Options Basics: What Are Options?

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This is a basic explanation of options — what they are, why they exist, how they work, and some basic terms like call, put, or what is an option security. So, what is an option? But options are not always that bad.

As you know, option is not just a finance-related term. How long is it since you last asked yourself: What options do I have now? You can do A or you can do B. When you have options, you have the power to choose, to influence the state of the world in some kind. It is exactly the same with the financial world options — an option represents the power, the right to choose.

When you own an option, you can choose whether to buy an asset or not, or with different type of options whether to sell an asset or not. When you own an option you have the right to buy or sell, but not the obligation. You only do what is favourable for you at that moment. Firstly, option is a security. You can own it and you can trade it. Every option has its price which is generally positive though in many cases the price is virtually zero. Secondly, option is a derivative.

Derivative is a security, whose price is derived from the price of another security this is the asset that you choose to buy or sell when you own the option. That another security can be a stock, a currency, a rate, a commodity, and many other things. We refer to such security as to the underlying. We all know Microsoft and we all probably know that its shares what is an option listed on a stock exchange and people trade the Microsoft stock.

Besides the shares of stock, you can also trade options on the stock. Microsoft stock what is an option the underlying for the options in this case. These options are securities which provide their owner with the right to buy Microsoft stock for a given price.

There are also other options which give its owner the right to sell what is an option stock instead. These are the two basic types of options: Call options represent the right but not the obligation to buy the stock or the underlying in general. So you have 2 possibilities when you own what is an option call option:. Put options represent the right but not the obligation to sell the stock or the underlying in general.

So you have 2 possibilities when you own a put option:. How do you decide what to do? Most economically what is an option people decide based on the financial outcome of the two choices — select the one that represents what is an option money to them.

In many different posts and reports on Macroption we discuss how we can tell which one it is in a particular situation. Options are among the most complicated financial instruments to understand in the first moment. But after you read about a couple of other what is an option principles of options, you will definitely start to get the picture and soon you will realize that they are actually quite straightforward.

First, you should understand the concept of strike what is an option and intrinsic value. If you don't agree with any part of this Agreement, please leave the website now. All information is for educational purposes only and may be inaccurate, incomplete, outdated or plain wrong. Macroption is not liable for any damages resulting from using the content.

No financial, investment or trading advice is given at any time. Home Calculators Tutorials About Contact. Tutorial 1 Tutorial 2 Tutorial 3 Tutorial 4. What Is an Option?

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An option is a contract giving the buyer the right, but not the obligation, to buy or sell an underlying asset a stock or index at a specific price on or before a certain date listed options are all for shares of the particular underlying asset. An option is a security, just like a stock or bond, and constitutes a binding contract with strictly defined terms and properties. For most casual investors, that definition may as well be written in ancient Greek. There are only two kinds of options: Then you can either keep the shares which you obtained at a bargain price or sell them for a profit.

But what happens if the price of the stock goes down, rather than up? You let the call option expire and your loss is limited to the cost of the premium. When you hold put options, you want the stock price to drop below the strike price. If it does, the seller of the put will have to buy shares from you at the strike price, which will be higher than the market price. Because you can force the seller of the option to buy your shares at a price above market value, the put option is like an insurance policy against your shares losing too much value.

Purchasing options can give you a hedge against losses, and in that sense, they can be used conservatively. But there are many options strategies that amount to little more than gambling and can increase your risk to a frightening degree. Remember, when a call is exercised, stock must be delivered by the seller of the call. If a strong market advance or a major announcement by the issuer has driven the share price up sharply, your losses could be enormous.

As indicated, many option strategies involve great complexity and risk. For this reason, not all options strategies will be suitable for all investors. In fact, with the exception of sophisticated, high net worth individuals who can afford and are willing to incur substantial losses, the writing of puts or uncovered calls would be unsuitable for just about everyone. Nevertheless, brokers sometimes engage in inappropriate options trading on behalf of customers who do not understand the risks.

If you have lost assets because your stockbroker was engaging in options trading, please contact us today. Put Options and Call Options Perhaps we can explain options a bit more clearly.