Options Basics: Puts And Calls

Put and call options graph

Put and call options graph


For most casual investors, that definition may as well be written in ancient Greek. And yet brokers sometimes buy and sell options for investors who don’t understand what they are, can’t appreciate or afford their risk, and may not even know that the option transactions are occurring.

What Is a Put Option? Examples and How to Trade Them in

You can buy a call in any of those three phases. However, you will pay a larger premium for an option that is in the money because it already has intrinsic value.

Options: The Basics | The Motley Fool

This has been a guide to a Call Options vs Put Options. Here we discuss the top differences between call and put option along with comparative table and infographics. You may have a look at below suggested readings to enhance your knowledge of derivatives.

Put Option Definition

One of the major things to look at when buying a put option is whether or not the option is in the money - or, how much intrinsic value it has. A put option that is in the money is xA5 one where the xA5 price of the underlying security is below the strike price of the option. The option is considered in the money because it is immediately in profit - you could exercise the option immediately and make a profit because you would be able to sell the shares of the put option and make money. To this degree, an at the money put option is one where the price of the underlying security is equal to the strike price, and (as you may have guessed), an out of the money put option is one where the price of the security is currently above the strike price. xA5

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There are two ways for speculators to bet on a decline in the value of an asset: buying put options or short selling. Short selling, or shorting, means selling assets that one does not own. In order to do that, the speculator must borrow or rent these assets (say, shares) from his or her broker, usually incurring some fee or interest per day. When the speculator decides to "close" the short position, he or she buys these shares on the open market and returns them to their lender (broker). This is called "covering" ones short position.

To create a bear put spread, the investor will short (or sell) an out of the money put while simultaneously buying an in the money put option at a higher price - both with the same expiration date and number of shares. Unlike the short put, the loss for this strategy is limited to whatever you paid for the spread, because the worst that can happen is that the stock closes above the strike price of the long put, making both contracts worthless. Still, the max profits you can make are also limited. xA5 xA5

Options trading isn&apos t limited to just stocks, however. You can buy or sell put options on a variety of securities including ETFs, indexes and even commodities.

While long puts are generally more bearish on a stock&apos s price, a bear put spread is often used when the investor is only moderately bearish on a stock. xA5

The party that sells the option is called the writer of the option. The option holder pays the option writer a fee called the option price or premium. In exchange for this fee, the option writer is obligated to fulfill the terms of the contract, should the option holder choose to exercise the option. For a call option, that means the option writer is obligated to sell the underlying asset at the exercise price if the option holder chooses to exercise the option. And for a put option, the option writer is obligated to buy the underlying asset from the option holder if the option is exercised.

But apart from time value, an underlying security&apos s volatility also affects the price of a put option. In the regular stock market with a long stock position, volatility isn&apos t always a good thing. However, for options, the higher the volatility (or the more dramatic the price swings) of a given stock, the more expensive the put option is. This is primarily due to how the put option is betting on the price of the underlying stock swinging in a set period of time. So, the higher the volatility of an underlying security, the higher the price of a put option on that security.

Entering into a call or put option is an entire game of speculation. If one has trust in the movement of the price of the underlying asset and is ready to invest some money with an appetite to bear the risk of premium amount, the gains can be substantially large. In terms of the Indian options market, a contract expires on the last Thursday of the month before which the contract should be executed else contract can be allowed to expire worthless with the premium amount foregone.

The time value of a put option is essentially the probability of the underlying security&apos s price falling below the strike price before the expiration date of the contract. For this reason, all put options (and call options for that matter) are experiencing time decay - meaning that the value of the contract decreases as it nears the expiration date. xA5 Options therefore become less valuable the closer they get to the expiration date.

A call is the option to buy the underlying stock at a predetermined price (the strike price) by a predetermined date (the expiry). The buyer of a call has the right to buy shares at the strike price until expiry. The seller of the call (also known as the call "writer") is the one with the obligation. If the call buyer decides to buy -- an act known as exercising the option -- the call writer is obliged to sell his/her shares to the call buyer at the strike price.


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