Stock options are powerful financial tools because they let investors control shares without owning them outright. Each option represents the right to buy (a call option) or sell (a put option) a stock at a predetermined price called the strike price. These options expire on a specific date, and the holder decides whether to exercise them or let them expire based on market conditions.
Options allow traders to amplify their bets. A small price movement in the underlying stock can lead to a much larger percentage gain—or loss—in the option’s value. Because of this leverage, options are popular for strategies like hedging, income generation, or short-term speculation. Investors use them to protect portfolios, profit from volatility, or trade expectations about future price movements.
These contracts derive their value from several factors: the stock price, time until expiration, volatility, interest rates, and dividends. Understanding how these factors interact helps traders choose the right strike prices and expiration dates for their strategies.
Stock options matter because they offer flexibility. Traders can use them to hedge against losses, profit from small price movements, or generate income—all without needing to own the underlying stock.
A call option benefits when the stock price rises above the strike price, giving the holder the right to buy shares at a discount. A put option benefits when the stock falls below the strike price, giving the holder the right to sell at a higher price. Calls profit from bullish expectations; puts profit from bearish ones.
Options lose value as they approach expiration because there’s less time for the underlying stock to move in the desired direction. This phenomenon—called theta decay—means options traders must not only be right about direction but often right about timing as well.
Investors buy put options to protect against downside risk. For example, a put option on a stock or index can offset losses if the market drops. This acts like insurance: the investor pays a premium upfront in exchange for protection against larger losses.
An investor believes a company’s stock will rise from $100 to $120. Instead of buying the shares, they purchase a call option with a strike price of $105. If the stock jumps, the option can deliver a much larger percentage gain for a smaller upfront cost.
