What happens to the 'Gamma' (Γ) of an At-the-Money (ATM) option as the expiration date approaches?

[ A ]Gamma drops to zero.

[ B ]Gamma remains permanently fixed at 1.0.

[ C ]Gamma becomes negative.

[ D ]Gamma increases dramatically and peaks near expiration for ATM options, causing Delta to become extremely sensitive to minor fluctuations in underlying price.[ CORRECT ]

Takeaway

As expiration approaches, an ATM option's Gamma rises sharply and peaks near expiry, meaning the option's Delta becomes extremely sensitive to even minor moves in the underlying's price — a phenomenon known as pin risk.

Derivation

Gamma measures how fast Delta changes as the underlying price moves; for an ATM option, small remaining time value means the option is right on the knife-edge between finishing in-the-money or out-of-the-money, so tiny underlying price moves can swing Delta from near 0 to near 1 (or vice versa) very quickly in the option's final days. This creates 'pin risk' for option writers holding hedged positions, since their hedge ratio can become stale within minutes as expiry nears, forcing frequent re-hedging. The exam tests this because it's counter-intuitive to assume risk sensitivities calm down as an option nears expiry — in fact, for ATM strikes specifically, gamma risk intensifies.

Why the others fail

A — Gamma drops to zero.

Gamma does not drop to zero near expiry for ATM options — it does the opposite, spiking sharply because the option's moneyness becomes acutely sensitive to small underlying price changes.

B — Gamma remains permanently fixed at 1.0.

Gamma is not a fixed constant; it fluctuates continuously with both the underlying's price relative to the strike and the remaining time to expiration, never staying permanently pinned at 1.0.

C — Gamma becomes negative.

Gamma for standard long option positions (calls or puts) is always non-negative; it does not turn negative as expiration approaches for an ATM option.