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Definition of Option

Option Image 1

Option

Gives the buyer the right, but not the obligation, to buy or sell an asset at a set price on or before a
given date. Investors, not companies, issue options. Investors who purchase call options bet the stock will be
worth more than the price set by the option (the strike price), plus the price they paid for the option itself.
Buyers of put options bet the stock's price will go down below the price set by the option. An option is part of
a class of securities called derivatives, so named because these securities derive their value from the worth of
an underlying investment.


Option

See call option and put option


Option

A right to buy or sell specific securities or commodities at a stated
price (exercise or strike price) within a specified time. An option is a type of
derivative.


Option

Right to buy or sell a specified property at a specified amount at some time in the future.



Related Terms:

Abandonment option

The option of terminating an investment earlier than originally planned.


American option

An option that may be exercised at any time up to and including the expiration date.
Related: European option



American option

An option that can be exercised any time until its
expiration date. Contrast with European option.


American-style option

An option contract that can be exercised at any time between the date of purchase and
the expiration date. Most exchange-traded options are American style.


Option Image 2

Arbitrage-free option-pricing models

Yield curve option-pricing models.


Asian option

option based on the average price of the asset during the life of the option.


Bargain-purchase-price option

Gives the lessee the option to purchase the asset at a price below fair market
value when the lease expires.


Barrier options

Contracts with trigger points that, when crossed, automatically generate buying or selling of
other options. These are very exotic options.


Basket options

Packages that involve the exchange of more than two currencies against a base currency at
expiration. The basket option buyer purchases the right, but not the obligation, to receive designated
currencies in exchange for a base currency, either at the prevailing spot market rate or at a prearranged rate of
exchange. A basket option is generally used by multinational corporations with multicurrency cash flows
since it is generally cheaper to buy an option on a basket of currencies than to buy individual options on each
of the currencies that make up the basket.


Binomial option pricing model

An option pricing model in which the underlying asset can take on only two
possible, discrete values in the next time period for each value that it can take on in the preceding time period.


Black-Scholes option-pricing model

A model for pricing call options based on arbitrage arguments that uses
the stock price, the exercise price, the risk-free interest rate, the time to expiration, and the standard deviation
of the stock return.


cafeteria plan a “menu” of fringe benefit options that include

cash or nontaxable benefits


Call an option

To exercise a call option.


Option Image 3

Call option

An option contract that gives its holder the right (but not the obligation) to purchase a specified
number of shares of the underlying stock at the given strike price, on or before the expiration date of the
contract.
Call premium
Premium in price above the par value of a bond or share of preferred stock that must be paid to
holders to redeem the bond or share of preferred stock before its scheduled maturity date.


Call Option

A contract that gives the holder the right to buy an asset for a
specified price on or before a given expiration (maturity) date



call option

Right to buy an asset at a specified exercise price on or before the exercise date.


Compound option

option on an option.


Covered or hedge option strategies

Strategies that involve a position in an option as well as a position in the
underlying stock, designed so that one position will help offset any unfavorable price movement in the other,
including covered call writing and protective put buying. Related: naked strategies


Currency option

An option to buy or sell a foreign currency.


Dealer options

Over-the-counter options, such as those offered by government and mortgage-backed
securities dealers.


Delivery options

The options available to the seller of an interest rate futures contract, including the quality
option, the timing option, and the wild card option. Delivery options make the buyer uncertain of which
Treasury Bond will be delivered or when it will be delivered.


Doubling option

A sinking fund provision that may allow repurchase of twice the required number of bonds
at the sinking fund call price.


Down-and-in option

Barrier option that comes into existence if asset price hits a barrier.


Down-and-out option

Barrier option that expires if asset price hits a barrier.


Option Image 4

Elasticity of an option

Percentage change in the value of an option given a 1% change in the value of the
option's underlying stock.



Embedded option

An option that is part of the structure of a bond that provides either the bondholder or
issuer the right to take some action against the other party, as opposed to a bare option, which trades
separately from any underlying security.


Equity options

Securities that give the holder the right to buy or sell a specified number of shares of stock, at
a specified price for a certain (limited) time period. Typically one option equals 100 shares of stock.


Escalating Price Option

A nonqualified stock option that uses a sliding scale for
the option price that changes in concert with a peer group index.


European option

option that may be exercised only at the expiration date. Related: american option.


European option

An option that can be exercised only on its expiration date.
Contrast with American option.


European-style option

An option contract that can only be exercised on the expiration date.


Exercising the option

The act buying or selling the underlying asset via the option contract.


Exit Options

A variety of options available to an investor to recover their invested capital and the return on their investment.


Foreign currency option

An option that conveys the right to buy or sell a specified amount of foreign
currency at a specified price within a specified time period.


Futures option

An option on a futures contract. Related: options on physicals.


Garmen-Kohlhagen option pricing model

A widely used model for pricing foreign currency options.


Greenshoe option

option that allows the underwriter for a new issue to buy and resell additional shares.


Heavenly Parachute Stock Option

A nonqualified stock option that allows a deceased option holder’s estate up to three years in which to exercise his or her
options.


Incentive Stock Option

An option to purchase company stock that is not taxable
to the employee at the time it is granted nor at the time when the employee
eventually exercises the option to buy stock.


Index and Option Market (IOM)

A division of the CME established in 1982 for trading stock index
products and options. Related: Chicago Mercantile Exchange (CME).


Index option

A call or put option based on a stock market index.


Interest Option

One of several investment accounts in which your premiums may be invested within your life insurance policy.


Intrinsic value of an option

The amount by which an option is in-the-money. An option which is not in-themoney
has no intrinsic value. Related: in-the-money.


Irrational call option

The implied call imbedded in the MBS. Identified as irrational because the call is
sometimes not exercised when it is in the money (interest rates are below the threshold to refinance).
Sometimes exercised when not in the money (home sold without regard to the relative level of interest rates).


Liquid yield option note (LYON)

Zero-coupon, callable, putable, convertible bond invented by Merrill


Liquid yield option note (LYON)

Zero-coupon, callable, putable, convertible bond invented by Merrill Lynch & Co.


Lookback option

An option that allows the buyer to choose as the option strike price any price of the
underlying asset that has occurred during the life of the option. If a call, the buyer will choose the minimal
price, whereas if a put, the buyer will choose the maximum price. This option will always be in the money.


Margin requirement (Options)

The amount of cash an uncovered (naked) option writer is required to
deposit and maintain to cover his daily position valuation and reasonably foreseeable intra-day price changes.


Multi-option financing facility

A syndicated confirmed credit line with attached options.


Naked option strategies

An unhedged strategy making exclusive use of one of the following: Long call
strategy (buying call options ), short call strategy (selling or writing call options), Long put strategy (buying
put options ), and short put strategy (selling or writing put options). By themselves, these positions are called
naked strategies because they do not involve an offsetting or risk-reducing position in another option or the
underlying security.
Related: covered option strategies.


Nonqualified Stock Option

A stock option not given any favorable tax treatment
under the Internal Revenue Code. The option is taxed when it is exercised,
based on the difference between the option price and the fair market
value of the stock on that day.


Option-adjusted spread (OAS)

1) The spread over an issuer's spot rate curve, developed as a measure of
the yield spread that can be used to convert dollar differences between theoretical value and market price.
2) The cost of the implied call embedded in a MBS, defined as additional basis-yield spread. When added to the
base yield spread of an MBS without an operative call produces the option-adjusted spread.


Option elasticity

The percentage increase in an option's value given a 1% change in the value of the
underlying security.


Option not to deliver

In the mortgage pipeline, an additional hedge placed in tandem with the forward or
substitute sale.


Option premium

The option price.


Option price

Also called the option premium, the price paid by the buyer of the options contract for the right
to buy or sell a security at a specified price in the future.


Option seller

Also called the option writer , the party who grants a right to trade a security at a given price in
the future.


Option writer

option seller.


Options contract

A contract that, in exchange for the option price, gives the option buyer the right, but not
the obligation, to buy (or sell) a financial asset at the exercise price from (or to) the option seller within a
specified time period, or on a specified date (expiration date).


Options contract multiple

A constant, set at $100, which when multiplied by the cash index value gives the
dollar value of the stock index underlying an option. That is, dollar value of the underlying stock index = cash
index value x $100 (the options contract multiple).


Options on physicals

Interest rate options written on fixed-income securities, as opposed to those written on
interest rate futures contracts.


Out-of-the-money option

A call option is out-of-the-money if the strike price is greater than the market price
of the underlying security. A put option is out-of-the-money if the strike price is less than the market price of
the underlying security.


Path dependent option

An option whose value depends on the sequence of prices of the underlying asset
rather than just the final price of the asset.


Postponement option

The option of postponing a project without eliminating the possibility of undertaking it.


Put an option

To exercise a put option.


Put option

This security gives investors the right to sell (or put) fixed number of shares at a fixed price within
a given time frame. An investor, for example, might wish to have the right to sell shares of a stock at a certain
price by a certain time in order to protect, or hedge, an existing investment.


Put Option

A contract that gives the holder the right to sell an asset for a
specified price on or before a given expiration (maturity) date


put option

Right to sell an asset at a specified exercise price on or before the exercise date.


Put Option

Contract that grants the right to sell at a specified price at some time in the future.


Quality option

Also called the swap option, the seller's choice of deliverables in Treasury Bond and Treasury
note futures contract. Related: cheapest to deliver issue


real options

options embedded in real assets.


Split-fee option

An option on an option. The buyer generally executes the split fee with first an initial fee,
with a window period at the end of which upon payment of a second fee the original terms of the option may
be extended to a later predetermined final notification date.


Stock index option

An option in which the underlying is a common stock index.


Stock option

An option in which the underlying is the common stock of a corporation.


stock option

a right allowing the holder to purchase shares of common stock during some future time frame and at a specified price


Stock option

A right to purchase a specific maximum number of shares at a specific
price no later than a specific date. It is a commonly used form of incentive compensation.


Tax deferral option

The feature of the U.S. Internal Revenue Code that the capital gains tax on an asset is
payable only when the gain is realized by selling the asset.


Tax-timing option

The option to sell an asset and claim a loss for tax purposes or not to sell the asset and
defer the capital gains tax.


Time value of an option

The portion of an option's premium that is based on the amount of time remaining
until the expiration date of the option contract, and that the underlying components that determine the value of
the option may change during that time. Time value is generally equal to the difference between the premium
and the intrinsic value. Related: in-the-money.


Timing option

For a Treasury Bond or note futures contract, the seller's choice of when in the delivery month to deliver.


Two-state option pricing model

An option pricing model in which the underlying asset can take on only two
possible (discrete) values in the next time period for each value it can take on in the preceding time period.
Also called the binomial option pricing model.


Virtual currency option

A new option contract introduced by the PHLX in 1994 that is settled in US$ rather
than in the underlying currency. These options are also called 3-Ds (dollar denominated delivery).


Wild card option

The right of the seller of a Treasury Bond futures contract to give notice of intent to deliver
at or before 8:00 p.m. Chicago time after the closing of the exchange (3:15 p.m. Chicago time) when the
futures settlement price has been fixed. Related: Timing option.


Yield curve option-pricing models

Models that can incorporate different volatility assumptions along the
yield curve, such as the Black-Derman-Toy model. Also called arbitrage-free option-pricing models.


Account Value

The sum of all the interest options in your policy, including interest.


Adjusted Cash Flow Provided by Continuing Operations

Cash flow provided by operating
activities adjusted to provide a more recurring, sustainable measure. Adjustments to reported cash
provided by operating activities are made to remove such nonrecurring cash items as: the operating
component of discontinued operations, income taxes on items classified as investing or financing activities, income tax benefits from nonqualified employee stock options, the cash effects of purchases and sales of trading securities for nonfinancial firms, capitalized expenditures, and other nonrecurring cash inflows and outflows.


annual return

The fund return, for any 12-month period, including changes in unit value and the reinvestment of distributions, but not taking into account sales, redemption, distribution or other optional charges or income taxes payable by any unitholder that would reduce returns.


Assignment

The receipt of an exercise notice by an options writer that requires the writer to sell (in the case
of a call) or purchase (in the case of a put) the underlying security at the specified strike price.


At-the-money

An option is at-the-money if the strike price of the option is equal to the market price of the
underlying security. For example, if xyz stock is trading at 54, then the xyz 54 option is at-the-money.


Back fee

The fee paid on the extension date if the buyer wishes to continue the option.


basic earnings per share (EPS)

This important ratio equals the net
income for a period (usually one year) divided by the number capital
stock shares issued by a business corporation. This ratio is so important
for publicly owned business corporations that it is included in the daily
stock trading tables published by the Wall Street Journal, the New York
Times, and other major newspapers. Despite being a rather straightforward
concept, there are several technical problems in calculating
earnings per share. Actually, two EPS ratios are needed for many businesses—
basic EPS, which uses the actual number of capital shares outstanding,
and diluted EPS, which takes into account additional shares of
stock that may be issued for stock options granted by a business and
other stock shares that a business is obligated to issue in the future.
Also, many businesses report not one but two net income figures—one
before extraordinary gains and losses were recorded in the period and a
second after deducting these nonrecurring gains and losses. Many business
corporations issue more than one class of capital stock, which
makes the calculation of their earnings per share even more complicated.


Binomial model

A method of pricing options or other equity derivatives in
which the probability over time of each possible price follows a binomial
distribution. The basic assumption is that prices can move to only two values
(one higher and one lower) over any short time period.


Black-Scholes model

The first complete mathematical model for pricing
options, developed by Fischer Black and Myron Scholes. It examines market
price, strike price, volatility, time to expiration, and interest rates. It is limited
to only certain kinds of options.


Bond value

With respect to convertible bonds, the value the security would have if it were not convertible
apart from the conversion option.


Building a binomial tree

For a binomial option model: plotting the two
possible short-term price-changes values, and then the subsequent two values
each, and then the subsequent two values each, and so on over time, is known
as “building a binomial tree.” See Binomial model.


Bull spread

A spread strategy in which an investor buys an out-of-the-money put option, financing it by
selling an out-of-the money call option on the same underlying.



 

 

 

 

 

 

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