Index option
These options have index as the underlying asset. For example, options on Nifty, Sensex, etc.
Stock option
These options have individual stocks as the underlying asset. For example, option on ONGC, NTPC etc.
Buyer of an option
The buyer of an option is one who has a right but not the obligation in the contract. For owning this right, he pays a price to the seller of this right called ‘option premium’ to the option seller
Writer of an option
The writer of an option is one who receives the option premium and is thereby obliged to sell/buy the asset if the buyer of option exercises his right.
American option
The owner of such option can exercise his right at any time on or before the expiry date/day of the contract.
European option
The owner of such option can exercise his right only on the expiry date/day of the contract. In India, Index options are European.
At the money (ATM) option
At the money option would lead to zero cash flow if it were exercised immediately. Therefore, for both call and put ATM options, strike price is equal to spot price.
Intrinsic value
Option premium, defined above, consists of two components – intrinsic value and time value.
For an option, intrinsic value refers to the amount by which option is in the money i.e. the amount an option buyer will realize, before adjusting for premium paid, if he exercises the option instantly.
Therefore, only in-the-money options have intrinsic value whereas at-the-money and out-of-the-money options have zero intrinsic value. The intrinsic value of an option can never be negative. Thus, for call option which is in-the-money, intrinsic value is the excess of spot price (S) over the exercise price (X).
Thus, intrinsic value of call option can be calculated as S-X, with minimum value possible as zero because no one would like to exercise his right under no advantage condition. Similarly, for put option which is in-the-money, intrinsic value is the excess of exercise price (X) over the spot price (S).
Thus, intrinsic value of put option can be calculated as X-S, with minimum value possible as zero.
Therefore, only in-the-money options have intrinsic value whereas at-the-money and out-of-the-money options have zero intrinsic value. The intrinsic value of an option can never be negative. Thus, for call option which is in-the-money, intrinsic value is the excess of spot price (S) over the exercise price (X).
Thus, intrinsic value of call option can be calculated as S-X, with minimum value possible as zero because no one would like to exercise his right under no advantage condition. Similarly, for put option which is in-the-money, intrinsic value is the excess of exercise price (X) over the spot price (S).
Thus, intrinsic value of put option can be calculated as X-S, with minimum value possible as zero.
Time value
It is the difference between premium and intrinsic value, if any, of an option. ATM and OTM options will have only time value because the intrinsic value of such options is zero.
Open Interest
As discussed in futures section, open interest is the total number of option contracts outstanding for an underlying asset.
Option terminology
There are several terms used in the options market. Let us comprehend on each of them with the help of the following price:
Quote for Nifty Call option as on March 7, 2018
1. Instrument type : Option Index
2. Underlying asset : Nifty 50
3. Expiry date : March 28, 2018
4. Option type : Call European
5. Strike Price : 10000
6. Open price : 271.95
7. High price : 310.00
8. Low price : 233.25
9. Close price : 245.05
10. Traded Volume : 14,941
11. Open Interest : 9,83,775
12. Underlying value : 10154.20
Quote for Nifty Put option as on March 7, 2018
1. Instrument type : Option Index
2. Underlying asset : Nifty 50
3. Expiry date : March 28, 2018
4. Option type : Put European
5. Strike Price : 10000
6. Open price : 74.50
7. High price : 86.70
8. Low price : 66.55
9. Close price : 80.40
10. Traded Volume : 2,00,111
11. Open Interest : 40,83,000
12. Underlying value : 10154.20
Quote for Nifty Call option as on March 7, 2018
1. Instrument type : Option Index
2. Underlying asset : Nifty 50
3. Expiry date : March 28, 2018
4. Option type : Call European
5. Strike Price : 10000
6. Open price : 271.95
7. High price : 310.00
8. Low price : 233.25
9. Close price : 245.05
10. Traded Volume : 14,941
11. Open Interest : 9,83,775
12. Underlying value : 10154.20
Quote for Nifty Put option as on March 7, 2018
1. Instrument type : Option Index
2. Underlying asset : Nifty 50
3. Expiry date : March 28, 2018
4. Option type : Put European
5. Strike Price : 10000
6. Open price : 74.50
7. High price : 86.70
8. Low price : 66.55
9. Close price : 80.40
10. Traded Volume : 2,00,111
11. Open Interest : 40,83,000
12. Underlying value : 10154.20
Option price/Premium
It is the price which the option buyer pays to the option seller. In our examples, option price for call option is Rs. 245.05 and for put option is Rs. 80.40. Premium traded is for single unit of nifty and to arrive at the total premium in a contract, we need to multiply this premium with the lot size.
Lot size
Lot size is the number of units of underlying asset in a contract. Lot size of Nifty option contracts is 75. Accordingly, in our examples, total premium for call option
contract would be Rs 245.05 x 75= Rs 18378.75 and total premium for put option contract would be Rs 80.40 x 75 = Rs 6030.
Expiration Day
The day on which a derivative contract ceases to exist. It is the last trading date/day of the contract. Like in case of futures, option contracts also expire on the last Thursday of the expiry month (or, on the previous trading day, if the last Thursday is a trading holiday).
In our example, since the last Thursday (i.e., March 29, 2018) is a trading holiday, both the call and put options expire one day before that i.e. on 28 March, 2018. (Please note that Weekly Options expire on Thursday of each week.
Weekly Options are the Exchange Traded Options based on a Stock or an Index with shorter maturity of one or more weeks. If the expiry day of the Weekly Options falls on a trading Holiday, then the expiry will be on the previous trading day.)
In our example, since the last Thursday (i.e., March 29, 2018) is a trading holiday, both the call and put options expire one day before that i.e. on 28 March, 2018. (Please note that Weekly Options expire on Thursday of each week.
Weekly Options are the Exchange Traded Options based on a Stock or an Index with shorter maturity of one or more weeks. If the expiry day of the Weekly Options falls on a trading Holiday, then the expiry will be on the previous trading day.)
Spot price (S)
It is the price at which the underlying asset trades in the spot market. In our examples, it is the value of underlying viz. 10154.20.
Strike price or Exercise price (X)
Strike price is the price per share for which the underlying security may be purchased or sold by the option holder. In our examples, strike price for both call and put options is 10000.
In the money (ITM) option
This option would give holder a positive cash flow, if it were exercised immediately. A call option is said to be ITM, when spot price is higher than strike price. And, a put option is said to be ITM when spot price is lower than strike price. In our examples, call option is in the money.
Out of the money (OTM) option
Out of the money option is one with strike price worse than the spot price for the holder of option. In other words, this option would give the holder a negative cash flow if it were exercised immediately.
A call option is said to be OTM, when spot price is lower than strike price. And a put option is said to be OTM when spot price is higher than strike price. In our examples, put option is out of the money.
A call option is said to be OTM, when spot price is lower than strike price. And a put option is said to be OTM when spot price is higher than strike price. In our examples, put option is out of the money.
Exercise of Options
In case of American option, buyers can exercise their option any time before the maturity of contract. All these options are exercised with respect to the settlement value/ closing price of the stock on the day of exercise of option.
Assignment of Options
Assignment of options means the allocation of exercised options to one or more option sellers. The issue of assignment of options arises only in case of American options because a buyer can exercise his options at any point of time.
