Call and Put Options: The Two Contracts Explained

Buy to open, one contract, the 50 call six weeks out, limit $2.00. Once filled, that ticket costs $200 and gives you the right to buy 100 shares of the stock at $50 apiece at any point until the contract expires. You don’t have to use that right. You can sell the contract back before expiration and never touch the shares at all. Every listed option is either that contract, a call, or its mirror image, a put.

A call is the right to buy

You already know how 100 shares behave: the position gains a dollar a share for every dollar the stock rises and loses a dollar a share for every dollar it falls. A call hands you the upside above a fixed price, called the strike, for a fixed stretch of time, called the life of the contract.

Say the stock climbs from $50 to $60 before expiration. The right to buy at $50 is now worth at least $10 a share, because you could buy at the strike and sell at the market. Now say the stock stays at $48. At expiration a right to buy at $50 is worth nothing. Nobody pays $50 for shares they can get for $48.

A put is the right to sell

A put turns it around. The buyer gets the right to sell 100 shares at the strike until expiration.

A 50 put gains as the stock falls below $50. At $42, the right to sell at $50 is worth at least $8 a share. People buy puts for two reasons: to profit from a decline, or to protect shares they already own, since a put sets a floor under the price those shares can be sold for while the contract lasts.

The seller takes the other side

Every contract has a seller, sometimes called the writer. The seller collects the premium when the trade opens and takes on an obligation in exchange.

• A call seller must deliver 100 shares at the strike if assigned.
• A put seller must buy 100 shares at the strike if assigned.

The buyer decides whether to exercise, and the seller has no say in the matter; the seller finds out through the broker, sometimes before expiration, which is what early assignment means. Hold on to that imbalance. A buyer’s worst case is losing the premium. A seller’s worst case can be much larger, and for a call sold without owning the shares it has no fixed limit at all, since the stock can keep rising for as long as the contract lasts and the seller still has to deliver 100 shares at the strike, buying them first at whatever the market charges.

Premium is quoted per share

Option prices look small on the screen because they’re quoted per share. A standard US equity option covers 100 shares. Multiply by 100.

Commissions and per-contract fees come on top. They differ by broker, so check yours. The multiplier works the same way for a seller. Selling a contract quoted at $2.00 brings in $200.

In, at and out of the money

These labels describe where the stock is sitting against the strike right now.

	Call	Put
In the money	Stock above the strike	Stock below the strike
At the money	Stock at or near the strike	Stock at or near the strike
Out of the money	Stock below the strike	Stock above the strike

With the stock at $52, a 50 call is $2 in the money and a 50 put is $2 out of the money. The labels shift every time the stock moves. An option still out of the money at expiration expires worthless. One that finishes in the money has value you can collect by selling it or exercising it, and anything the premium carries above that in-the-money amount is extrinsic value, the part that shrinks as expiration nears.

American-style exercise

Stock options in the US follow the American style. The holder can use the right on any business day through the final one. Many index options differ. They’re European-style, exercisable only at expiration, and often settled in cash. Read the specs first.

American style is also the reason a seller can be assigned early. Early exercise tends to be rare when plenty of time value remains, since exercising forfeits it and selling the contract in the market would usually fetch more. Calls shortly before an ex-dividend date are the familiar exception. More on the whole subject sits on the options topic page.

The next lesson puts both contracts on the screen where you’ll actually find them, the option chain, with its strikes, bids, asks and a few columns that are easy to misread the first time.