Options are instruments that give the buyers the right but not the obligation to buy or sell shares of stocks at a fixed price within a special period of time. As a stock or bond, the option is also a security.
Options are very versatile. They give you the opportunity to adjust your position in any situation. Meanwhile options are complex securities and can sometimes be very risky. That’s why, when working with options it gives you the following disclaimers: “Options involve risks and are not suitable for everyone. Option trading can be speculative in nature and carry substantial risk of loss.”
The two main types of options are: call options and put options.
Call option, also simply called “call,” is the financial contract between buyers and sellers of this type of option. It gives the buyer the right to buy stock at a specified period of time. The seller is obligated to sell the financial institution that the buyer wants. The buyer pays a premium for this right. Calls are like to have a long position on a stock. Buyers expect that the stock will increase before the option is closed.
Put option or put is the opposite of the call option. It is a contract between buyers or sellers at a specified price. The buyer of the put, has the right, but not an obligation, to re-sell the stock at the fixed price by the future date and the seller of the put has the obligation to buy the at the fixed price if the buyer exercises the option. Puts mean to have a short position on a stock. Buyers of put wants the stock to fall before the option is closed.
The two main classifications of options are American and European.
American options can be exercised at any time during its life, from the date of buying till the expiration date.
European options are exercised only at the end of their life. European options tend to sometimes trade at a discount to its comparable American option. This is because American options allow investors more opportunities to exercise the contract.
The above mentioned options are used in short-term context. There are also long-term options, that may last two or more years. These options are called long-term equity anticipation securities (LEAPS).