Options FAQ: Basics

Frequently asked questions about options

   

Basics Questions

  • What is a stock option?
  • What is a call?
  • What is a put?
  • What do the terms American-style and European-style mean when referring to options?
  • How do I read options quotes?
  • How do LEAPS® differ from conventional options?
  • How do I find a broker?
  • What is an Exchange?
  • Can I talk to a live person about my options-related questions?
  • What is the Options Disclosure Document?
  • What is covered at an OIC seminar?
  • What is a strike price?
  • Why is the XYZ 50 strike call option quote showing a last trade of $10.50 when XYZ is trading at $68 a share? Shouldn’t the call option at least be trading near the $18 of intrinsic value?

Basics Answers

Q: What is a stock option?

A: A stock option is a contract that gives the owner the right, but not the obligation, to buy or sell a particular stock at a fixed price (the strike price) for a specific period of time (the expiration date). The contract also obligates the seller or writer to meet the terms of delivery if the contract right is exercised by the owner. Further information regarding this and other option fundamentals can be gained by visiting our Learning Center and selecting the link titled “What is an Option?”. For more comprehensive education, go to “options school” by registering with our Online Options Classes and taking our online, interactive Options Basics class.

 


Q: What is a call?

A: A call is an option contract that gives the owner the right to buy the underlying stock at a specified price (its strike price) for a certain, fixed period of time (until its expiration). For example, an American-style XYZ Corp. July 60 call entitles the buyer to purchase 100 shares of XYZ Corp. common stock at $60 per share at any time prior to the option’s expiration date in July. For a call option writer, or seller, the contract represents an obligation to sell the underlying stock if the option is assigned. Further information regarding this and other option fundamentals can be gained by visiting our Learning Center and selecting the link titled “What is an Option?”. For more comprehensive education, go to “options school” take our Online Options Classes and taking our online, interactive Options Basics class.

 


Q: What is a put?

A: A put is an option contract that gives the owner the right to sell the underlying stock at a specified price (its strike price) for a certain, fixed period of time (until its expiration). For example, an XYZ Corp. July 60 put entitles the owner to sell 100 shares of XYZ Corp. common stock at $60 per share at any time prior to the option’s expiration date in July. For the writer, or seller, of a put option, the contract represents an obligation to buy the underlying stock from the option owner if the option is assigned. Further information regarding this and other option fundamentals can be gained by visiting our Learning Center and selecting the link titled “What is an Option?”. For more comprehensive education, go to “options school” take our Online Options Classes and taking our online, interactive Options Basics class.

 


Q: What do the terms American-style and European-style mean when referring to options?

A: An American-style option may be exercised at any time prior to its expiration. A European-style option may be exercised only during a specified period before the option expires. Currently, every European-style option is exercisable only on its expiration date.

Currently, all exchange-traded equity options are American-style. Most index options are European-style. I would check each index product that you are interested on trading to verify, among other things, the options exercise style.

The OIC has compiled a list of index options (XLS) that are currently available along with a link to the product specifications for each item on the list.

 


Q: How do I read options quotes?

A: An options’ quote will typically offer the following information:

  • Last – Indicates an options’ last reported sales price.
  • Net – An options’ net price change on the day. In the event the “Net” column displays a ‘pc’, no transactions have been reported for the current trading day, thus there is not a reported price change.
  • Bid* – The highest price any one is willing to pay for the options contract.
  • Ask* – The lowest price any one is willing to receive for the options contract.
  • Volume – Displays the volume (in options contracts) that has traded for the current day.

* The options market is quote driven. It is possible, for example, for an options contract to go several minutes, days or even weeks without trading. Although there have not been any trades, it is likely that an options’ quotes have been updated many times during the trading day. Specialists and market makers at the options exchanges are regularly updating and refreshing options quotes (the options’ bid and asks) to reflect changes in the underlying security price, volatility or overall market conditions.

For more detailed quote information visit Understanding Options Quotes or take our Online Options Classes and take our online, interactive Options Symbols and Quotes class.

 


Q: How do LEAPS® differ from conventional options?

A: LEAPS® or Long-term Equity AnticiPation Securities are options, both calls and puts, with expirations as far out as two and one-half years. Conventional options will typically offer contracts with expirations up to nine months in the future. Currently, equity LEAPS® will have two series at any time with January expirations. For example, in August 2002, LEAPS® for a particular stock might be available with expirations of January 2004 and January 2005. Since equity LEAPS® expire only in January of these years, these LEAPS® will have different options “root symbols” to distinguish one year from another.

For an explanation of LEAPS® cycles, visit our LEAPS® FAQ. Visit LEAPS® Conversions for a comprehensive list of current LEAPS® symbols.

For information on various strategies using these versatile instruments, visit our Introduction to LEAPS®.

 


Q: How do I find a broker?

A: Talk with potential sales people at several firms. Ask each sale representative about his or her investment experience, professional background, and education. Visit our Broker Contact page for a list of brokerage firms and options contacts.

Investors can find out about the disciplinary history of any brokerage firm and sales representative by calling 1-800-289-9999, a toll free hot line operated by the National Association of Securities Dealers, Inc (NASD). The NASD will provide information on disciplinary actions taken by securities regulators and criminal authorities. State securities regulators also can tell you if a sales representative is licensed to do business in your state.

You will want to understand how the sales representative is paid; ask for a copy of the firm’s commission schedule. Firms might pay sales staff based on the amount of money invested by a customer and the number of transactions done in customer’s account. More compensation may be paid to a sales representative for selling a firm’s own investment products. Ask what fees or charges you will be required to pay when opening, maintaining, and closing your account.

Determine whether you need the services of a full service or a discount brokerage firm. A full service firm typically provides executions services, recommendations, investment advice, and research support. A discount broker generally provides execution services and does not make recommendations regarding which securities you should buy or sell. The charges you pay may differ depending on what services are provided by the firm.

Links to various brokerage firms web sites, many of which may offer online trading, can be found on our Brokerage list.

 


Q: What is an Exchange?

A: In the financial markets, an exchange refers to a securities exchange where stocks, options and/or futures contracts are traded by members of the exchange or their own accounts and the accounts of their customers. These exchanges are registered with and regulated by the Securities and Exchange Commission (SEC). The nine U.S. exchanges that list and trade equity, ETF and index options contracts are:

  • BATS Options Exchange (BATS)
  • Boston Options Exchange (BOX)
  • C2 Options Exchange, Inc. (C2)
  • Chicago Board Options Exchange (CBOE)
  • International Securities Exchange, LLC (ISE)
  • NASDAQ OMX PHLX (PHLX)
  • NASDAQ Options Market (NSDQ)
  • NYSE Amex (AMEX)
  • NYSE Arca (ARCA)

 


Q: Can I talk to a live person about my options-related questions?

A: Absolutely. The Options Investor Services department is a one-stop comprehensive options resource center that provides information and supports all products traded on all OCC Participant Exchanges.

By calling 1-888-OPTIONS (1-888-678-4667) or by emailing options@theocc.com, representatives will answer questions and process requests for educational materials and seminar registrations Monday – Friday, 7:30 a.m. – 5:00 p.m. CT.

While not soliciting securities or providing investment advice, Options Investor Services assists investors with all of their options-related questions.

 


Q: What is the Options Disclosure Document?

A: Known as The Characteristics and Risks of Standardized Options, this booklet has been written to meet the requirements of an SEC rule that requires the U.S. options markets to prepare, and brokerage firms to distribute, a booklet that briefly and generally describes the characteristics of options and the risks to investors of maintaining positions in options. Prior to buying or selling an option, investors must read a copy of this disclosure document. It explains the characteristics and risks of exchange traded options. You may view an online copy of this document in PDF format, or order a free brochure by contacting an Options Industry Services representative at 1-888-OPTIONS (1-888-678-4667), Monday – Friday, 7:30 a.m. – 5:00 p.m. CT.


Q: What is covered at an OIC seminar?

A: The Options Industry Council (OIC) currently offers four free seminars for investors; Options Strategies for the Stock Investor, also known as our Basic Options seminar, Covered Calls seminar, Spreads seminar, and Advanced seminar. In the Basic seminar, you’ll be given an introduction to options as an investment tool. You will learn options fundamentals and how to choose an options strategy in light of market expectations and volatility forecasts using real market data. The Basic class covers:

  • Options Terminology and Mechanics
  • Buying Calls and Puts
  • Buying Protective Puts/Selling Covered Calls, Collars
  • Options Symbology
  • Introduction to Long-term Equity AnticiPation Securities® (LEAPS®)

If you already know the basics and understand how options can be used, the “Covered Calls and Income Strategies” seminar can teach you how to enhance your portfolio returns. This class covers:

  • Review Options Basics
  • Learn how to calculate returns and what stocks to look for
  • Learn when to use the covered call strategy and when not to
  • Learn how to create a disciplined approach to implementing this strategy
  • Learn how to manage your positions once they are established

 


Q: What is a strike price?

A: The price at which the owner of an option can purchase (call) or sell (put) the underlying stock. Used interchangeably with striking price, strike, or exercise price.

 


Q: Why is the XYZ 50 strike call option quote showing a last trade of $10.50 when XYZ is trading at $68 a share? Shouldn’t the call option at least be trading near the $18 of intrinsic value?

A: The “last trade” price may not represent a trade that has occurred within the current trading session. Trade prices posted as the last trade may have occurred several hours, days or weeks ago. That “last” may be misleading because many options do not trade every minute. Therefore, you will want to take a closer look at the option’s current quoted bid and ask price. The current bid and ask prices are a better indication of the option’s current market price than the last trade, and may offer a more accurate market valuation of any particular option.

 

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