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You are here: Home / Finance / Option Prices

Option Prices

Last modified on December 18, 2023 by CA Bigyan Kumar Mishra

In simple terms, options are contracts which give its owner the right to buy or sell a security at a specific price on a specified date.

Remember, option contracts provide the buyer with the right, but not the obligation, to buy and sell an underlying security at the strike price.

These option contracts with an expiry date trades on exchanges. Its part of the derivative market as these contracts derive their value from the price of the underlying security or stock.

Option prices, which are also known as premiums, fluctuate based on how the underlying security performs in the market.

Option prices or premiums basically composed of the sum of its intrinsic and time value.

Option premium = intrinsic value + time value

Intrinsic value is the difference between the current price and strike price. 

The amount of premium over the underlying security’s intrinsic value is known as option’s time value or extrinsic value.

Time value will always be high when the expiry date is far away. It will also be high when traders and investors are thinking that the contract will be profitable.

An option buyer will always buy a call option when the underlying security’s price rises. On the other hand, a trader will prefer to buy a put option when the stock’s price is falling.

Here are the factors which define the profitability of an option contract and premiums;

  • the stock option price or premium
  • how much time is remaining until the contract expires, also known as time value
  • how much the underlying security or stock fluctuates in value.
  • intrinsic value
  • time decay

Categories: Finance

About the Author

CA. Bigyan Kumar Mishra is a fellow member of the Institute of Chartered Accountants of India.He writes about personal finance, income tax, goods and services tax (GST), stock market, company law and other topics on finance. Follow him on facebook or instagram or twitter.

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