Option basics: calls and puts

What an option is

An option is a contract that gives the buyer the right, but not the obligation, to buy or sell 100 shares of a stock at a set price on or before a set date. The buyer pays for that right. The seller (also called the “writer”) collects the payment and takes on the obligation to follow through if the buyer uses the right.

Two analogies. A call is a bit like a deposit that holds a house at today’s price for a while. A put is a bit like an insurance policy on something you own.

Stock XYZ: every Options Blueprint lesson uses the same made-up Stock XYZ, trading at $50.00. One contract covers 100 shares, and option prices are quoted per share, so a $1.00 option costs $100 per contract. Unless a page says otherwise, options expire in 30 days.

Reading an option quote

Key terms

• Underlying: the stock (or ETF or index) the option is on. Here, Stock XYZ.
• Strike price: the price at which the option lets you buy (call) or sell (put).
• Expiration: the last day the option exists. After that it is either exercised or worthless.
• Premium: the price of the option. The buyer pays it and the seller keeps it. Quoted per share, times 100 per contract.
• Contract multiplier: standard U.S. stock options usually cover 100 shares.
• In, at or out of the money: whether the option would be worth exercising right now. A call is in the money when the stock is above the strike. A put is in the money when the stock is below the strike.

What’s inside the premium

Premium = intrinsic value + extrinsic (time) value. Intrinsic value is the part that is “real” right now: how far the option is in the money. Extrinsic value is everything else. It pays for time and uncertainty, and it shrinks toward $0 by expiration.

These prices are illustrative and roughly consistent with each other (with no interest or dividends, call minus put equals the stock price minus the strike). In real markets, out-of-the-money puts often cost more than equally distant calls. This is called “skew,” and it is ignored here to keep the math simple.

The Greeks, in plain words

• Delta: about how much the option’s price moves when the stock moves $1. A delta of 0.50 means about $0.50 a share, or $50 per contract, for a $1 move. (It is also a rough, imperfect gauge of the odds of finishing in the money.)
• Gamma: how fast delta itself changes. It is highest for at-the-money options near expiration, which is why short-dated options can swing wildly.
• Theta: time decay, or about how much value the option loses per day, all else equal. Bad for buyers, good for sellers.
• Vega: how much the price changes when expected volatility changes by 1 point. Options get pricier when the market expects big moves (for example, before earnings) and cheaper afterward, a drop called a “volatility crush.”
• Rho: sensitivity to interest rates. Usually the smallest Greek for short-dated stock options.
• Implied volatility (IV): the market’s guess of how much the stock will move, built into the option’s price.

Exercise and assignment

• Exercise: the option holder uses the right: buys shares with a call, or sells shares with a put, at the strike.
• Assignment: the seller is told to fulfill the contract. For a short call, that means delivering 100 shares at the strike. For a short put, it means buying 100 shares at the strike.
• American vs. European style: most U.S. stock and ETF options are American-style, so they can be exercised on any business day before expiration, and a seller can be assigned early. Many index options are European-style (exercise only at expiration) and settle in cash.
• At expiration: options that are in the money are generally exercised automatically unless the holder gives other instructions. The exact thresholds and cutoff times come from clearing-house and broker rules, so check your own broker’s rules and the Options Disclosure Document.
• Opening and closing: trades are labeled “buy to open,” “sell to open,” “buy to close” and “sell to close.” Many options are closed before expiration rather than exercised.

Options approval levels

Before you can trade options, a broker typically asks you to fill out an options application (experience, income, net worth and goals), gives you the OCC’s Options Disclosure Document, and then approves you for a level. Levels and their numbering differ by broker. For example, a common pattern looks like this:

1. Lower level: covered calls (and often cash-secured puts and protective puts).
2. Next level: buying calls and puts.
3. Higher level: spreads, which usually need a margin account.
4. Highest level: selling “naked” (uncovered) options.

Retirement accounts such as IRAs are often limited to the lower levels. These are general examples only; check your own broker’s rules. The SEC’s Investor Bulletin: Opening an Options Account explains what brokers ask.

Open interest, volume and the bid-ask spread

Open interest is how many contracts are open right now; volume is how many traded today. The bid-ask spread is the gap between what buyers offer and what sellers ask. Wide spreads are a hidden cost every time you open or close a trade, which is a Retention point: keeping what you have.

Calls and puts, with Stock XYZ

Goal A directional view. A long call bets on the stock going up. A long put bets on it going down, or protects shares you own (see protective puts).

Long call

Setup: Buy one XYZ $50 call for $2.50, so you pay $250. Results are shown at expiration, per 100-share contract, ignoring fees, dividends and taxes.

• XYZ at $60 at expiration: the call is worth $10.00. Profit = ($10.00 − $2.50) × 100 = +$750.
• XYZ at $50 or below: the call expires worthless. Loss = −$250, the whole premium.

Long put

Setup: Buy one XYZ $50 put for $2.50, so you pay $250. Results are shown at expiration, per 100-share contract, ignoring fees, dividends and taxes.

• XYZ at $40 at expiration: the put is worth $10.00. Profit = ($10.00 − $2.50) × 100 = +$750.
• XYZ at $50 or above: the put expires worthless. Loss = −$250.

The seller’s side: why GRIP “covers” every sale

Every option has a buyer and a seller. The seller collects the premium up front and takes on the obligation.

• Selling a call without owning the stock (a “naked call”) has unlimited risk. If XYZ jumps to $100, the seller of a $50 call loses ($100 − $50 − $2.50) × 100 = −$4,750, and there is no ceiling.
• Selling a put without the cash set aside can lose up to (strike − premium) × 100. On the $50 put, that’s −$4,750, and it can force a margin call.
• That’s why the GRIP Income strategies “cover” the sale with shares (covered call) or cash (cash-secured put).

Four positions, one stock

Key risks for option buyers

• Time decay (theta) works against buyers every day.
• You can be right on direction but wrong on timing, and still lose the whole premium.
• Volatility crush after news events can shrink an option’s price even when the stock moves your way.
• Buying lots of cheap, far out-of-the-money options is a common way to lose 100%.

Who tends to study this

Everyone starting the Options Blueprint lessons. In practice, buying calls and puts is for people with a specific, time-limited view who accept that they can lose the whole premium. Buying calls is not the same as long-term investing, which is why Options Blueprint focuses on Income and Protection.