A question about Options?

Question

I bought my first options contract yesterday, INTC JAN/08 Call Strike 20. Premium 1.60. Today it closed at 1.75. The stock closed at around 19.34. Now even though the option is not in the money, I still have a $15 dollar profit. Obviously I wouldn't exercise, but I'm thinking of just selling the option if it goes up a bit more. So even though the option is not in the money, I've still made money on it. Am I correct in my thinking? What is the advantage of exercising an option, if you can just sell it outright, and be able to make a profit even though it's not in the money yet?

Answer 1

You are correct. If you sell it now, you'd make money on it.

Now as for exercising vs. selling the option, most people sell the option if there's a bit of time value in it because if you were to exercise it (as in the example you provided), you'd take a loss of 0.66.

Many people buy the option as a proxy for the stock. It provides a higher leverage, but does have a time and volatility factor to it. They buy the option, then sell the option, just as you mentioned.

So, for trading/investing w/o owning the stock, you did the right thing, bought more time, got a call option that will appreciate at a higher % overall than the stock.

If you wanted to own the stock, you wouldn't buy a call option, you'd sell a put. For example, on the INTC apr 20 puts, you could sell an option for $0.97. Since Intel is less than 20, if it closed at this price on expiration friday, the person holding the put option would exercise it and you'd have to pay $20/share. But wait, you got 0.97 / share by selling the put. Thus, your net cost (excl commissions) is only 19.03! and you could then sell the stock for 19.34 for a small profit.

Hope that helps!

Answer 2

You are correct that you can sell an option before expiration realizing any unrealized gain or loss that exists.

To answer your quesions about exercising an option I will use some terms that you might not know if you are new to options trading. I will put these terms between astersiks and if you need to you can look them up at

http://www.cboe.com/LearnCenter/Glossary.aspx

There are only three times that it might be better to exercise an option instead of selling it:

(1) if the *bid price* of the option is less than the *intrinsic value* or the option

(2) if the option is a call option and an *ex-dividend* date is close

(3) if you are a large institution and your position in the stock and options is so large that doing exchange trades would move the market against you.

I also want to comment on the first response's statement that "If you wanted to own the stock, you wouldn't buy a call option, you'd sell a put." That is nonsense.

If you do not include speads, there are three types of bullish positions you can take:

(1) buy the stock

(2) buy calls

(3) sell puts.

To determine which of those is the best choice, you need to compare the *implied volatility* of the options with the amount of volatility you exect the stock will actually experience before expiration.

If you think the stock will be more volatile than the *implied volatility* of the options, your best choice is to buy call options.

If you think the stock will be less volatile than the *implied volatility* of the options, your best choice is to sell put options.

If you think the *implied volatility* of the options is close to the volatility the stock will actually experience, your best choice is to buy the stock.

To demonstrate that point, suppose you sold the INTC April 20 puts for $0.97 and the stock went up to $25. Your profit would be limited to $0.97 per share, no matter how high the stock went.On the other hand, if you had bought the April 20 calls for $0.38, you would have a profit of $4.62 per share. Similarly, if the stock dropped to $15 per share the call buyer would only lose $0.38 per share while the put seller would lose $4.03 per share. A big move in either direction favors the buyer of an option over the seller. A small move in the stock price, in either direction, favors the seller of an option over the buyer.

The second answer was incorrect when it said "it is very likely that the option you bought was an European Option." All exchange traded options on stocks (as oposed to indexes or commodities) within the United States are American style options.

I apologize for spending so much of this answer on questions you didn't ask, but it didn't take many words to tell you that you were right and I thought it was important to correct the first errors.

Answer 3

Congrats on your first Option purchase. Best of luck in the future...

As for your question, you made a $15 dollar profit today but take into account that you paid a fee (maybe between $10 and $15) to buy the contcat and you will have to pay a similar fee to sell the contract. So your total cost will be the premium paid + the transaction cots.

Keep that in mind when selling!!!

Now for the other part of the question, it is very likely that the option you bought was an European Option (i.e. it can only be exercised at expiration, unlike American Options that can be exercised at any point in time). Therefore, you can only sell the option or wait until Jan 08 to exercise.

However, even if you could exercise, it would be a lot easier to just sell the option. Excersising requires time and money... sio it is easier to just sell. That is why most options are sold rather than exercised.

Finally, an option can make you (and unfortunatedly loss you) money with out being in the money. That is because the option price is a combination of this factors:

Stockl Price, Volatility of the Stock Price, Dividend Rate of the stock and Interest rates. So if any on this move (in your case it was the stock price mostly) the option price would also move.

Hope this was helpful,