When people have extra money they want to invest, they can do so by buying stock options. We hope this article gave you the basics of how stock options work.
First, what are stock options?
It is an agreement between two parties. This contract gives the buyer the right to buy or sell shares at a certain price. The purchaser can exercise this right up to an agreed expiry date.
It is he who gives the buyer the right to buy a stock called “call”. An option that gives the buyer the right to sell the shares is called a put. These options can be used at any time up to the expiration date.
Stock options usually come in blocks of 100 shares. The group of 100 is known as a “lot”. The price at which lots are bought or sold is known as the “strike price”.
Here is an example of a stock put option:
Let’s say you want to buy a stock option in Rami Corporation. Let’s say the share price is $210. So you buy an option to call 1 share (equivalent to 100 shares) with a strike price of $200. And suppose that option expires in six months.
If the stock price of Rami Corporation drops to $190 before the six months expire, you can exercise your right to sell the option, for the equivalent of 100 shares of Rami Corporation at the original strike price of $200. You can do this at any time prior to the expiry date.
That is, when Rami’s stock price is $190 a share, you can buy 100 shares of the stock at $190 and sell them for $200 a share. So you make $10 profit per share, even though the share price has gone down.
Now this is an example of a stock option.
Let’s use Rami’s example above, except you buy a call option at $200. Let’s say the stock price rises this time to $300. Now what you can do is exercise your option to buy 100 shares of Rami at $200 and then sell it at $300!
Things to keep in mind:
If you buy a Call option, and the stock price never rises above the strike price, the option will be worthless once the expiration date is reached. And, of course, this applies to a put option: If the stock price never falls below the strike price, the option will be worthless at the time of the expiration date.
And of course there is the cost of the option itself. This is called the “premium” option.
There are many places to learn about stock options. It is suggested that you go online to various websites that discuss stock and options trading before getting too involved. And please be sure not to spend money that you cannot afford to lose. good luck!