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Option

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An option is a contract between a buyer and a writer (seller) of an underlying asset (such as a stock) where the buyer retains the right, but not the obligation, to buy or sell the underlying asset from/to the writer, at a given strike price, either on or before a predetermined expiration date. The buyer of an option pays the writer a premium to offset the risk the writer undertakes.

There are two major classes of option: a call option and a put option. A call option gives the buyer the right to buy the underlying asset from the writer, while a put option gives the buyer the right to sell the underlying asset to the writer. There are three major option styles: the American-style option, the European-style option, and the capped option. The American-style option, the most common style of option, allows the buyer to exercise the option at any time up until the expiration date. The European-style option is similiar to the American-style option, however, the option cannot be exercised anytime before the expiration date, but just during a short period just before the expiration date. The capped option is the same as the European-style option except the option is automatically exercised when a cap strike price is reached (a positive cap for a call option, a negative cap for a put option). Other types of options include long term options (e.g. LEAPS) and exotic options (e.g. bermuda option, lookback option, etc.).



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