Answer
An option is a contract that gives its owner the right (but not the obligation) to buy or
to sell an underlying asset (for example, share of a company, foreign currency etc.)
on or before a given date at a fixed price (this fixed price is called as Exercise price,
it is also called as Strike price).
Call option gives the buyer of the option the right (but not the obligation) to buy a
currency or share.
Put option gives the buyer of the option the right (but not the obligation) to sell a
currency or share.
European option An option that can be exercised on the specific date.
American Option: An option that can be exercised on any date up to the expiry date.
There are two parties in an option contract:
(i) Option writer or option seller – he gives the option to the other party. In the above
example, A is option writer. He receives the option premium or option price from the
other party. In the above example Rs.700 is option premium or option price.
ii) Option owner or option holder – he gets “the option” or “the right (but not the
obligation)” from the option writer against payment of “option premium” or “option
price”. In the above example, B is option owner.
In-the-money option: An option is said to be “In-the-money” when it is
advantageous to exercise it.
Out-of-the money option: An option is said to the “Out-of-the-money” when it is
disadvantageous to exercise it. (Naturally, is this situation, the option owner won’t
exercise it.)
At-the-money option: If the option holder does not lose or gain whether he
exercises his option or not, the option is said to be at- the- money. (White solving
questions in the examination, it is assumed that if the option is at the money, it is not
exercised by its owner).
Value of Call option (to its owner) at expiration:
Max (Spot price-Strike price, 0)
Value of put option (to its owner) at expiration:
Max (Strike price- Spot price, 0)
An option is a contract that gives its owner the right (but not the obligation) to buy or
to sell an underlying asset (for example, share of a company, foreign currency etc.)
on or before a given date at a fixed price (this fixed price is called as Exercise price,
it is also called as Strike price).
Call option gives the buyer of the option the right (but not the obligation) to buy a
currency or share.
Put option gives the buyer of the option the right (but not the obligation) to sell a
currency or share.
European option An option that can be exercised on the specific date.
American Option: An option that can be exercised on any date up to the expiry date.
There are two parties in an option contract:
(i) Option writer or option seller – he gives the option to the other party. In the above
example, A is option writer. He receives the option premium or option price from the
other party. In the above example Rs.700 is option premium or option price.
ii) Option owner or option holder – he gets “the option” or “the right (but not the
obligation)” from the option writer against payment of “option premium” or “option
price”. In the above example, B is option owner.
In-the-money option: An option is said to be “In-the-money” when it is
advantageous to exercise it.
Out-of-the money option: An option is said to the “Out-of-the-money” when it is
disadvantageous to exercise it. (Naturally, is this situation, the option owner won’t
exercise it.)
At-the-money option: If the option holder does not lose or gain whether he
exercises his option or not, the option is said to be at- the- money. (White solving
questions in the examination, it is assumed that if the option is at the money, it is not
exercised by its owner).
Value of Call option (to its owner) at expiration:
Max (Spot price-Strike price, 0)
Value of put option (to its owner) at expiration:
Max (Strike price- Spot price, 0)
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