Options Contracts

Advanced
Mar 15, 2023
In the financial and investment market, specific terms come up for different solutions, approaches, or tools. Options contracts are a notable term that allows the traders to buy or sell at predefined prices and timelines.   

Options Contracts- What are They?

  Options contracts refer to the agreement between sellers and buyers. It states that the latter is permitted to buy/sell underlying assets during a specific time (maturity date) and at a certain rate (exercise price/strike price). Here, the seller is obligated to allow the transaction.    Options contracts can be on a variety of underlying assets. Being derived from the financial indexes, these contracts can include stocks and cryptocurrencies. These help in trading with speculations.  Typically, buyers trade with the following types of assets using this deal:  
  • Real estate 
  • Commodities 
  • Securities 
 

Types of Options Contracts

  Two variations are available in the context of options contract- calls and puts. One can sell them for income generation or buy them to speculate on hedge exposure direction.   

Call Options contract

  When the buyer acquires a contract or contracts during the sale, one position opens up in this type of transaction. The former provides a premium to the sellers for guaranteeing the sale of shares at a specific strike price. The position gets the term “covered call” if the seller decides to hold the for-sale shares.   

Put Options Contract

  Those who decide to buy put options speculate that the price declines noticeably for underlying assets (index/stock). Besides that, they sell the available shares as per contract-specified rates. In case the strike price is higher than the share price during or before the expiration date, buyers can sell their contract (no shares in the portfolio).  Alternatively, the buyers can decide to assign specific shares for purchase to the seller at the strike rate.   

How do Options Contracts Operate?

  The following terms are included in options contracts:   
  • Underlying assets
  • The expiration or maturity date of the contract 
  • The strike price, i.e., the specified amount one can trade the underlying asset with 
  During this agreement, consumers can buy call options to use as leveraged bets during the stock exchange. Put options are another type to consider that are useful for profit-making at times of low-price rates.    Buyers of the call options contracts can buy shares noted under the contract, but there is no commitment. Similarly, put options contract buyers hold the right to sell their shares, but they are not obligated to do that. But, sellers have to provide the fixed trading amount the buyers ask for related to either contract.    Statistically, 10% of overall options contracts do get exercised, but around 55-60% of them close down when the expiration date passes. It is important to handle the transaction within the maturity date.   

Uses of Options Contracts

  Options contracts are usable for the following two reasons:  

Hedging

Here, the investor got exposed to the underlying asset. However, they utilize options contracts for risk avoidance in case of an unprofitable market variable movement.   

Speculation 

The investor holds the option position here if they surmise that the rate of the stock price is at a low sales price but can rise. Alternatively, they also conclude based on speculation that the current low stock price can increase in the future. So, essentially, they handle the options contract transaction based on the potential future direction they consider the market variable to go.   

Why Options Contracts Are Popular? 

  There are specific reasons for the growing interest in options contracts. They include the following: The sellers get the premium or payment no matter how the contract continues. Investors get more flexibility with managing their portion and get high returns while controlling risks better. Buyers can put a small fund upfront and still get the right to buy the asset they decided on within the contract.   

Conclusion 

  Indeed, option contracts are notable options for investment and profit growth, whether for hedging or market speculation. Decide between the type of options contract to use based on your requirement. The options contracts offer a diverse choice to investors to purchase or sell the asset in the future as well. On top of everything, it doesn’t depend on the market value. The options contracts are highly versatile and can be used in variable scenarios. The investor can try certain hedging strategies too other than speculations. 

Introduction