Introduction to Call Options
Lesson Summary
This lecture introduces call options — one of the two fundamental types of options contracts — and explains the key terminology, mechanics, and strategies surrounding them.
What Is a Call Option?
A call option gives the holder the right, but not the obligation, to buy 100 shares of a stock at a predetermined price (the strike price) by a certain date (the expiration date). The buyer pays a premium to the seller for this right.
Key Terminology
- Underlying stock: The stock the option contract is based on
- Strike price: The price at which you can buy the stock if you exercise the option
- Expiration date: The date the option contract expires
- Premium: The price paid to purchase the option contract
- In the money (ITM): When the stock price is above the strike price
- Out of the money (OTM): When the stock price is below the strike price
Buying vs. Selling Call Options
- Buying a call: You pay a premium and profit if the stock rises above the strike price plus your premium cost. Your maximum loss is limited to the premium paid.
- Selling (writing) a call: You collect a premium and take on the obligation to sell shares if the buyer exercises. The seller takes on potentially unlimited risk.
Why Use Call Options?
- Call options require less capital upfront compared to buying stock outright
- They provide leverage, allowing for higher percentage returns on price moves
- Strategies like covered calls let you sell call options against shares you already own to collect premium income
- Call options are commonly used to trade ahead of events like earnings announcements
Profit and Loss at Expiration
- If the stock price is above the strike price, the call is ITM and the holder profits from the difference minus the premium paid
- If the stock price is below the strike price, the call expires worthless and the holder loses the premium