Eli5: what are options in stock trading?
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Options are the derivatives that give you the right to buy (call option) or sell (put option) an underlying (stock, bond, foreign currency, etc) at the
agreement price (strike price) on specific time (date, duration) or any specific event.
Since you buy the right, It is your choice whether to use it. When it is used for hedging, it kinda like you lower your profit to limit your loss.
Let’s say you need to buy a lot of gas in a few weeks for a potential trip to the lake. You need to gas up a few cars, maybe your boat, and some ATVs. The price of gas has been going up and down in your community and you’re nervous about the possibility that the price of gas is going to go up in a few weeks. You don’t want to buy the gas now because you don’t have any place to store it.
What you need is someone willing to take some of that risk from you, almost like insurance, so that you can pay them for the *option* to buy gas at the price you’re willing to pay.
They might sell you, for $50, the *option* to buy 200 gallons for $600 in 3 weeks. They are betting that the price of gas won’t go too much higher than that. If it does, then they lose money. If it doesn’t, then at least they get the $50.
So when the time comes for your trip, you can now choose to exercise the option or not. If the price of gas falls below what your option says you can buy it at, then you don’t need to exercise it and you can let it expire. You’re out the $50. But if it goes above the price, you can exercise the option and get the gas at the negotiated price.
You might also be able to buy and sell options. Imagine that the price of gas is going up, but you realize you can’t take your trip after all. When you lament to your neighbor, she says that they were planning on going on their own trip at the same time and they could really use the gas. Since prices are higher, there’s more of a chance that your option will save them money, so they agree to buy it from you for $75. You’ve made $25 in profit and they now have guaranteed gas at a reasonable price.
Options are a type of contract that give you the option to buy or sell shares at a specific price. Eg you can buy 100 shares of Tesla at 50$ regardless of the current price on the stock market. You can then go and sell it on the market for a profit. It’s basically a contract between you and someone else to buy their shares for a certain price. You have to purchase options so it costs you money to buy them and there’s an expiry date on them as well.
You have beyblade. I have hotwheels. I like beyblade. You give me your beyblade. I will give you my hotwheels. When we turn 18, you can ask for your beyblade back, if you want to, provided you return my hotwheels.
Now, if beylades become collectibles, you will definitely ask it back. Otherwise, you will let it go.
From my side, even if hotwheels are shit hot, I cannot ask you. Because, I gave you the option.
Addition: Please feel free to point out of this is not reasonable. I don’t want to confuse people.
Option is slang for “options contract”
It is an agreement for one individual to buy or sell a certain amount of stock at a fixed price, if they take the option to execute it, within a predetermined amount of time.
Let’s say stock X is trading at $10. You think the price will go up. You could buy a call option for 100 shares with a strike price of $11 that expires in thirty days. That means if you exercise the option you will buy 100 shares at $11 each. You will pay a small premium of a few dollars when agree to the options contract, but the option will expire worthless in thirty days if the price doesn’t reach $11.
Why would you want to do this instead of just buying 100 shares at $10 each? Well the reason is that you can take the cash equivalent of the option value instead of actually excersing it. That means if the price reaches $12, you don’t actually have to spend $1100 on $1200 of stock. You can just take the $100 difference. This lets a trader “control” a large amount of stock with substantially less capital for the price of the options contract.
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