LEAPS and Long-Dated Contracts

Long-Term Equity Anticipation Securities (LEAPS) are options with expiration dates extending one to three years into the future. They provide extended exposure for long-term directional views or hedging strategies while offering reduced sensitivity to short-term time decay.

Definition and Key Concepts

What Are LEAPS?

LEAPS are standardized options contracts with expiration dates typically between one and three years from listing. They share the same mechanics as standard options:

• 100 shares per contract
• American-style exercise (for equity LEAPS)
• Listed strikes based on current price
• Same margin and settlement rules

The primary distinction is the extended time horizon.

Expiration Schedule

LEAPS are introduced in the fall (typically September) for January expiration approximately 2-3 years forward. As time passes:

• LEAPS approaching 9 months to expiration often transition to standard option symbology
• New LEAPS are listed annually for the next January cycle
• Some stocks have multiple LEAPS expirations available simultaneously

Key Characteristics

How It Works in Practice

Time Decay Profile

LEAPS experience minimal daily time decay early in their life. Theta accelerates only as expiration approaches—typically in the final 3-4 months.

Daily Theta Comparison (ATM Call, 30 IV):

A LEAPS buyer can hold for months with minimal time decay erosion, giving the thesis time to develop.

Delta and Directional Exposure

Deep ITM LEAPS calls have delta approaching 1.00, behaving almost like stock ownership. The premium above intrinsic value is primarily time value, which provides downside cushion compared to holding shares.

Example Comparison (Stock at $100):

The LEAPS positions limit dollar loss while providing meaningful upside participation.

Vega Sensitivity

LEAPS have high vega—sensitivity to implied volatility changes. A 1% increase in IV might add $0.50 to a 2-year option but only $0.10 to a 30-day option.

This creates opportunity and risk:

• Buying LEAPS when IV is low and selling when IV expands can be profitable even without price movement
• Purchasing LEAPS during high IV periods means paying inflated premiums that may deflate

Worked Example

Scenario: Long-term bullish view on ABC

ABC stock trades at $150. You believe it will reach $200 within 18 months but want to limit capital at risk.

Position: 1 ABC $150 LEAPS Call (January 2027)

• Premium: $28.00 ($2,800 per contract)
• Delta: 0.58
• Days to expiration: 540
• IV: 30%

Comparison to Stock Purchase:

Time Progression Analysis:

After 12 months without significant price appreciation, time decay becomes meaningful. The position needs the stock to move higher in the second year or losses accumulate.

Break-Even Analysis:

• Break-even at expiration: $150 + $28 = $178
• Stock must rise 18.7% for the trade to break even at expiration
• Earlier price appreciation reduces the required move (remaining time value supports the position)

Risks, Limitations, and Tradeoffs

Capital Efficiency vs. Duration

LEAPS require more capital than short-term options but less than stock ownership. The trade-off:

• More time for thesis to develop
• Higher premium at risk than a 30-60 day option
• Lower annualized return if the stock moves quickly (short-term options would be cheaper)

Dividend Loss

LEAPS call holders don't receive dividends. Over 2-3 years, cumulative dividends on a high-yield stock can be substantial. The option premium should theoretically reflect expected dividends, but dividend increases after purchase don't benefit call holders.

Exercise Considerations

Deep ITM LEAPS may be optimal to exercise early in some circumstances:

• Shortly before a substantial dividend
• When time value is minimal and holding stock is preferable
• For tax planning (starting the holding period for long-term capital gains)

Liquidity Concerns

LEAPS generally have lower open interest and wider bid-ask spreads than near-term options. This creates:

• Higher transaction costs
• Difficulty exiting large positions
• Potential for unfavorable fills

Focus on liquid underlyings when trading LEAPS.

Common Pitfalls

1. Buying LEAPS when IV is elevated: High IV inflates premiums; subsequent IV decline hurts even if the stock rises.

2. Ignoring break-even math: LEAPS require substantial moves to profit at expiration due to high time value.

3. Holding too long: As LEAPS approach expiration, time decay accelerates. Consider rolling before the final 3-4 months.

4. Overlooking dividends: Compare LEAPS cost to stock ownership including expected dividends.

5. Assuming LEAPS are safe: While time works in your favor initially, 100% of premium is still at risk.

Checklist for LEAPS Trading

• Calculate break-even price at expiration
• Compare cost to stock ownership including dividends
• Assess current implied volatility versus historical average
• Check bid-ask spread and open interest for liquidity
• Determine appropriate strike (ATM, ITM, or deep ITM)
• Plan timeline for thesis development vs. expiration
• Consider rolling before accelerated time decay (final 3-4 months)
• Evaluate tax implications of holding period

Next Steps

Corporate actions can significantly affect option contracts, including LEAPS. Learn how splits, mergers, and dividends adjust options in Corporate Action Adjustments to Options.

For comparison to shorter expirations, see Mini, Weekly, and Quarterly Options Explained.