Bond Valuation and Risk: Options Markets

Vocabulary-style flashcards covering the basics of stock options, including definitions, market participants, determinants of premiums, and strategic uses for speculation and hedging.

Call Option

The right to buy an underlying financial instrument at an exercise price (or strike price) within a specified period of time.

Put Option

The right to sell an underlying financial instrument at an exercise price (or strike price) within a specified period of time.

In the money (Call Option)

A status indicating the market price is greater than the exercise price (\text{market price} > ext{exercise price}).

Out of the money (Call Option)

A status indicating the market price is less than the exercise price (\text{market price} < ext{exercise price}).

At the money

A status indicating the market price is equal to the exercise price ($\text{market price} = ext{exercise price}$).

In the money (Put Option)

A status indicating the market price is less than the exercise price (\text{market price} < ext{exercise price}).

Out of the money (Put Option)

A status indicating the market price is greater than the exercise price (\text{market price} > ext{exercise price}).

Premium

The fee paid by a buyer to obtain an option, which is paid in addition to the price of the financial instrument.

Chicago Board Options Exchange (CBOE)

An exchange created in 1973 that serves as the most important exchange for trading options.

Options Clearing Corporation

An entity that serves as a guarantor on option contracts traded in the United States.

Market Order

An order used by an investor for an option transaction at the current prevailing market price.

Limit Order

An order used by an investor for an option transaction executed only at a specified price or better.

Implied Volatility

The anticipated volatility or standard deviation of an underlying stock estimated from the prevailing option premium using an option-pricing formula.

Covered Call Option

A hedging strategy where an investor sells call options on a stock they already own, using the premium to offset potential losses from a decline in stock value.

Long-term equity anticipations (LEAPs)

Options that have longer terms to expiration, usually between two and three years from the initial listing date.

Stock Index Option

A contract providing the right to trade a specified stock index at a specified price by a specified expiration date.

Dynamic Asset Allocation

An investment strategy involving switching between risky and low-risk positions in response to changing expectations, sometimes using stock index options.

Options on Futures Contracts

Also known as futures options, these give the owner the right to purchase or sell a specific futures contract for a specified price within a specified period of time.

Currency Call Option

An instrument providing the right to purchase a specified currency for a specified price within a specified period of time.

Currency Put Option

An instrument providing the right to sell a specified currency for a specified price within a specified period of time.