One contract, two directions, four ways to play, and understand the five parameters, you will hold the key to the options world.
Options are often labeled as "high risk" and "complex," which discourages many investors. However, at its core, it is a standardized contract that confers rights, and once you understand its core logic, it can become a flexible and powerful tool in your investment toolbox.
This article will take you to systematically sort out the core knowledge of options from definition to practice, laying a solid foundation for you.
01 The essence of options and the two classification dimensions
What are options? Options, also known as options, are essentially a financial derivative contract. It gives the holder (buyer) a right, but not an obligation: to buy or sell a certain amount of the underlying asset at a pre-agreed price on or before a specific date.
In order to obtain this right, the buyer needs to pay a fee to the seller, that is, a royalty. This is essentially pricing rights and obligations separately in finance.
The classification of options is mainly based on two core dimensions:
1. Divide according to the direction of rights:
Call option: gives the holder the right to "buy" the underlying asset. You buy call options when you expect the price of an asset to rise.
Put option: gives the holder the right to "sell" the underlying asset. When you expect the price of an asset to fall, you buy a put option.
Simple memory: Call = buy option, put = sell option.
2. Divided by performance date:
American options: can be exercised on any trading day before the expiration date. Most of the U.S. stock options we usually trade are American-style.
European options: can only be exercised on the expiration date.
In addition, options can also be divided into stock options, stock index options, commodity options, etc. according to the underlying assets.
02 Understand the five core parameters of options
To evaluate the value and risk of an option, you must master the following five core parameters:
1. Underlying asset price: the core of option premium pricing. The premium will change as the price of the underlying asset (such as a stock price) fluctuates.
2. Exercise price: The fixed buying and selling price agreed in the contract. This is the basis for future exercise.
3. Expiration date: the “shelf life” of the option. After expiration, if the option is in-the-money (in-the-money), the broker will generally exercise it automatically for you.
4. Premium: the market price of the option, which consists of two parts:
Intrinsic value: the profit that can be obtained by exercising the option immediately. For example, if the stock price is 120 yuan and the call option exercise price is 100 yuan, the intrinsic value is 20 yuan.
Time value: The portion of an option price that exceeds the intrinsic value and reflects the value of uncertainty brought about by the remaining time. It decays faster as the expiration date approaches.
5. Implied volatility: It can be understood as the "price-to-earnings ratio of the option." The higher the value, the more drastic the market expects future price fluctuations, and the option premium is usually more expensive, which is beneficial to the seller; vice versa, it is beneficial to the buyer.
In addition, professional option pricing models will also consider parameters such as risk-free interest rates, but the impact on novices is relatively small.
03 Income calculation: taking call options as an example
Using a specific case, you can clearly understand how the return of a call option is calculated.
Assumptions:
Current stock price: 80 yuan
Call option exercise price: 100 yuan
Expiration date: May 21
Royalty: 10 yuan/share
Quantity to buy: 5 sheets (1 sheet corresponds to 100 shares)
Expected expiration stock price: 150 yuan
Earnings estimate (simplified version, assuming the value returns to zero near expiration):
Profit = (expected stock price – exercise price – premium cost) × number of contracts × contract multiplier
= (150 – 100 – 10) × 5 × 100
= 20,000 yuan
If the stock price does not rise above the exercise price (100 yuan), the option has no intrinsic value, and the maximum loss is the entire premium cost, that is, 10 × 5 × 100 = 5,000 yuan.
04 Four Basic Operations: Risk and Return Map
All complex option strategies are based on a combination of the following four basic positions.
1. Buy call options
Operation: Pay the premium and obtain the right to buy.
Profit and loss characteristics: The maximum loss is the entire premium; theoretically unlimited gains (the stock price has unlimited room for increase).
2. Selling call options
Operation: collect the premium and assume the obligation to sell assets at the exercise price in the future.
Profit and loss characteristics: The maximum profit is the premium received; if the corresponding assets are not held (i.e. "naked selling"), the risk is theoretically unlimited when the stock price rises, so novices should avoid naked selling of call options. If you hold assets (covered positions), you can use them to enhance returns or hedge some risks.
3. Buy put options
Operation: Pay the premium and obtain the right to sell.
Profit and loss characteristics: The maximum loss is the premium; the maximum gain occurs when the stock price drops to zero, which is (exercise price – premium). Often used as "insurance" for holding stocks.
4. Selling put options
Operation: collect the premium and assume the obligation to buy assets at the exercise price in the future.
Profit and loss characteristics: The maximum profit is the premium; the maximum loss occurs when the stock price drops to zero, which is (exercise price – premium). Suitable for investors who wish to buy stocks at a discount to the market price.
05 Three ways to handle positions
After holding options, there are three main ways to close the position:
1. Automatic exercise: At expiration, if the option is in-the-money (in-the-money), the broker will usually help you automatically exercise it. It is important to ensure that the account has sufficient funds or securities, otherwise it may result in a default.
2. Early liquidation: Hedging out the original position through reverse trading before expiration. The buyer sells the option directly and the seller buys the same option.
3. Automatic invalidation: At expiration, if the option is out-of-the-money (out-of-the-money), it will automatically be invalidated and the value will return to zero.
06 Practical entry-level suggestions for novices
Step One: Start with Simulation and Minimum Units
Before investing real money, be sure to conduct sufficient simulated trading in the trading software. For your first actual practice, it is recommended to choose an underlying that is familiar to you, has good liquidity, and has a low premium, and only buy 1 call or put option. In this way, the maximum loss is clearly controllable, and experiencing a complete option cycle personally is better than reading ten theoretical articles.
Step 2: Establish a basic risk and capital management framework
Manage your options account like a pancake stand: set a daily loss limit (for example, no more than 2% of your total capital) and strictly enforce it. A layered fund allocation method can be adopted, such as using most of the funds for conservative "rent collection" strategies (such as covered opening), and a small part for directional trading.
Step Three: Continue to learn and remain in awe
Options are expendable assets and time is either your enemy (as a buyer) or your friend (as a seller). Always put risk management first and don't have a "get rich overnight" gambling mentality. There are always opportunities in the market, but only those who survive can seize them.
The door to the options world has been opened, and its core lies in strategic thinking and risk management. Start by understanding this "rights contract" and take the first step in your systematic study.
