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In finance, a call option, often simply labeled a "call", is a
In finance, a call option, often simply labeled a "call", is a contract
A contract is a legally enforceable agreement between two or more parties that creates, defines, and governs mutual rights and obligations between them. A contract typically involves the transfer of goods, services, money, or a promise to ...
between the buyer and the seller of the call option
Option or Options may refer to:
Computing
*Option key, a key on Apple computer keyboards
*Option type, a polymorphic data type in programming languages
*Command-line option, an optional parameter to a command
*OPTIONS, an HTTP request method
...
to exchange a security" \n\n\nsecurity.txt is a proposed standard for websites' security information that is meant to allow security researchers to easily report security vulnerabilities. The standard prescribes a text file called \"security.txt\" in the well known locat ...
at a set price
A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for goods or services. In some situations, the price of production has a different name. If the product is a "good" in t ...
. The buyer of the call option has the right, but not the obligation, to buy an agreed quantity of a particular commodity
In economics, a commodity is an economic good, usually a resource, that has full or substantial fungibility: that is, the market treats instances of the good as equivalent or nearly so with no regard to who produced them.
The price of a co ...
or financial instrument
Financial instruments are monetary contracts between parties. They can be created, traded, modified and settled. They can be cash (currency), evidence of an ownership interest in an entity or a contractual right to receive or deliver in the form ...
(the underlying) from the seller of the option at a certain time (the expiration date) for a certain price (the strike price
In finance, the strike price (or exercise price) of an option is a fixed price at which the owner of the option can buy (in the case of a call), or sell (in the case of a put), the underlying security or commodity. The strike price may be set ...
). This effectively gives the owner a ''long'' position in the given asset. The seller (or "writer") is obliged to sell the commodity or financial instrument to the buyer if the buyer so decides. This effectively gives the seller a ''short'' position in the given asset. The buyer pays a fee (called a premium
Premium may refer to:
Marketing
* Premium (marketing), a promotional item that can be received for a small fee when redeeming proofs of purchase that come with or on retail products
* Premium segment, high-price brands or services in marketin ...
) for this right. The term "call" comes from the fact that the owner has the right to "call the stock away" from the seller.
Price of options
Option values vary with the value of the underlying instrument over time. The price of the call contract must act as a proxy response for the valuation of: * the expected intrinsic value of the option, defined as the expected value of the difference between the strike price and the market value, i.e., max −X, 0 * therisk premium
A risk premium is a measure of excess return that is required by an individual to compensate being subjected to an increased level of risk. It is used widely in finance and economics, the general definition being the expected risky return less t ...
to compensate for the unpredictability of the value
* the time value of money
The time value of money is the widely accepted conjecture that there is greater benefit to receiving a sum of money now rather than an identical sum later. It may be seen as an implication of the later-developed concept of time preference.
The ...
reflecting the delay to the payout time
The call contract price generally will be higher when the contract has more time to expire (except in cases when a significant dividend
A dividend is a distribution of profits by a corporation to its shareholders. When a corporation earns a profit or surplus, it is able to pay a portion of the profit as a dividend to shareholders. Any amount not distributed is taken to be re-inv ...
is present) and when the underlying financial instrument shows more volatility. Determining this value is one of the central functions of financial mathematics
Mathematical finance, also known as quantitative finance and financial mathematics, is a field of applied mathematics, concerned with mathematical modeling of financial markets.
In general, there exist two separate branches of finance that require ...
. The most common method used is the Black–Scholes formula, which provides an estimate of the price of European-style options.
See also
* Covered call *Moneyness
In finance, moneyness is the relative position of the current price (or future price) of an underlying asset (e.g., a stock) with respect to the strike price of a derivative, most commonly a call option or a put option. Moneyness is firstly a thr ...
* Naked call
* Naked put
* Option time value
*Pre-emption right A pre-emption right, right of pre-emption, or first option to buy is a contractual right to acquire certain property newly coming into existence before it can be offered to any other person or entity. It comes from the Latin verb ''emo, emere, emi, ...
*Put option
In finance, a put or put option is a derivative instrument in financial markets that gives the holder (i.e. the purchaser of the put option) the right to sell an asset (the ''underlying''), at a specified price (the ''strike''), by (or at) a s ...
* Put–call parity
*Right of first refusal
Right of first refusal (ROFR or RFR) is a contractual right that gives its holder the option to enter a business transaction with the owner of something, according to specified terms, before the owner is entitled to enter into that transactio ...
References
{{Derivatives market Options (finance)