlike traditional options, stock warrants are offered by the company itself as a way to raise capital.

Similar to stock warrants (and options), SPAC warrants also have an expiration date, so investors must pay attention if they want to exercise them. Another nuance worth noting is that when warrants get exercised, the action can be dilutive to shareholders, since a flood of new shares can enter the market, impacting the price when investors buy shares.

SPAC Warrant Details

But warrants have the potential to be lucrative for these early SPAC investors. This is because, as explained, essentially they’re paying $10 for one share, plus the right to buy additional shares at a set price — what’s known as the strike or exercise price.

Also, even if an early investor decides to redeem their shares in the SPAC before a merger is completed, they get to keep the warrants that were a part of the SPAC units.

If the company doesn’t want to issue additional shares, they may not include warrants in their SPAC units. Market conditions may also dictate whether warrants are unnecessary.

Remember: Warrants are meant to entice investors to put in their money early. If demand for the SPAC is strong enough, the company may not feel the need to issue units with warrants.

Can You Trade SPAC Warrants?

Generally, an investor can only trade stock warrants if there is a whole number of warrants. If partial warrants are issued, that fraction may not be sold. In order to sell, the investor would need to purchase additional units in order to make up a whole warrant.

Here’s an example: Let’s say a SPAC unit consists of one share and a partial warrant that’s one-third of a warrant. This means that to own a whole warrant and purchase a share of stock, the investor would need to purchase two more units.

If they were to do this, then they could trade the whole warrant, either on a stock exchange or in the over-the-counter market.

Converting SPAC Units Into Shares

Another thing likely on investors’ minds: How do SPAC units actually get converted into shares? Depending on the specifics of the SPAC, the process happens more or less automatically, and there’s no action needed on the part of the investor. That’s assuming that the SPAC does end up merging and going public.

Converting SPAC warrants into shares is a bit more involved, however. In the case an investor wants to convert SPAC warrants to shares, investors should get in touch with their broker to discuss their options.

SPAC Warrants: Merger vs No Merger

SPAC warrants can be traded after a merger — for years, in some cases. That’s somewhat theoretical, though, as there may be redemption clauses in contracts that require investors to redeem their warrants under certain conditions. It really all depends on the specific SPAC, and the guidelines outlined within the contracts governing them.

If there is no merger, however, SPACs typically liquidate the funds they raised. Investors get their money back, and warrants are more or less worthless.

Examples of SPAC Investments With Different Warrant Compositions

It’s important for investors to examine the deal structure of each SPAC closely, and investors can do this by reading the initial public offering (IPO) prospectus.

The information around the composition of the shares or units being offered is usually on one of the first few pages, but reading the entire prospectus is essential for investors to make the right investment decision for them.

In general, here are some other pertinent pieces of information relating to warrants that potential investors should be looking for when reading through the prospectus:

•   The strike price

•   Exercise window

•   Expiration date

•   Whether there are any specific conditions that can trigger an early redemption

Investors should also inspect the exact composition of a SPAC unit. Does it offer one whole warrant, no warrant, one-quarter, one-third, or one-half?

The strike price, or exercise price, of SPAC warrants is often $11.50 a share. Investors sometimes have until five years after the merger before the warrant expires. However, the terms of different SPAC deals can vary. It’s possible that the deal terms call for an early redemption period, and if investors miss exercising their contracts in that period, the warrants could expire worthless.

SPAC Unit With Whole Warrant

Let’s say an investor buys 1,000 units of a SPAC. In this case, each SPAC unit is composed of one whole share, plus one whole warrant. That means the investor now owns 1,000 shares of the merged company stock, plus 1,000 warrants to buy shares of stock at $11.50 each.

If the SPAC completes its merger or acquisition and the shares jump to $20, the investor can buy additional shares for just $11.50 each. This would be a significant discount compared to where the existing shares are trading.

Here’s a hypothetical step-by-step example of how an investor could potentially profit from exercising their whole warrants:

1.    Investor buys 1,000 units at $10 each, spending a total of $10,000.

2.    SPAC shares jump to $20 each.

3.    Investor exercises warrants, purchasing 1,000 shares for $11.50 each and spending an additional total of $11,500.

4.    Investor sells all 2,000 shares immediately for the market price of $20 each, for $40,000 total.

5.    Our investor pockets the difference (so $40,000 – $21,500 = $18,500).

SPAC Unit With No Warrant

Now, imagine that same investor bought into a SPAC where the units had no warrants. That means, while the investor’s 1,000 shares doubled in value, they didn’t have the right to buy an additional 1,000 shares. Here’s an example of this scenario:

1.    Investor buys 1,000 units at $10 each, spending a total of $10,000.

2.    SPAC shares jump to $20 each.

3.    Investor sells the 1,000 shares immediately for $20 each, for $20,000 total.

4.    Our investor pockets the difference (so $20,000 – $10,000 = $10,000).

SPAC Unit With Partial Warrant

Let’s say our hypothetical SPAC has units with partial warrants. So in each unit, there’s one share attached to a ½ warrant. Here’s how this would look:

1.    Investor buys 1,000 units at $10 each, spending a total of $10,000.

2.    SPAC shares jump to $20 each.

3.    Investor exercises warrants. Every two warrants converts to one share of stock, so the investor buys 500 shares for $11.50 each, spending $5,750.

4.    Investor sells all 1,500 shares immediately for $20 each, for $30,000 total.

5.    Our investor pockets the difference (so $30,000 – $15,750 = $14,250).

Here’s a hypothetical table that lays out different profit scenarios depending on the warrant composition, assuming that an investor has bought 1,000 units, that the exercise price of the warrants is $11.50, and the underlying shares hit $20 each.

Warrants Attached to Each SPAC Unit 1 Whole Warrant ½ Warrant ⅓ Warrant ¼ Warrant No Warrant
Units Purchased 1,000 1,000 1,000 1,000 1,000
Number of Shares That Can Be Bought With Warrants in SPAC Unit 1,000 500 333 250 0
Cost of Exercising Warrants at $11.50 Strike Price $11,500 $5,750 $3,829.50 $2,875 $0
Proceeds From Selling Shares Acquired Through Warrant Exercise $20,000 $10,000 $6,660 $5,000 $0
Net Proceeds from Selling Shares Exercised From Warrants $8,500 $4,250 $2,830.50 $2,125 $0
Net Proceeds From Selling All Shares $18,500 $14,250 $12,830.50 $12,125 $10,000

Finding SPAC Warrants

Since SPAC warrants trade like shares of stocks, and are listed by many brokerages, investors can often look them up and execute a trade like they would many other securities.

One tricky thing to watch out for, though, is that SPAC warrants may trade under different ticker symbols on different brokerages or exchanges. So, you’ll want to make sure you’re looking for the SPAC warrant you want before executing a trade.

Using SPAC Warrants

SPAC warrants’ main utility is that they can be traded or executed — meaning they can be converted into shares and, under the right conditions, sold at a profit.

So, for investors, using a SPAC warrant typically comes down to one of the two in an attempt to generate a return. There may be times when a SPAC doesn’t merge and investors get their money back, but the true utility of warrants is that they can be executed or traded.

The Takeaway

With SPAC investments, whether units come with full warrants, no warrants, or partial warrants is a quantitative consideration. All else being equal, SPACs that provide full or partial warrants offer more potential profit than SPACs that offer no warrants.

Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it's wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

How do you evaluate SPACs?

Investors can evaluate SPACs by looking at qualitative aspects, including who the sponsors are, their backgrounds, whether the SPAC has found a target, and what types of experiences the board members have.

What is an example of a SPAC unit with a whole warrant?

An example of a SPAC with a whole warrant means that the investor would have one share per unit, plus a warrant to buy an additional share per unit. So if they owned 500 units, they would have 500 shares and warrants for 500 more shares.

What is a partial warrant?

When an investor buys a SPAC unit, it typically includes a share of stock and a warrant or partial warrant to be applied to additional shares, at some point in the future, per the terms of the warrant contract. Partial warrants might include a ½ warrant or a ⅓ warrant. In order to redeem the warrants for a full share of stock, the investor would need to buy more units, in order to combine the partial warrants into a whole warrant that’s worth a full share.

Photo credit: iStock/FatCamera


INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Investing in an Initial Public Offering (IPO) involves substantial risk, including the risk of loss. Further, there are a variety of risk factors to consider when investing in an IPO, including but not limited to, unproven management, significant debt, and lack of operating history. For a comprehensive discussion of these risks please refer to SoFi Securities’ IPO Risk Disclosure Statement. This should not be considered a recommendation to participate in IPOs and investors should carefully read the offering prospectus to determine whether an offering is consistent with their investment objectives, risk tolerance, and financial situation. New offerings generally have high demand and there are a limited number of shares available for distribution to participants. Many customers may not be allocated shares and share allocations may be significantly smaller than the shares requested in the customer’s initial offer (Indication of Interest). For more information on the allocation process please visit IPO Allocation Procedures.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN-Q225-143

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Jul
23
2025
The Greeks in Options Trading

Understanding the Greeks in Options Trading

By | Growing Wealth, invest, Investing | Comments Off on Understanding the Greeks in Options Trading

Editor's Note: Options are not suitable for all investors. Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Please see the Characteristics and Risks of Standardized Options.

The “Greeks” in options trading — including delta, gamma, theta, vega, and rho — are metrics that help traders gauge the pricing and risk of a given options contract.

Because options are derivatives, the value of each contract — the premium — depends on a complex interaction of different factors, including time to expiration, price volatility, and changes in the value of the underlying security. Each of these factors is represented by a Greek letter.

While there are several Greeks, delta, gamma, theta, vega, and rho are among the main Greeks in options trading.

Options Greeks may sound like a foreign language, but they are often essential tools for assessing whether a certain position may be profitable, since it can be difficult to understand the true value of an option.

Key Points

•   Options Greeks are tools that help investors estimate how different market forces may affect the value of an options contract.

•   Delta measures how much an option’s price might change in response to a $1 move in the underlying asset.

•   Gamma tracks how delta itself may change as the stock price shifts, helping investors understand rate-of-change risk.

•   Theta reflects time decay, showing how much value an option could lose each day as it nears expiration.

•   Vega and rho measure sensitivity to implied volatility and interest rate changes, respectively, both of which can influence an option’s premium.

A Quick Look at Options

Options contracts are a type of investment that can typically be bought and sold much like stocks and bonds. But options are derivatives — that is, they do not represent ownership of the underlying asset. Instead, their value (or lack thereof) derives from another underlying asset, typically a specific stock.

Traders generally conduct different types of options trading when they anticipate that stock prices may go up (a call) or down (a put). They also use options to hedge or offset potential investment risks on other assets in their portfolio.

In a nutshell, options are typically purchased through an investment broker. Those options give purchasers the right, but not the obligation, to buy or sell a security at a later date and specific price. Investors can buy an option for a price, called a premium, and then they may choose to buy or sell that option.

So, while an option itself is a derivative of another investment, it may gain or lose value, too. For example, if an investor were to buy a call option on Stock A and the stock price increases, the value of that call option may rise as well.

But the opposite would be true if an investor purchased a put option on Stock A, anticipating that Stock A’s price would go down. While not identical to shorting a stock, buying a put may result in a loss if the stock price rises instead of falls.

Recommended: How to Trade Options: A Beginner’s Guide

What Are Option Greeks?

Options traders use these letters to evaluate their option positions and better understand how changes in market conditions may affect those positions.

In short, the Greeks look at different factors that may influence the price of an option. Calculating the Greeks isn’t an exact science. Traders use a variety of formulas, typically based on mathematical pricing models. Because of that, these measurements are theoretical in nature.

Here’s a look at the most common Greeks used by traders to estimate how options might respond to market changes.

Recommended: Options Trading Terms You Need to Know

Delta

Delta measures how much an option’s price may change if the underlying stock’s price changes. It’s usually expressed as a decimal, ranging from 0.00 to 1.00 for calls and 0.00 to -1.00 for puts.

So, if an option has a delta of 0.50, in theory, that means that the option’s price may move approximately $0.50 for every $1 move in the stock’s price. Another way to think of delta is that it gives an investor an idea of the probability that the option may expire in-the-money. If delta is 0.50, for example, that can equate to a 50% chance that an option will expire in the money — meaning the strike price would be favorable relative to the market price at expiration.

Gamma

The second Greek, gamma, tracks the sensitivity of an option’s delta to changes in the underlying asset’s price. If delta measures how an option’s price changes in relation to a stock’s price, then gamma measures how delta itself may change in response to changes in the stock’s price.

Think of an option as a car going down the highway. The car’s speed represents delta, and acceleration reflects gamma, as it measures the change in speed. Gamma is also typically expressed as a decimal. If delta increases from 0.50 to 0.60, then gamma would be 0.10.

Theta

Theta measures an option’s sensitivity to time. It gives investors a sense of how much an option’s price may decline as it approaches expiration.

Similar to the “car on a highway” analogy, it may be useful to think of an option as an ice cube on a countertop. The ice cube melts — representing the diminishing time value — and that melting may accelerate as expiration approaches.

Theta is typically expressed as a negative decimal, representing the estimated daily dollar loss per share and represents how much value an option may lose each day as it approaches expiration.

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Vega

Finally, vega in options is a measure of an option’s sensitivity to implied volatility.

Markets are volatile, and securities (and their derivatives) are subject to that volatility. Vega measures how sensitive an option’s price is to changes in implied volatility.

Volatility refers to the magnitude and frequency of price fluctuations in a security’s value. Because future volatility is unknown, options pricing reflects market expectations — known as implied volatility. Changes in stock volatility can affect an option’s value, particularly when implied volatility deviates from expectations. Vega does not measure volatility itself, but an option’s sensitivity to volatility changes.

Vega is expressed as a number, reflecting the estimated dollar change in an option’s price for each 1% change in implied volatility.

Rho

Rho measures an option’s sensitivity to changes in interest rates. Specifically, it estimates how much an option’s price may move in response to a one percentage-point change in the risk free-interest rate.

The value of rho is typically small and more impactful for longer-dated options. For example, a rho of 0.05 suggests the option’s premium may increase by $0.05 if interest rates rise by 1%.

Although rho is less influential than other Greeks in most short-term trading strategies, it becomes more relevant when interest rates are rising or when a trader holds options with longer expirations.

Finally, user-friendly options trading is here.*

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OCC Options Disclosure Document.

5 Main Options Greeks: Overview

In summary, here’s how an investor may use this data when analyzing the risk and reward of an options contract.

Name

 Symbol

 Definition

 How investors might think about it
Delta ∆ Measures the sensitivity of an option’s price to a change in the price of the underlying security. For example, if the delta is 0.50, that suggests the option’s price may move approximately $0.50 for every $1 move in the stock’s price.

It can also indicate a 50% chance that an option may be in the money at the moment. This probability may change over time and isn’t a guarantee.

Gamma γ Measures the rate of change for delta. It tells you how quickly delta will change as the stock price changes. Think of an option as a car on the highway: speed reflects delta while acceleration represents gamma, which is typically expressed as a decimal. A stock trading at $10 with a delta of 0.40 and gamma of 0.10 means that a $1.00 increase in the stock’s price may adjust delta by 0.10, increasing it to 0.50. A $1 decrease may lower delta to 0.30, impacting how quickly the option’s value will increase or decrease with further price movements.
Theta θ Measures the sensitivity of an option’s price to the passage of time. An option’s theta is like an ice cube melting on a countertop – its time value diminishes as expiration approaches, and the melting becomes more rapid over time. This is expressed as a negative decimal that reflects dollar loss. For example, a theta of -1 means the option may lose $1 per share, per day, until it reaches the expiration date.
Vega ν The change in an option’s value as implied volatility goes up or down by 1 percent. Vega rises with higher implied volatility, which reflects greater market uncertainty. Lower implied volatility typically corresponds with smaller price movements.
Rho ρ Measures the sensitivity of an option’s price to a change in interest rates. If an option has a rho of 1.0, a 1% increase in interest rates may result in a 1% increase in the option’s value. Options most sensitive to interest rate changes are typically those that are at-the-money or have the longest time to expiration.

Other Options Terminology to Know

The specific option traded (a call versus a put, for example) and the underlying stock’s performance determine whether an investor’s position is profitable. That brings us to a few other key options terms that are important to know:

In the Money

A call option is “in the money” when the strike price is below the market price. A put option is “in the money” when the strike price is above the market price.

Out of the Money

A call option is “out of the money” when the strike price is above the market price. A put option is “out of the money” when the strike price is below the market price.

At the Money

The option’s strike price is the same as the stock’s market price.

The Takeaway

There’s no getting around it: Options and the Greeks can be complex and are generally not appropriate for newer investors. But experienced traders, or those willing to spend time learning how options work, may find them to be a valuable tool when building an investment strategy.

SoFi’s options trading platform offers qualified investors the flexibility to pursue income generation, manage risk, and use advanced trading strategies. Investors may buy put and call options or sell covered calls and cash-secured puts to speculate on the price movements of stocks, all through a simple, intuitive interface.

With SoFi Invest® online options trading, there are no contract fees and no commissions. Plus, SoFi offers educational support — including in-app coaching resources, real-time pricing, and other tools to help you make informed decisions, based on your tolerance for risk.

Explore SoFi’s user-friendly options trading platform.

FAQ

What are the Greeks in options trading?

The Greeks are a set of theoretical risk measures used to estimate how an option’s price may change based on variables like time, volatility, and the underlying asset’s price. The most commonly referenced Greeks are delta, gamma, theta, vega, and rho.

What is the Rule of 16 in options?

The Rule of 16 is shorthand for estimating expected daily price movement. It’s based on the idea that implied volatility reflects annualized moves. By dividing implied volatility by 16, traders can estimate the expected one-day standard deviation for a stock.

How do you use gamma in options trading?

Gamma helps traders get a sense of how stable an option’s delta is. A higher gamma suggests delta could change rapidly, especially near expiration or when an option is at the money. Monitoring gamma can help manage risk when holding positions that are sensitive to price swings.

Which Greek is most important in options trading?

The most closely watched Greek is delta, which estimates how much an option’s price may change when the underlying asset moves by $1. Delta also gives a rough idea of an option’s probability of expiring in the money. That said, the “most important” Greek depends on the strategy: traders focused on time decay may prioritize theta, while volatility traders may focus more on vega.

Photo credit: iStock/photolas

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Before an investor begins trading options they should familiarize themselves with the Characteristics and Risks of Standardized Options . Tax considerations with options transactions are unique, investors should consult with their tax advisor to understand the impact to their taxes.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Jul
22
2025
What Is a Carry Trade in Currency Markets?

What Is A Currency Carry Trade in Forex Markets?

By | Growing Wealth, invest, Investing | Comments Off on What Is A Currency Carry Trade in Forex Markets?

A currency carry trade is a popular type of forex trade, whereby an investor borrows in a low-interest currency in order to invest in a currency with a higher rate.

Putting on a carry trade is one way to take advantage of discrepancies between the interest rates of different currencies, particularly if the investor uses leverage.

This strategy can be risky, however, owing to the fact that interest rates, and currency values, can fluctuate at any time. The use of leverage adds additional risk, if the trade moves in the wrong direction.

Key Points

•   A currency carry trade involves borrowing funds in a low-rate currency and investing in assets in a higher-yielding currency.

•   Thus, a currency carry trade is a way to profit from differences in interest rates.

•   This is a popular forex strategy, owing to its relative simplicity: An investor just needs to find the appropriate currency pair to execute the carry trade.

•   Because interest rate differentials may be small, some investors use leverage to maximize potential gains.

•   The risk of loss is high, however, if interest rates suddenly change.

🛈 While SoFi offers exposure to foreign currencies through its alternative investment funds, it does not offer forex trading at this time.

What Is a Currency Carry Trade?

In a carry trade, forex traders borrow money at a low interest rate in order to invest in a currency where they can buy an asset with a higher rate of return. In the forex markets, a carry trade is a bet that one foreign currency will hold or increase its value relative to another currency, and that interest rates will also remain steady.

Of course, this active investing strategy hinges on whether or not interest rates and exchange rates are in the investor’s favor. The wider the interest rate spread between two currencies, the better the potential returns for the investor.

Even in cases with a relatively small rate differential, though, investors who use this strategy often employ leverage to maximize potential profits.

How Do You Execute a Carry Trade?

A carry trade strategy can be a relatively simple way to increase an investor’s returns, assuming they can find a currency with a higher rate and one with a lower rate, and that exchange rates between the two currencies remain relatively stable. In that way, it’s similar to understanding “spread trading” as it relates to stocks.

Currency Carry Trade Basics

Imagine that U.S. interest rates are at 5%, but the interest rate in Japan is 1% — a 4% spread. The yen would be considered the funding currency for the carry trade because the rate is lower, and the dollar is the asset currency (which typically has a higher rate).

A trader could borrow 1 million yen at 1%, and buy an asset such as a U.S. bond that has a 4% yield. When the bond matures, the investor could collect the bond yield, repay the yen they borrowed at 1%, and pocket the difference.

There is a wild card here, though, which is that both interest rates and currency values can change — sometimes suddenly — which can cause the trade to move in the wrong direction.

Here is an example of how the exchange rate and interest rate come into play in a currency carry trade.

Carry Trade Example

In this example the investor will borrow 1 million yen at 1%, and an exchange rate of 145 yen to the dollar.

1 million yen / 145 = $6,896.55

The investor could take the $6,896.55 and invest in a U.S. security that pays 4%, and collect that amount after a year.

$6,896.55 x $0.04 = $275.86

Total = $7,172.41

Now the investor has to repay the 1 million yen they borrowed at 1%, for a total of 1,000,100 yen, or $6,897.24
They subtract the principal from the ending balance in dollars:

$7,172.41 – $6,897.24 = $275.17

The resulting profit of $275.17 is 4% of the original spread between the interest rate spread of the two currencies.

Recommended: What Is Forex Trading?

Is a Carry Trade Risky?

The concept of a carry trade is simple, but in practice, it can involve investment risk.

In the above example, neither the exchange rate nor the interest rates moved — which in real life is highly unlikely.

Most notably, there’s the risk that the currency or asset a trader is investing in (the British pounds in our previous example) could lose value. That could put a damper on a trader’s expected returns, as it would eat away at the gains the difference in interest rates could provide.

Currency prices tend to be very volatile, and something as mundane as a monthly jobs report released by a government can cause big price changes.

Given the risks, carry trades in the currency markets may not be the most appropriate strategy for investors with a low tolerance for risk.

The Takeaway

Using a currency carry trade strategy is a popular one in the forex markets because it’s relatively easy to find currency pairs with an interest rate difference that can be exploited for a potential gain. The risk, though, lies in the potential for currency rates to shift, as well as interest rates.

FAQ

How does a carry trade work?

A currency carry trade works when two currencies are relatively stable, but one offers a much lower rate than the other. This makes it possible to borrow the funding currency to invest in a higher-yield security in the asset currency, and pocket the difference, minus the interest rate owed on the principal borrowed.

What happens when a carry trade moves in the wrong direction?

There are various risk factors when using a carry trade strategy. One is that the lower-rate currency could strengthen against the asset currency, and the investor would effectively repay a larger amount than they borrowed, thus cutting into any profit.

What is the forex market?

The forex market is where financial institutions, as well as individual investors, trade foreign currencies. The forex market is the largest in the world, and it’s possible to trade 24/7 — which is different from most markets, which have open and close hours.

Photo credit: iStock/akinbostanci

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Jul
15
2025
Important Estate Planning Documents to Know

Important Estate Planning Documents to Know

By | Insurance | Comments Off on Important Estate Planning Documents to Know

For many, a strategy for estate planning is a must-have at any stage in life. This ensures that your wishes on how to handle your wealth, health, and children are carried out after your demise or a medical emergency that leaves you incapacitated.

Having the proper documents in place makes it easier, faster, and less expensive for your wishes to be executed.

Here are the most common — and important — estate planning documents to know about, create, and routinely update throughout your life.

Key Points

•   Essential estate planning documents include a Last Will and Testament, Letter of Intent, Beneficiary and Guardianship Designations, and Advance Medical Directive.

•   A Last Will and Testament specifies asset distribution and names an executor.

•   A Letter of Intent provides non-legal explanations and practical information.

•   Beneficiary and guardianship designations ensure financial accounts and minor children are cared for.

•   An advance medical directive clarifies health care wishes and appoints a durable power of attorney.

Typical Estate Planning Documents

Last Will and Testament

The foundation of your estate planning checklist is your last will and testament. This legal document essentially lets you list your instructions on what to do with your assets after you die.

Your will also names an executor, who is the individual you choose to carry out your final wishes. It should be someone you trust who can handle major financial responsibilities, since they’ll be tasked with navigating both your family and financial institutions.

When you make a will, you’ll specify who will take possession of your assets that don’t have a beneficiary assigned. You can also outline your funeral preferences and other final wishes.

If you die without a will, the state takes over and names a representative on your behalf to handle the distribution of your property. The court could name your spouse or close family member to handle the job, or it could choose a public trustee if no one agrees to the job.

The probate process takes a long time, and your family typically won’t be able to access any of your accounts until an executor is named. That’s why it’s best to get started on your estate planning documentation as soon as possible.

Fast, Secure, and Easy Estate Planning.

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Letter of Intent

A letter of intent is another component of an estate plan checklist that allows you to leave an explanation to your loved ones. You can compose an emotional letter if you want, or stick to information that will make the transition easier for your family.

The letter of intent is a good place to list details like your bank accounts, passwords, and other important information your executor or family members may need. For instance, you may have joint accounts with your spouse. But if you’re the one who manages that money or is responsible for certain shared bills, you can explain how to handle those ongoing expenses moving forward.

Also include the physical locations of important documents and assets, like property titles, jewelry, or art.

Recommended: The Difference Between Will and Estate Planning

Beneficiary and Guardianship Designations

Your will documents should include designations for account beneficiaries and, if applicable, a guardianship for any minor children.

Some financial accounts require that you list a beneficiary; others do not. A standard checking account probably doesn’t require you to list a beneficiary, but you can likely volunteer to add one.

IRAs and life insurance generally do require you to add a beneficiary, regardless of the size of your account or policy.

While you do need to fill out the paperwork directly with the financial institution, you can also list your beneficiaries in your will documents to make it easier for your executor to access everything. Be sure to update beneficiaries if major life events occur, like divorce, the death of a spouse, or a birth.

Speaking of babies, you also need to designate a guardian for any dependents. You’ll need to include their names and birthdates and explicitly name the person or persons you wish to be their guardian should you die. If you’re in a two-parent household, the guardianship only goes into effect if both parents die.

Each state has its own way of handling minors if you pass away without naming a guardian. The court will likely pick a close family member to serve in the role, but it’s always better to make the decision on your own — especially if you have tense family dynamics.

Recommended: New Parent’s Guide to Setting Up a Will

Advance Medical Directive

An advance medical directive is a way to clarify your health care wishes in case you become medically incapacitated.

As part of this legal document, you can first name a durable power of attorney for health care. This basically hands over decision making to the person of your choice. It’s best to have conversations before any medical issues arise so they understand how you would prefer to move forward in certain health situations.

You can also include instructions for specific treatments in your advance medical directive. In what is known as a living will, you can list your stance on individual treatments and how your health care professionals should move forward in each scenario. For instance, you may include “do not resuscitate” orders or how you’d like organ donation to be handled (if at all).

Check your state laws on how to correctly instate an advance medical directive or living will. It’s also important to provide copies to your doctor and family members so that they have your wishes on hand.

If you are about to undergo a major medical procedure, you may be prompted to fill out an advance medical directive form before it takes place.

Power of Attorney

Another type of legal document to include in your estate planning checklist is power of attorney. It’s similar to a power of attorney for health care, but with much broader impact.

It lets you choose an individual to make all types of decisions on your behalf if you become incapacitated, including financial and living decisions.

You can opt to give someone general power of attorney, and that person will simply act on your behalf moving forward. Or you can grant someone individual power of attorney, which only lets them act on your behalf during specific situations that you include in the legal document.

A power of attorney becomes dissolved in a few situations. First, it automatically goes away if you die and the other directives of your will (including the executor) go into effect. It also automatically ends if you get divorced and your spouse had power of attorney for you.

Alternatively, if the person with power of attorney dies or becomes incapacitated, then they’ll no longer be able to fulfill their duties. A court can also invalidate the power of attorney document.

Just like any other role you assign in your estate planning documents, picking the right person to have power of attorney can have a major effect on your life. It’s best to choose wisely and have open conversations about your wishes if you could no longer take care of yourself.

Recommended: What Is Estate Planning?

The Takeaway

Estate planning documents dictate a person’s wishes about how to handle their wealth, health, and children upon their incapacitation or demise. Making an estate plan is a good idea as it can minimize the delays, expense, and loss of privacy of the probate process.

When you want to make things easier on your loved ones in the future, SoFi can help. We partnered with Trust & Will, the leading online estate planning platform, to give our members 20% off their trust, will, or guardianship. The forms are fast, secure, and easy to use.

Create a complete and customized estate plan in as little as 15 minutes.

Coverage and pricing is subject to eligibility and underwriting criteria.
Ladder Insurance Services, LLC (CA license # OK22568; AR license # 3000140372) distributes term life insurance products issued by multiple insurers- for further details see ladderlife.com. All insurance products are governed by the terms set forth in the applicable insurance policy. Each insurer has financial responsibility for its own products.
Ladder, SoFi and SoFi Agency are separate, independent entities and are not responsible for the financial condition, business, or legal obligations of the other, SoFi Technologies, Inc. (SoFi) and SoFi Insurance Agency, LLC (SoFi Agency) do not issue, underwrite insurance or pay claims under LadderlifeTM policies. SoFi is compensated by Ladder for each issued term life policy.
Ladder offers coverage to people who are between the ages of 20 and 60 as of their nearest birthday. Your current age plus the term length cannot exceed 70 years.
All services from Ladder Insurance Services, LLC are their own. Once you reach Ladder, SoFi is not involved and has no control over the products or services involved. The Ladder service is limited to documents and does not provide legal advice. Individual circumstances are unique and using documents provided is not a substitute for obtaining legal advice.

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Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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