What Is an Option in Trading? Calls and Puts Explained Simply
An option is a right, not an obligation, to make a trade in the future at a price known in advance. Here's how it works and why beginners should be careful with it.
What it is
An option is a contract that gives the buyer the right to buy or sell an asset at a fixed price (the strike) before a certain date. For this right, the buyer pays a premium to the option seller.
| Type | Right | When it pays off for the buyer |
|---|---|---|
| Call | To buy at the strike | The price rose above the strike + premium |
| Put | To sell at the strike | The price fell below the strike − premium |
Example
A stock costs 100. You buy a call with a strike of 105 for a premium of 3. If the stock is at 115 at expiration, the right to buy at 105 is worth 10, minus the premium — 7. If the stock is below 105, the option expires worthless and you lose the premium of 3.
Risks
The buyer risks the premium, while the option seller risks a much larger amount. More details in options explained simply and the options lesson.
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- An option is a right, not an obligation.
- A call is the right to buy, a put is the right to sell.
- Selling options as a beginner is dangerous: the risk is high.
Frequently asked questions
How is an option different from a futures contract?
A futures contract obliges both sides to make the trade. An option obliges only the seller, while the buyer can walk away, losing the premium.
Can I lose more than the premium?
Not as an option buyer. An option seller can lose far more than the premium received.
Are options and binary options the same thing?
No. Exchange-traded options are a regulated instrument. “Binary options” are often offered by questionable platforms and are closer to a bet.
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