Intro Option Contracts -Calls & Puts. Class Replay. SIE Exam Prep & Series 7 Exam. Lecture 1 of 4

Introduction

This tutorial provides a comprehensive overview of option contracts, focusing on calls and puts, as presented in the "Intro Option Contracts - Calls & Puts" video lecture. Understanding option contracts is crucial for those preparing for finance-related exams such as the SIE Exam and Series 7 Exam. This guide will break down the key concepts discussed in the video, ensuring you have a solid foundation in options trading.

Step 1: Understand the Basics of Option Contracts

• Definition: An option contract is a financial derivative that gives the buyer the right, but not the obligation, to buy or sell an underlying asset at a specified price before a certain date.

Types of Options

• Call Options: Give the holder the right to purchase the underlying asset.
• Put Options: Give the holder the right to sell the underlying asset.

Step 2: Identify the Two Parties in an Option Contract

• Buyer: The party that purchases the option contract.
• Seller (Writer): The party that sells the option contract and is obligated to fulfill the transaction if the buyer exercises the option.

Step 3: Opening Positions in Options

• Opening Purchase (Long Position):

  • When you buy an option, you are establishing a long position.
  • This is done with the expectation that the option will increase in value.

• Opening Sale (Short Position):

  • When you sell an option, you are establishing a short position.
  • This is typically done to collect the premium with the obligation to fulfill the contract if exercised.

Step 4: Explore Call and Put Contracts

• Two Parties to a Call Contract:

  • Buyer of the call option (entitled to buy).
  • Seller of the call option (obligated to sell if exercised).

• Two Parties to a Put Contract:

  • Buyer of the put option (entitled to sell).
  • Seller of the put option (obligated to buy if exercised).

Step 5: Understand the Basic Option Positions

There are four basic positions in options

1. Long Call
2. Short Call
3. Long Put
4. Short Put

Step 6: Learn the Terms of a Standardized Option Contract

• Multiplier: Typically, one option contract represents 100 shares of the underlying asset.
• Expiration: Options have a set expiration date, after which they become worthless if not exercised.

Step 7: Determine Intrinsic Value

• In the Money: A call option is in the money if the stock price is above the strike price. A put option is in the money if the stock price is below the strike price.

Calculating Intrinsic Value

For Call Options

• Intrinsic Value = Current Stock Price - Strike Price (if positive).

For Put Options

• Intrinsic Value = Strike Price - Current Stock Price (if positive).

Step 8: Understand Option Premiums

• Premium Calculation: The price of an option is made up of intrinsic value plus time value.

Step 9: Recognize Option Contract Events

Events

1. Traded: Buying or selling the option.
2. Exercised: Executing the right to buy or sell the underlying asset.
3. Expired: The option is no longer valid after expiration.

Step 10: Opening an Option Account

• Familiarize yourself with the OCC Disclosure Document and Option Agreement required for trading options.

Step 11: Trading Option Contracts

• Know the processes for opening and closing transactions in the options market.

Step 12: Different Styles of Options

• American Style Options: Can be exercised at any time before expiration.
• European Style Options: Can only be exercised at expiration.

Conclusion

In this tutorial, we covered the fundamentals of option contracts, including calls and puts, the parties involved, opening positions, intrinsic values, and trading basics. Understanding these concepts is essential for anyone looking to engage in options trading or prepare for finance exams. As you move forward, consider reviewing more advanced strategies and real-world applications of these principles to enhance your trading skills.