Options FAQ

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Options FAQ

Find answers to some of the most frequently asked questions regarding options trading.

Frequently Asked Questions

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Buying Straddles into Earnings

Buying straddles is a great way to play earnings. Many a times, stock price gap up or down following the quarterly earnings report but often, the direction of the movement can be unpredictable. For instance, a sell off can occur even though the earnings report is good if investors had expected great results. [Read on. ]

Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time. [Read on. ]

Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

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Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Trading Stock Options FAQ

Have questions about options? The Trading Stock Options FAQ page is for you. Scroll down to see questions already discussed or ask your own.

The questions come from a number of different sources, including questions specifically submitted on this site’s Contact Page. If you have a question or comments of your own, feel free to submit those via the form on the Contact Page.

I will make every effort to respond to you personally in a reasonable time frame via email, and if I deem my response at least somewhat intelligible, I may also include the exchange here. This is an anonymous process – no contact or personally identifiable information pertaining to you will ever be posted here.

Questions and answers – regardless of their original source – may be edited for grammar, keyword relevance, and, especially in the case of questions submitted directly to the Great Option Trading Strategies site, if I think of a better or wittier answer in the future.

What are Stock Options?

Home » Derivatives » What are Stock Options?

A stock option is a contract between a buyer and a seller. The option is connected to something, such as a listed stock, an exchange index, futures contracts, or real estate. For simplicity, this article will discuss only options connected to listed stocks.

Just to be complete, note that there are two basic types of options, the American and European. An American (or American-style) option is an option contract that can be exercised at any time between the date of purchase and the expiration date. Most exchange-traded options are American-Style. All stock options are American style. A European (or European-style) option is an option contract that can only be exercised on the expiration date. Futures contracts (i.e., options on commodities – see the article elsewhere in this FAQ) are generally European-style options.

Stock Options Basics

Every stock option is designated by:

  • Name of the associated stock
  • Strike price
  • Expiration date
  • The premium paid for the option, plus brokers commission.

The two most popular types of options are Calls and Puts. We’ll cover calls first. In a nutshell, owning a call gives you the right (but not the obligation) to purchase a stock at the strike price any time before the option expires. An option is worthless and useless after it expires.

How Stock Options Work

People also sell options without having owned them before. This is called “writing” options and explains (somewhat) the source of options, since neither the company (behind the stock that’s behind the option) nor the options exchange issues options. If you have written a call (you are short a call), you have the obligation to sell shares at the strike price any time before the expiration date if you get called.

Stock Option Example

Example: The Wall Street Journal might list an IBM Oct 90 Call at $2.00. Translation: this is a call option. The company associated with it is IBM. (See also the price of IBM stock on the NYSE.) The strike price is 90. In other words, if you own this option, you can buy IBM at US$90.00, even if it is then trading on the NYSE at $100.00. If you want to buy the option, it will cost you $2.00 (times the number of shares) plus brokers commissions. If you want to sell the option (either because you bought it earlier, or would like to write the option), you will get $2.00 (times the number of shares) less commissions. The option in this example expires on the Saturday following the third Friday of October in the year it was purchased.

In general, options are written on blocks of 100s of shares. So when you buy “1” IBM Oct 90 Call at $2.00 you actually are buying a contract to buy 100 shares of IBM at $90 per share ($9,000) on or before the expiration date in October. So you have to multiply the price of the option by 100 in nearly all cases. You will pay $200 plus commission to buy this call.

If you wish to exercise your option you call your broker and say you want to exercise your option. Your broker will make the necessary requests so that a person who wrote a call option will sell you 100 shares of IBM for $9,000 plus commission. What actually happens is the Chicago Board Options Exchange matches to a broker, and the broker assigns to a specific account.

Write Option

If you instead wish to sell (sell=write) that call option, you instruct your broker that you wish to write 1 Call IBM Oct 90s, and the very next day your account will be credited with $200 less commission. If IBM does not reach $90 before the call expires, you (the option writer) get to keep that $200 (less commission). If the stock does reach above $90, you will probably be “called.” If you are called you must deliver the stock. Your broker will sell IBM stock for $9000 (and charge commission). If you owned the stock, that’s OK; your shares will simply be sold. If you did not own the stock your broker will buy the stock at market price and immediately sell it at $9000. You pay commissions each way.

Call Option

If you write a Call option and own the stock that’s called “Covered Call Writing.” If you don’t own the stock it’s called “Naked Call Writing.” It is quite risky to write naked calls, since the price of the stock could zoom up and you would have to buy it at the market price. In fact, some firms will disallow naked calls altogether for some or all customers. That is, they may require a certain level of experience (or a big pile of cash).

When the strike price of a call is above the current market price of the associated stock, the call is “out of the money,” and when the strike price of a call is below the current market price of the associated stock, the call is “in the money.” Note that not all options are available at all prices: certain out-of-the-money options might not be able to be bought or sold.

Put Option

The other common option is the PUT. Puts are almost the mirror-image of calls. Owning a put gives you the right (but not the obligation) to sell a stock at the strike price any time before the option expires. If you have written a put (you are short a put), you have the obligation to buy shares at the strike price any time before the expiration date if you get get assigned. A put is “in the money” when the strike price is above the current market price of the stock, and “out of the money” when the strike price is below the current market price. Then there are covered puts, which means you are short the stock at the same time as you write the put; also see the FAQ article on covered puts. Covered puts are a simple means of locking in profits on the covered security, although there are also some tax implications for this hedging move. Check with a qualified expert.

How do people trade these things? Options traders rarely exercise the option and buy (or sell) the underlying security. Instead, they buy back the option (if they originally wrote a put) or sell the option (if the originally bought a call). This saves commissions and all that. For example, you would buy a Feb 70 call today for $7 and, hopefully, sell it tomorrow for $8, rather than actually calling the option (giving you the right to buy stock), buying the underlying stock, then turning around and selling the stock again. Paying commissions on those two stock trades gets expensive.

Although options officially expire on the Saturday immediately following the third Friday of the expiration month, for most mortals, that means the option expires the third Friday, since your friendly neighborhood broker or internet trading company won’t talk to you on Saturday. The broker-broker settlements are done effective Saturday. Another way to look at the one day difference is this: unlike shares of stock which have a 3-day settlement interval, options settle the next day. In order to settle on the expiration date (Saturday), you have to exercise or trade the option by Friday. While most trades consider only weekdays as business days, the Saturday following the third Friday is a business day for expiring options.

Stock Option Expiration

The expiration of options contributes to the once-per-quarter “triple-witching day,” the day on which three derivative instruments all expire on the same day. Stock index futures, stock index options and options on individual stocks all expire on this day, and because of this, trading volume is usually especially high on the stock exchanges that day. In 1987, the expiration of key index contracts was changed from the close of trading on that day to the open of trading on that day, which helped reduce the volatility of the markets somewhat by giving specialists more time to match orders.

You will frequently hear about both volume and open interest in reference to options (really any derivative contract). Volume is quite simply the number of contracts traded on a given day. The open interest is slightly more complicated. The open interest figure for a given option is the number of contracts outstanding at a given time. The open interest increases (you might say that an open interest is created) when trader A opens a new position by buying an option from trader B who did not previously hold a position in that option (B wrote the option, or in the lingo, was “short” the option). When trader A closes out the position by selling the option, the open interest either remain the same or go down. If A sells to someone who did not have a position before, or was already long, the open interest does not change. If A sells to someone who had a short position, the open interest decreases by one.

For anyone who is curious, the financial theoreticians have defined the following relationship for the price of puts and calls. The Put-Call parity theorem says:

  • P = price of put
  • C = price of call
  • S = stock price
  • E = present value of exercise price
  • D = present value of dividends

The ordinary investor will occasionally see a violation of put-call parity. This is not an instant buying opportunity, it’s a reason to check your quotes for timeliness, because at least one of them is out of date.

My personal advice for new options people is to begin by writing covered call options for stocks currently trading below the strike price of the option; in jargon, to begin by writing out-of-the-money covered calls.

The following web resources may also help.

  • For the last word on options, contact The Options Clearing Corporation (CCC) at 1-800-OPTIONS and request their free booklet “Characteristics and Risks of Listed Options.” This 94-page publications will give you all the details about options on equity securities, index options, debt options, foreign currency options, principal risks of options positions, and much more. The booklet is published jointly by the American Stock Exchange, The Chicago Board Options Exchange, The Pacific Exchange, and The Philadelphia Stock Exchange. It’s available on the web at:
  • The Chicago Board Options Exchange (CBOE) maintains a web site with extensive information about equity and index options. Visit them at:
  • The Orion Futures Group offers an “Options 101” primer.

Article Credits:
Contributed-By: Art Kamlet, Bob Morris, Chris Lott, Larry Kim

Options Trading FAQs

Got a question about options trading?

Our options trading FAQs should have the answer you’re looking for!

What are the benefits of options trading?

Options are a derivative of stocks that offer fantastic leverage for 3 reasons:

  1. You don’t have to invest a lot of money to get started.
  2. You can achieve enormous returns if you are correct on direction and time.
  3. Risk is manageable; you only can lose what you put into the trade as a buyer.

Traders use call and put options as the vehicles of choice for stocks, etfs (exchange-traded fund), or commodities.

What are the different option strategies you use?

I prefer to choose the strategies that best fit a particular situation, like a strangle, vertical spread, or even a condor.

What is the difference between trading options versus stocks?

The main difference between stocks and options is time – options have an expiration date, while stocks do not. However, the leverage gained from options is enormous. Trading shares of Apple with their high price may be prohibitive, while trading the options with a lesser amount of capital can be lucrative.

How do I trade trade options for a living?

Like any career, trading successfully takes a great deal of time, patience, and experience – you cannot just pick it up and expect instant success (unless you are very lucky!). Additionally, it is important to remember that trading is not a game of perfect. There will be losses, and there will be failures.

Though trading options for a living is not easy, it can be a highly rewarding experience. I suggest starting with a practice account, educating yourself as much as possible, and putting together a plan of action.

To jumpstart your education, check out my free trading resources, including the Glossary of Terms and blog posts on basic options trading strategies – and sign up for my free weekly newsletter.

How do I use your service effectively?

I believe in the principle of “Options Trading Made Easy;” therefore, I try to explain what I’m doing and how I’m doing it in a transparent way. If you pay attention to the alerts, read my blog posts, join in the webinars, follow my tweets, and actively participate in the chat room, you will gain the most from membership.

The tax code is complicated. How do I deal with options trading with regard to my taxes?

Yes, it is complicated – and it’s even more complicated for option traders. My best advice is to contact your tax adviser or accountant for his/her recommendation in terms of status and treatment.

I’ve heard selling premium is a great trading strategy. How do I start?

It is the perfect way to create a nice income stream. Basically, you are selling calls, puts or spreads to collect the premium. If these are out of the money, then you are collecting a time premium. In this case, the clock is your friend.

How does trading option credit spreads reduce my risk?

By selling a spread for a credit, you reduce your risk if the price goes through the strike you sold – your loss is limited to the amount of the spread. If you sell a five point spread for $2, the maximum loss is $5, or another $3.

How is trading weekly options an advantage?

One week of decay translates into lower risk, plus, if you find a stock that is on an upward trend, this short time frame can be very rewarding. As a buyer, time is the enemy, so finding the best trending names can overcome the decay.

I’ve heard you refer to trading options volume, but how do you use it?

Volume, along with price, is one of my main key indicators of where the big money is flowing. It’s not difficult to interpret – a stock surging on big volume has institutional sponsorship, while a stock sinking on huge turnover is being distributed. Often big volume events are a precursor to more price action in the same direction.

It seems dangerous to trade options near expiration, given there is little time left. Is this a wise strategy?

As a buyer, time decay is the enemy, so intuitively you want the least amount of time remaining if you are trading options. A high beta name, like Apple, is more likely to trade actively during expiration if there is expected movement due to option volume, open interest, news and recent price action. I have picked up some of the best gains with only days or hours left prior to expiration.

I have a retirement account. How can I trade options in an IRA?

It’s really no different than a regular account, except there is no margin allowed. All transactions, therefore, are conducted via a cash account. Note that naked selling in IRA accounts is illegal.

I hear all about trading options volatility. What does this mean?

Volatility is the expected movement of a stock; options are priced based on the implied move. Now, that doesn’t mean it’ll happen – it’s all about expectation. Oftentimes, in-front-of-earnings option pricing is naturally elevated because of the excitement over possible moves after the earnings report is released. Marketmakers will price options based on demand; when movement is lower than expected, volatility is in line with more historic norms.

How do I use trade options Greeks?

The Greeks (delta, rho, gamma, and theta) are a mathematical way to estimate an option move based on the stock price, the effect of decay, a change in interest rates and a change in price due to time. The Greeks are also useful when figuring out if pricing is good on a particular option.


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JP Morgan Chase Bank, N.A.
270 Park Avenue
New York, NY 10017-2070
ABA #021000021
Hilltop Securities, Inc.
Account: #08805076955
FFC: (customer name & account number at Hilltop)
Attention: Settlement Dept.


Set up incoming or outgoing electronic funds transfer (ACH) between bank and brokerage accounts, including automatic contributions to your IRA. Transfers can be made on demand or on a recurring basis. To utilize ACH, you must first complete and return an ACH Authorization Form, including a voided check or bank letter. After receipt of your ACH authorization, activation may take up to 10 business days.

To utilize ACH, you must first complete and return an Authorization for Electronic Transfer form, including a voided check or bank letter. Voided checks for ACH set ups must have an address printed on the check matching the address on the brokerage account. If the attached voided check does not have a matching address, a copy of a driver’s license/State ID or a bank statement with an address matching your brokerage account must be included along with your ACH form.

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If you need assistance call 1-888-793-5333.

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Full, automated customer account transfers (ACAT), will typically take 7 to 10 business days. A non-ACAT (partial transfer) or manual transfer may take up to 3 weeks to complete.

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If you have any questions regarding stock certificates, please call customer service at 1-888-793-5333.

Account processing will occur within one (1) business day after receipt of account paperwork. Once your account has been approved, cleared funds are required to begin trading. All checks including certified and cashier’s checks require three (3) business days before the funds are available for investing. New check and ACH deposits will not be available for withdrawal or check writing for 10 business days after deposit to the account.

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See Extended Hours Trading for more information.

Please note that you may not be approved for all of the strategies listed above. Option rates apply to each leg of spread orders.

You have a 100 XYZ bear call spread 128 – 129. The maximum risk (outside of exercise or assignment) is the difference between the strikes which in this example is 1. But if you were assigned and short stock coming into the Ex-Dividend date you have to pay the dividend. If you are short 10000 shares and the dividend rate is $0.56 per share the risk is now $1 plus $0.56. In unfavorable market condition moving against your strategy can lead to an unsecured debit.

Assignments can occur on any day prior to expiration and accounts are selected randomly. You, as the seller of the call option, are obligated to sell stock at the strike price. Calls that have time premium (not to be confused with premium or market price) that is greater than the dividend rate generally will not be assigned. However, there is no guarantee that the assignment will not occur regardless of the time premium or whether the option is in or out of the money. It is the right of the long call holder to exercise and the obligation of the short call holder to accept. There is no guarantee that you will be assigned either. This is the unknown until the assignment actually occurs.

Due to this risk of leaving an unsecured debit we may ask customers to close out of their spread prior to the Ex-Dividend date if you have a short call that is in the money, time premium is less than the dividend and you do not have the funds to pay the dividend in case of an assignment.

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eOption reserves the right to reject any account that has a concentration of low priced securities (penny stocks).

Sell stock ZZZ for $5,000 on Monday. The sale will settle on Wednesday.
– Buy AAA options with the sale proceeds from ZZZ on Monday. The option purchase will settle on Tuesday. This purchase will create a settled debit balance..)

Please contact the trade desk at 888-793-5333 for more information regarding order handling policy.

Calls are generally due in 4 business days after issuance. But due dates may be accelerated if concentration exists in the account. Exchange calls are due in 1 business day. House calls, also known as equity calls, and day trade calls will restrict the account to closing transactions only until the call is met. However, equity calls issued for insufficient margin equity for naked options must be met within 4 business days.

Auto Trading

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3. Date the certificate.

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Important Note: eOption does not accept for deposit or process restricted stock.

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JP Morgan Chase Bank, N.A.
270 Park Avenue
New York, NY 10017-2070
ABA #021000021
Hilltop Securities, Inc.
Account: #08805076955
FFC: (customer name & account number at Hilltop)
Attention: Settlement Dept.

See Account Funding Options for more information.

Mail your request to:
Attn: Customer Service
950 Milwaukee Ave., Ste. 102
Glenview, IL 60025

Alternatively, you may fax the request form to 1-877-367-8466.

If the wire request is for $50,000 or more, it must be notarized. Wires must be sent to same-titled accounts. No third party wires may be processed.

See Account Funding Options for more information.

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See Margin Requirements for more information.

Important Information for International Accounts

eOption requires a low minimum initial requirement to open an International account. We accept unsolicited accounts from non-U.S. residents from the following countries: Austria, Australia, China, Germany, Ireland, Luxembourg, Mexico, Netherlands, New Zealand, Singapore, South Africa, Switzerland and the United Kingdom (England, Northern Ireland, Scotland and Wales). Accounts can be opened with a minimum of $25,000.00 in any combination of US Dollars and/or US/foreign exchange traded securities. Some foreign securities may be ineligible. Cash accounts may only be approved to write covered calls and/or buy calls and puts. Please call 1-847-375-6080 for more information.

International Clients may wire funds or may choose to transfer funds from a US based brokerage firm. Foreign stocks can be held and sold, and, eOption can purchase some, but not all, foreign securities. All eOption accounts deal in US dollars and are only based on cleared funds. Receipt of a wire transfer from a US affiliated bank constitutes “cleared funds”.

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Frequenty Asked Questions

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The information on this web site is for discussion and information purposes only. All accounts accepted at the discretion of eOption which accepts customer orders only on an unsolicited basis, and does not make any recommendations regarding any security or securities product with the possible exception of orders executed by our full service bond desk. Nothing contained herein should be considered as an offer to buy or sell any security or securities product. Online trading has inherent risks due to loss of online services or delays from system performance, risk parameters, market conditions, and erroneous or unavailable market data.

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Options Disclosure: Options involve risk and are not suitable for all investors. Prior to trading options, you must be approved for options trading and read the Characteristics and Risks of Standardized Options. A copy may also be requested via email at [email protected] or via mail to eOption, 950 Milwaukee Ave., Ste. 102, Glenview, IL 60025. Online trading has inherent risks due to loss of online services or delays from system performance, risk parameters, market conditions, and erroneous or unavailable market data.

eOption Commissions: Broker-assisted orders are an additional $6. Option strategies involve multiple purchases; therefore your transaction costs may be significant for option strategy trades. A commission rate of $2.00 for equities and $3.99 + $.10/contract for options, per execution, applies to orders entered and filled by eOption’s Auto Trade Desk and does not apply to customers who enter their trades directly into the eOption platform and are not utilizing the Auto Trade desk.

Broker Comparison: The competitor rates from published websites were verified on 11/1/19 and are believed to be accurate, but not guaranteed. Commissions are subject to change without notice. At some firms, commissions may not reflect broker-assisted fees, orders over 1,000 shares, penny stock trades, OTCBB, pink sheet stocks or foreign stock orders. Firms may offer reduced commissions if additional criteria are met.

Best Binary Options Brokers 2020:
  • Binarium

    Best Binary Broker!
    Perfect for beginners!
    Free Demo Account! Free Trading Education!

  • Binomo

    Only for experienced traders!

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