In November 2020, equity options trading hit new heights and ultimately reached a volume that's 50 percent higher than the previous year. Maybe the COVID-19 pandemic is putting people in the mood, but one thing is for sure. If you are going to trade stock options, you need to know what all the jargon means.
Options contract terminology
First and foremost, you will need to understand the basics of an options contract.
A call option is an options contract that lets you buy stock at a set price on a specified date. You are predicting that the stock will be higher at this time.
A put option is an options contract that lets you sell stock at a set price on a specified date. You are predicting that the stock will be lower at this time.
All options contracts have an expiration date. The options' expiry is the date that the contract loses its value. So, you have to make a move with the contract by the expiration date.
The strike price is the cost you predict the stock will be at (whether for a call or put) on a specified date. The strike price is the price you will be able to buy or sell the stock at if you choose to proceed.
When you buy an options contract, you pay the premium. The cost of the premium consists of the stock's intrinsic value (which is the current market price minus the strike price) as well as the time value (which decreases as the contract's expiration date nears).
Options value terminology
When it comes to value, there are three key outcomes for an options contract.
You can be:
- In the money: At the end of your contract, you may have achieved your goal of reaching a higher or lower market value for the stock in question. In this case, the market value is higher than the strike price for call options or the market value is lower than the strike price in put options. This means you are in the money. Basically, your option still has intrinsic value or did what you wanted.
- Out of the money: If you went for a call option but the market value is lower than the strike price, you are out of the money. The same rings true if you went for a put option but the market value is higher than the strike price. In this case, you shouldn't exercise the contract because you will lose money either way.
- At the money: When you are at the money, you are at a wash. The stock's market value and your strike price are about even.
Other options trading terms for beginners
Holders are investors who own the contract, while writers are investors who sell the contract.
Going long in an options contract just means maintaining ownership of it. In contrast, going short means selling an option or stock that you don't own.
These terms are just the beginning, but it should help beginner traders start to unravel confusing options trading tweets and talks.