Should an Investor Hold or Exercise an Option?
Kimberly Amadeo Updated December 18, A call option is an agreement that gives you the right to buy a stockbondcommodityor other security at a specific price up to a specific date. The agreed-upon price is called the strike price.
Call options provide you with the right to buy shares of a certain stock, and when you exercise the option, you actually buy the shares. After you tell your broker to exercise an option, you have a few days to deposit the money into your brokerage account to pay for the shares.
The date is called the exercise date. Call option contracts are sold in share lots. A call option, or call, is a derivative.
In this case, the asset is the stock, bond, or other security. Why Buy a Call Option Why would you buy a call option? Only if you believe the security will rise in value before the exercise date. If that happens, you'll exercise the option.
You'll buy the security at the strike price and then immediately sell it at the higher market price. If you feel bullish, you might also wait to see if the price goes even higher.
Buyers the buyer of a call option can exercise the option call options are called holders. That's called being in the money. The profit is called the option's intrinsic value.
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If the price doesn't rise above the strike price, you won't exercise the option. Your only loss is the premium. That's true even if the stock plummets to zero. Why wouldn't you just buy the security instead? Buying a call option gives you more leverage.
If the price rises, you can make a lot more money than if you bought the security instead. Even better, you only lose a fixed amount if the price drops. As a result, you can gain a high return for a low investment.
The other advantage is that you can sell the option itself if the price rises. That means you've made money without ever having to pay for the security.
Why Sell a Call Option You would sell a call option if you believe the asset price will drop. If it drops below the strike price, you keep the premium. There are two ways to sell call options.
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It's perilous. If the buyer exercises the option, you have to buy the asset at the market price to satisfy the order. If the price is higher than the option, you'll lose the difference minus the fee you paid.
Call and put option contracts give you the right to buy and sell the underlying shares at specified prices, known as strike prices, before predetermined expiration dates. You do not have to exercise these rights if you decide to sell the options.
You've got to hope that the fee you charge is more than enough to pay for your risk. Most writers of naked call options are large corporations that can diversify the risk. Their profits from many premiums on the options they guess correctly outweigh the occasional losses on an option that goes against them.
First steps for call options
They have analysts with computer programs that figure all this out for them. You make risk-free money from the premium you charge for you are fond of binary options option. You also make money when the strike price is higher than the amount you originally paid, and the buyer exercises the option. It's called a covered call because the option is "covered" by the asset.
The biggest only downside risk of a covered call is that you'll miss out if the price skyrockets. You can't sell it at that price. Instead, you've got to hold onto it.
- Article Reviewed on July 30, Michael J Boyle Updated July 30, As you learn about trading optionsyou'll find that options traders use terms that are unique to options markets.
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- Should an Investor Hold or Exercise an Option?
You can only sell it to the option holder at the strike price. Many writers of covered calls enjoy the risk-free income from the premiums.
If you sell enough of these calls, this can add up. They also like getting the money right up front. If you own significant assets, and you need cash now, a covered call may be right for you. That gives investors the right to sell the security at a specific price at any time up to a specific date.