So here’s one thing about options trading: it’s filled with inside baseball. That’s true of most financial practices, true, but options are worse than most. With the amount of lingo involved, readers could be forgiven if they have to look up every other word while doing research.
So wouldn’t it help if there were a convenient place to do so? Perhaps a glossary of some of the most commonly used terms thrown around in options trading. For ease of use, we’ll talk about stock options, even though the contract can also cover commodities.
An option contract gives you the right, but not the obligation, to an underlying transaction. The owner of the contract can either buy or sell stocks at a certain price and date, but can also choose to walk away.
A contract that gives you the right to buy stocks from the option writer at a fixed price by a certain date.
A contract that gives you the right to sell stocks to the option writer for a fixed price by a certain date.
A “long” financial position means ownership. Here, owning either a call or put option.
Someone required to fulfill an option is considered “short” on that position. In the case of a short call, the option writer holds an obligation to sell the stock for the strike price. In the case of a short put, the option writer holds an obligation to buy the stock for the strike price.
Writing a call option against stocks that you already own. Your position is “covered” because you don’t have to acquire the stocks if the holder exercises.
The option holder is the person who bought the option. The option writer sells it.
When the holder of an option asserts his rights by buying or selling under the contract.
The date by which the option holder has to exercise her rights.
The price at which the option holder can buy or sell under the contract.
The price paid by the holder to buy the option contract.
The difference between the option’s strike price and the stock’s current value.
The value of an option contract based on everything other than intrinsic value, including time until expiration, anticipated volatility, and all other potential factors.
The degree of change in either a specific stock price or the market overall. It is generally measured by comparing the daily high with the daily low.
In the Money
An option is in the money when exercising it would currently be profitable.
Out of The Money
An option is out of the money when exercising it would currently be unprofitable.
At the Money
An option is at the money when exercising it would currently break even.
A third party that all option contracts go through. Clearing houses both negotiate and secure both sides of the transaction.
After an option holder exercises, it’s possible that the clearing house will assign that obligation to an option writer. In the case of assignment, the nominated writer will have to buy or sell the underlying asset at the strike price.