Options (calls and puts)

Contracts giving the buyer the right, but not the obligation, to buy or sell an asset at a set price by a set date.

What it means

A call option gives the right to buy an asset, such as a stock, at a fixed strike price by an expiration date; a put gives the right to sell at the strike price. The buyer pays a premium to the seller for that right. In the U.S., one listed stock option contract usually covers 100 shares. If the option is not worth exercising by expiration, it expires worthless.

Buyers can lose the entire premium. Sellers collect the premium but take on the obligation: selling a covered call (while owning the shares) caps upside, while selling uncovered options can carry very large or even unlimited losses. Brokers require approval for options trading, and some strategies require a margin account. These exchange-traded options differ from employee stock options.

Example

Suppose an investor pays $2 per share, or $200, for one call with a $50 strike. If the stock is $60 at expiration, the option is worth $10 × 100 = $1,000, a $800 profit. If the stock stays below $50, the call expires worthless and the $200 is lost.

How it’s used

Hedging a stock position against a decline with puts
Earning premium income by selling covered calls
Speculating on price moves with a limited upfront cost

Strengths and weaknesses

Strengths

Can hedge existing holdings against losses
Buyers’ maximum loss is limited to the premium
Flexible tools for income or risk management

Weaknesses

Buyers often lose the full premium as options expire worthless
Uncovered sellers face very large or unlimited losses
Complex pricing and time decay work against many beginners

Educational information only, not financial, tax or legal advice. Rules, limits and rates change; check the IRS, your lender or plan, or a qualified professional before acting.