Options can be a powerful wealth building tool if used properly. But one big mistake you can make when trading stock options is buying the wrong strike price. This can work against you in so many ways. So let us examine some strike prices and the way they can help you.
An in the money option is an answer that already has some intrinsic value. For example stock XYZ is trading at $55 we buy the $50 call for $7. This gives us the right to buy this stock at $50, or $5 below the price of the stock today. This is called an in the money option because it already has some intrinsic value.
This option contract is considered the most conservative approach, you’ll not make as much when you’re right, but they’re safer because chances are the option will finish in the money.
Really, it makes sense.
An at the money option is a contract which lies at the price of the stock, or closer to the price of the stock. For example stock XYZ is trading at $55 and we buy the $55 call for $4. Now the stock does not have intrinsic value so it is riskier. However, it will make a larger gain if the stock does go up.
The strike price of a stock option is the price per share of stock that will be given if the election is exercised. Thus, the relation between the strike price and the value of the underlying stock is an important factor in the price (I.e., the premium) for the stock option. For instance, if a stock is priced at $25 per share, then a $25 Call or Put is considered’ At the money’. The premium for an At-The-Money options is usually a moderate price.
Stock option intrinsic value calculation
Nevertheless, a $20 Call for a $25 stock, already has $5 of ‘intrinsic value’ meaning you could exercise the call today and you ‘d get the stock for $5 below its present market price. Such a call would have a premium of at least $5. The $20 call can be considered’ In the Money’ because of this.
So which one of the following options is the best solution? It depends on the individual trader and how much they wish to risk. A conservative trader would choose the in the money option, while a more aggressive trader would choose the out of the money option.
Out of the money options are the most speculative instrument on the market. These options give you the potential to make the highest return, but also tell you the highest risk. It is an option contract that is far from the price of the stock.
For example stock XYZ is trading at $55 and we buy the $60 put for $1. If the stock makes a big gain this is potentially the most profitable. But the stock needs to get above $60 before we have any intrinsic value. If the stock moves up to $59 by expiration, our option would expire worthless even if the stock moved up like we assumed it would.
Of all the ways investors have of losing money in the stock market, none is as common as ‘lost opportunity.’ This is how professional money managers describe investments that are not earning the current available rate of interest. Today, this rate, based on money market funds, is nearly 18 percent on an annual basis. Any investor whose portfolio is not producing this rate of return or is not expected to over the next year or so is, according to this view …