Understanding Stock Options

by Charlotte Wood
(last updated February 21, 2009)

You hear all this stock jargon on television, in movies, in books and it's possible you have no idea what they're talking about. With terms floating around like bonds, bull market, bear market, and options how do you make sense of it all? Reality is, you can't make sense of all of it all at once; you need to take it one step at a time. So today let's focus on stock options and understanding what those are.

Stock options essentially give you rights to buy and sell and allow you to do more with your money. What options do is allow you to greater diversify your portfolio and take better control of your money. When you have a stock option, you have the right to carry on a future financial transaction with underlying security. So you can buy a stock at a later date for a price you set earlier and you can sell a stock for a price earlier agreed upon. It's a financial contract to which, if signed, the other party must adhere.

Options usually include:

  • Whether or not the option holder can buy (call option) or sell (put option)
  • The amount of whatever is being considered (
  • The price agreed upon (known as the strike price)
  • An expiration date for the option
  • Settlement terms
  • How the option is quoted in the market

After this there are a few different options to choose from:

  • Exchange traded options: standardized options that go through a clearing house, pricing models available, and includes stock options, commodity options, bond and interest rate options, index options, and options on future contracts
  • Over-the-counter (OTC) options: not listed on exchange and takes place between two private parties, can be individualized to meet specific needs, one party usually a well capitalized establishment, includes interest rate, currency cross rate, and swap options

These are the basics of options however this is only the surface. There are more options within the options and the best way to decide if and what options are best for you is to talk to your investment advisor. Now you know the fundamentals, you should be able to go in with some degree of knowledge and competency.

Author Bio

Charlotte Wood

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