Module 2: Basic Options Terminology

Options trading has its own special language. Let's break down the most important terms in simple, easy-to-understand ways. These terms will be used throughout the courses so it's important to familiarize yourself with these:

Underlying Asset

What it is: An underlying asset refers to the security (financial instrument like a stock) an investor can buy or sell using the option. Stocks are the most common underlying asset discussed in this series of articles, although investors can also trade options on indices, ETFs, commodities, and various other financial assets.

Example: If you hold an option on BCE Inc. stock, BCE is the underlying asset.

Strike Price

What it is: The price at which you can buy or sell the stock if you use your option.

Example: If you have a call option with a $50 strike price, it means you can buy the stock for $50, even if it's currently trading at a different price.

Expiration Date

What it is: The last day your option is valid.

Example: If your option expires on June 30, you need to decide whether to use it by that date. After that, it's no longer valid.

Premium

What it is: The price you pay to buy an option (or the money you receive if you sell an option).

Example: If an option's premium is $2, and each option represents 100 shares, you'd pay $200 to buy that option.

Moneyness of Options

This term describes how the current stock price compares to the option's strike price:

Buyer (Holder) vs. Seller (Writer)

• Buyer: The person who purchases an option. They pay the premium and have the right to use the option.
• Seller: The person who sells an option. They receive the premium but have an obligation if the buyer decides to use the option.

Example

Let's use "MapleBank Financial," a fictional company from the Financials industry sector. Imagine MapleBank is currently trading at $75.

A call option for MapleBank has a strike price of $70 and expires next month. It's selling for a premium of $6.

This option is "in-the-money" because the current stock price ($75) is higher than the strike price ($70).
If you buy this option, you'd pay $6 × 100 = $600 (because each option typically represents 100 shares).

Exercise

1. If MapleBank is trading at $75, a put option with a strike price of $80 would be:
   a) In-the-money
   b) At-the-money
   c) Out-of-the-money
   
   
2. The amount you pay to purchase an option is called the:
   a) Strike price
   b) Premium
   c) Expiration value
   
   
3. True or False: The expiration date is the first day you can use your option.

Answers: 1) a, 2) b, 3) False (it's the last day you can use your option)

Understanding these terms is your first step towards becoming comfortable with options trading. Now, let's put that knowledge to work by exploring call options - a key strategy for profiting from rising stock prices. Ready to learn how to potentially benefit from market upswings? Let's dive into Module 3!

Disclaimer:

The strategies presented in this article are for information and training purposes only, and should not be interpreted as recommendations to buy or sell any security. As always, you should ensure that you are comfortable with the proposed scenarios and ready to assume all the risks before implementing an option strategy.

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