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Call option
A call option is a financial instrument that conveys a buyer the right, but not the obligation, to buy a specified quantity of a security at a set strike price at some time on or before expiration. Timing of exercising the option depends on whether it is an American option or European option. If the option buyer decides to exercise the option, the counterparty who sold, or wrote, the option must sell the buyer the security at the agreed-upon strike price, even if the security's market price has risen above the strike price. The seller of the option - said to have shorted the call option - keeps the premium (the amount the buyer pays to buy the option). If the buyer never decides to exercise the option, the seller keeps the premium and never has to deliver the underlying security. In layman terms, when you buy a call option, you are buying the right to buy a stock at the strike price of the call option no matter what price the stock may be in the future. For example, if a stock is trading at $50 right now and you buy its call option at the strike price of $50, you can always buy that stock for $50 no matter how high that stock goes in the future. Yes, even if the stock rises to $100, you can still buy that stock for $50 as long as the call option has not expired! In this regard, you would only buy a call option when you are of the opinion that the stock is going to go up. Conversely, when you short or "write" the above call option, you are giving someone else the right to buy that stock from you for $50 at anytime before the option expires. To compensate you for that risk taken, the buyer pays you a premium, much like insurance premium. If the stock falls to below $50, there will be absolutely no sense for the buyer of the call option to exercise the option and buy that stock from you for $50, so the option expires worthless and you pocket the premium as profit. Obviously, you will only short or "write" a put option when you are of the opinion that the stock is going to go down.
- Strike price: this is the price at which you can buy the stock (if you have bought a call option) or the price at which you must sell your stock (if you have sold a call option). - Expiry date: this is the date on which the option expires, or becomes worthless, if the buyer doesn't exercise it. - Premium: this is the price you pay when you buy an option and the price you receive when you sell an option. [edit] See also:[edit] External Links
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