Options vs. Futures: What’s the Difference?

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By 
INVESTOPEDIA STAFF
 
 
Reviewed by 
JULIUS MANSA

 
 
Updated Jun 1, 2021
TABLE OF CONTENTS

 Options
 Futures
 Key Differences
 Examples of Options and Futures

An options contract gives an investor the right, but not the obligation, to buy (or
sell) shares at a specific price at any time, as long as the contract is in effect. By
contrast, a futures contract requires a buyer to purchase shares—and a seller to
sell them—on a specific future date, unless the holder's position is closed before
the expiration date.

Options and futures are both financial products investors can use to make money
or to hedge current investments. Both an option and a future allow an investor to
buy an investment at a specific price by a specific date. But the markets for these
two products are very different in how they work and how risky they are to the
investor.
KEY TAKEAWAYS

 Options and futures are similar trading products that provide investors with
the chance to make money and hedge current investments.
 An option gives the buyer the right, but not the obligation, to buy (or sell)
an asset at a specific price at any time during the life of the contract.
 A futures contract gives the buyer the obligation to purchase a specific
asset, and the seller to sell and deliver that asset at a specific future date
unless the holder's position is closed prior to expiration.
Options
Options are based on the value of an underlying security such as a stock. As
noted above, an options contract gives an investor the opportunity, but not the
obligation, to buy or sell the asset at a specific price while the contract is still in
effect. Investors don't have to buy or sell the asset if they decide not to do so.

Options are a derivative form of investment. They may be offers to buy or to sell
shares but don't represent actual ownership of the underlying investments until
the agreement is finalized.

Buyers typically pay a premium for options contracts, which reflect 100 shares of
the underlying asset. Premiums generally represent the asset's strike price—the
rate to buy or sell it until the contract's expiration date. This date indicates the
day by which the contract must be used.

Types of Options: Call and Put Options

There are only two kinds of options: Call options and put options. A call option is
an offer to buy a stock at the strike price before the agreement expires. A put
option is an offer to sell a stock at a specific price.

Let's look at an example of each—first of a call option. An investor opens a call

option to buy stock XYZ at a $50 strike price sometime within the next three
months. The stock is currently trading at $49. If the stock jumps to $60, the call
buyer can exercise the right to buy the stock at $50. That buyer can then
immediately sell the stock for $60 for a $10 profit per share.

Other Possibilities
Alternatively, the option buyer can simply sell the call and pocket the profit, since
the call option is worth $10 per share. If the option is trading below $50 at the
time the contract expires, the option is worthless. The call buyer loses the upfront
payment for the option, called the premium.
Meanwhile, if an investor owns a put option to sell XYZ at $100, and XYZ’s price
falls to $80 before the option expires, the investor will gain $20 per share, minus
the cost of the premium. If the price of XYZ is above $100 at expiration, the
option is worthless and the investor loses the premium paid upfront. Either the
put buyer or the writer can close out their option position to lock in a profit or loss
at any time before its expiration. This is done by buying the option, in the case of
the writer, or selling the option, in the case of the buyer. The put buyer may also
choose to exercise the right to sell at the strike price.

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What's The Difference Between Options And Futures?

Futures
A futures contract is the obligation to sell or buy an asset at a later date at an
agreed-upon price. Futures contracts are a true hedge investment and are most
understandable when considered in terms of commodities like corn or oil. For
instance, a farmer may want to lock in an acceptable price upfront in case market
prices fall before the crop can be delivered. The buyer also wants to lock in a
price upfront, too, if prices soar by the time the crop is delivered.

Examples
Let's demonstrate with an example. Assume two traders agree to a $50 per
bushel price on a corn futures contract. If the price of corn moves up to $55, the
buyer of the contract makes $5 per barrel. The seller, on the other hand, loses
out on a better deal.