Description
An option contract conveys the right to buy or sell a specific quantity of a physical or intangible asset at a specific price within a preset time period. An option gives the buyer of the contract the right rather than the obligation to exercise at the preset price. The seller or writer of the option is committed to deal if the buyer chooses. The buyer pays the seller a premium for this privilege.
Options can be contracts to buy or sell physical assets such as 10,000 shares of a particular company's stock or 10,000 barrels of oil-or contracts on something less tangible such as an index of underlying stocks, a contract on the future price of something or the exchange of payments (a swap).
An option may be traded on an exchange, in which case the con- tract details, including the quantity of the underlying instrument represented by one option, will be standardized. Alternatively, it may be traded over the counter (OTC), where typically the writer, a bank or broker, tailors the product to the buyer's needs.
Key parameters of an option include the strike or exercise price at which the buyer may choose to take up the option, and the time both to expiry and during which it may be exercised. An American- style option is one that can be exercised at any time during its life, while a European-style option is one that can only be exercised on the expiry date.
ISBN: LEARNINGCURVE
