Time Decay and LEAPS: The Full Picture

Time decay (theta) is the silent cost of holding options. For short-dated options, it is a daily expense that is impossible to ignore. For LEAPS, it starts nearly invisible and gradually becomes significant. Understanding this curve is essential for managing LEAPS profitably.

How Theta Works on LEAPS

Theta measures how much value an option loses per day from the passage of time alone, assuming the stock price and volatility do not change.

For an at-the-money option on a $200 stock, here is what daily theta looks like at different timeframes:

| Months to Expiration | Daily Theta | Monthly Decay | % of Option Value/Month | 24-$0.03-$0.90~0.3% 18-$0.04-$1.20~0.5% 12-$0.05-$1.50~0.8% 9-$0.06-$1.80~1.2% 6-$0.08-$2.40~2.0% 3-$0.12-$3.60~4.5% | 1 | -$0.20 | -$6.00 | ~12%+ |

The pattern is clear: theta is nearly flat from 24 to 12 months, then curves upward, and goes parabolic inside 3 months.

The Square Root of Time Rule

Option time value decays proportionally to the square root of time remaining, not linearly. This mathematical relationship explains why:

  • Losing the first 6 months of a 24-month LEAPS costs relatively little time value
  • Losing the last 6 months costs dramatically more
  • The halfway point in time value is not at 12 months but closer to 6 months

    • Practical implication: If your 24-month LEAPS has $16 of time value at purchase, after 18 months (with 6 months remaining) it will have lost roughly $8-10 of that time value. The last 6 months erode the remaining $6-8.

    Deep ITM vs ATM: Theta Differences

    Deep ITM LEAPS have lower theta than ATM LEAPS because they have less time value to lose. On a $200 stock, an ATM LEAPS might have $22 of time value decaying at -$0.04/day, while a deep ITM LEAPS has only $9 of time value decaying at -$0.02/day. This is another reason deep ITM LEAPS are preferred for stock replacement.

    When to Worry About Theta

    Do not worry (18+ months remaining): Daily theta is negligible. A $5,000 LEAPS position might lose $2-3 per day from theta alone. The stock's daily movement dwarfs this.

    Start monitoring (9-12 months remaining): Theta is becoming meaningful. Start planning your roll or exit.

    Act decisively (6 months remaining): Theta is accelerating. If you plan to maintain the position, roll now to a new 18+ month LEAPS. If your thesis has played out, take profits.

    Emergency zone (3 months remaining): Theta is destroying value daily. Every week you hold costs significantly more than the previous week. Do not hold LEAPS into this zone unless you are actively planning to exercise.

    Offsetting Theta with Short Calls

    If you sell short-term calls against your LEAPS (PMCC strategy), the theta you collect from the short calls can offset or exceed the theta you lose on the LEAPS.

    Example:

  • LEAPS theta: -$3/day (your cost)
  • Short 30-day call theta: +$5/day (your income)
  • Net theta: +$2/day (you are earning time decay)

    • This is one of the primary motivations for the PMCC strategy. You turn theta from an enemy into an ally.

    Volatility's Effect on Theta

    Higher implied volatility increases time value, which means higher theta. When IV spikes, your LEAPS gains time value (good if you are selling), but if you are holding, the subsequent IV crush can accelerate time value loss beyond what normal theta would predict.

    Buy LEAPS when IV is low. Theta will be lower, your time value cost is minimized, and any subsequent IV expansion adds value to your position.

    OptionsPilot displays theta for each position in your portfolio, making it easy to see exactly how much time decay is costing you daily across all your LEAPS and other options holdings.