What is an Option?

Options are a financial derivative sold by an option writer to an option buyer. They are typically purchased
through online or retail brokers. The contract offers the buyer the right, but not the obligation, to buy (call
option) or sell (put option) the underlying asset at an agreed-upon price during a certain period of time or
on a specific date. The agreed upon price is called the strike price. American options can be exercised any
time before the expiration date of the option, while European options can only be exercised on the expiration
date (exercise date). Exercising means utilizing the right to buy or the sell the underlying security.

Key Takeaways
 Options are financial derivatives that give buyers the right, but not obligation, to buy or sell an underlying
asset at an agreed upon price during a certain period of time.
 Call options and put options form the basis for a wide range of option strategies designed for hedging,
protection, or speculation.

How Does an Option Work?

Options are versatile securities. Traders buy options to speculate or to hedge current holdings, as well as
generate income through option writing. Option on stocks typically represent 100 shares. So if an option
costs $0.35, buying one option would cost $35 ($0.35 x 100).
There are two types of options: Call options and put options.
 Call options provide the option buyer with the right to buy an underlying security at the strike price, so
the buyer wants the stock to go up. Conversely, the option writer needs to give the underlying security to
the option buyer, at the strike price, in the event that the stock's market price exceeds the strike price.
 Put options give the option buyer the right to sell at the strike price, so the put buyer wants the stock to
go down. The opposite is true for a put option writer.