Out of the Money (OTM)
Out of the Money (OTM) is a classification for an options contract when it has no intrinsic value. In options trading, a call option is considered OTM if the current price of the underlying asset is below the strike price of the call option. Conversely, a put option is OTM if the current price of the underlying asset is above the strike price of the put option. Consequently, the OTM option wouldn’t yield a profit if it were exercised immediately.
Examples
- Call Option: Assume you hold a call option for XYZ stock with a strike price of $50. If XYZ is currently trading at $45, the call option is OTM.
- Put Option: Suppose you own a put option for ABC stock with a strike price of $30. If ABC is currently trading at $35, the put option is OTM.
Frequently Asked Questions
Q1: What does “Out of the Money” mean? A1: “Out of the Money” refers to an options contract that has no intrinsic value. For a call option, it means the strike price is higher than the current market price of the underlying asset. For a put option, it means the strike price is lower than the current market price.
Q2: Can OTM options be profitable? A2: Yes, OTM options can still be profitable if the price of the underlying asset moves in a favorable direction before expiration, making the option In the Money (ITM).
Q3: Should I avoid buying OTM options? A3: Not necessarily. OTM options are generally cheaper than ITM options and can provide substantial returns if the market moves significantly in your favor.
Q4: What happens at expiration if an option is still OTM? A4: If an option remains OTM at expiration, it expires worthless, and the holder loses the premium paid to purchase the option.
Related Terms
- Strike Price: The predetermined price at which the holder of an options contract can buy (call) or sell (put) the underlying asset.
- In the Money (ITM): An options contract with intrinsic value. For a call option, the underlying asset’s price is above the strike price; for a put option, it’s below.
- At the Money (ATM): An options contract where the underlying asset’s price is equal to the strike price.
- Exercise Price: Another term for the strike price, referring to the price at which an option can be exercised.
Online References
Suggested Books for Further Studies
- “Options as a Strategic Investment” by Lawrence G. McMillan
- “Trading Options Greeks: How Time, Volatility, and Other Pricing Factors Drive Profit” by Dan Passarelli
- “The Bible of Options Strategies: The Definitive Guide for Practical Trading Strategies” by Guy Cohen
Fundamentals of Out of the Money (OTM): Options Trading Basics Quiz
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