option
A financial contract giving the buyer the right — but not the obligation — to buy (call) or sell (put) an underlying asset at a specified price before a certain date.
Example
“She bought a call option giving her the right to purchase 100 shares at $50 each before the expiration date.”
Memory Tip
An option gives you the OPTION (choice) — you can exercise it, but you don't have to.
Why It Matters
Options allow you to control larger positions with smaller amounts of money, making them useful for hedging investments or speculating on price movements. Understanding options helps you manage risk in your investment portfolio and potentially increase returns, though they also carry higher risk than buying stocks directly.
Common Misconception
Many people think buying an option means you must exercise it by the expiration date. In reality, you have the choice to let it expire worthless if the market moves against you, limiting your loss to only the premium you paid for the option itself.
In Practice
Suppose you buy a call option on Apple stock with a strike price of 150 dollars expiring in one month, paying 3 dollars per share for the contract. If Apple stock rises to 160 dollars, you can exercise your right to buy at 150 dollars and immediately sell at market price, profiting 7 dollars per share minus the 3 dollar premium you paid. However, if Apple stock falls to 145 dollars, you simply do not exercise the option and lose only your 3 dollar premium investment.
Etymology
From Latin 'optio' (free choice). The key word is CHOICE — the buyer is not obligated.
Common Misspellings
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Related Terms
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See Also
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