Options Flashcards
in options bull / bear
buy a call
buy a put
sell a call
sell a put
bull / bear / bear / bullish
what is B/E when buying or selling a call
S.P + premium
in a call 4 scenarios
buy a call, stock goes up / sell it
buy a call, stock goes down down, lose my premium
expiration date / below lose the premium, and if it above it, collect $
strike price
out of the money: s/p above the share price
at the money: s/p = share
in the money: s/p below the share price
1 option contract represents how many shares
unless there is a stock split or stock dividend
Call Option
gives the buyer the right to purchase 100 shares from the seller
Set Price- Strike( exercise )Price
Limited Time period
You think the stock will go UP
Obligates the seller to sell 100 shares to the buyer
Set Price- Strike Price
Same time period
Put Option
gives the buyer the right to sell 100 shares from the seller
Set Price- Strike(exercise) Price
Limit Time Period
You think the stock will go DOWN
Obligates the seller to buy 100 shares to the buyer
Set Price- Strike Price
Same time period
b/e on a put
strike price - premium
itm atm otm on a put
s/p above the share price
s/p = share price
s/p below share price
in a put / 4 scenarios
buy put, stock goes down sell it
buy put, stock goes up, loose premium
buy put, wait to expiration, lose the premium (if above s/p)
buyer exercises the contract, seller keeps the premium
traditional option exp
9 mos, shown as capital gains or loss (unless a Lep could be more than 9 to a max of 39 months)
Buy a CALL Option
Right to Buy stock, if exercised
Limited loss- premium paid
Unlimited Profit potential
SELLING CALLS
If you sell/write calls, the opposite of buying calls. You collect the premium and you are obligated to sell 100 shares at XXX price until the option expires. You also think the market will remain neutral or go down mildly
You think the stock will go DOWN….. or remain Neutral
Covered Call
owning 100 shares of the stock, using the stock as collateral ( conservative)
Naked call writer
does not own 100 shares stock ( speculative)
Buy Put Option
If you buy a PUT,
Right to sell stock, if exercised
Limited loss- premium paid
Limited Profit potential
Which of the following options positions would reduce the risk on a long position in the underlying stock?
buy a put or sell a call
Sell Put Option
You are bullish (expect the market to remain neutral or go up mildly)
Obligated to buy stock, if exercised
LIMITED PROFIT- receive premium income
Limited Loss potential- stock goes to ZERO
Obligated to buy 100 shares of the underlying stock ( NEED CASH to cover)
hedging means
protect
Hedging protects a position that you already have by establishing a position in options that is on the opposite side of the market than the side you are already on in the stock.
Downside Protection:
Sell a Call( limited protection- only collect premium)
Buy a Put, to Protect your long position on the stock. (for exam)… buy a put!
Shorting
borrowing a stock, we sell it first (its a credit). to close the position we are buying it back
want the market to go down.
collecting the difference between borrowing and giving it back
to protect a short position
buy a call option
pssp acronym
o p buyer
c s
——–
o s seller
c p
Covered Call Writing
You own the stock
Trust account- must obtain an escrow or depository receipt
A call writer would be considered covered if they:
Own Stock
Convertible Bonds
Warrants
Preferred stock
Uncovered Call Writing
Sells a call as an Opening Sale
Exercise- the option will be exercised and the investor will sell the stock
Close the position- writer will buy the option to close the position
Expire- option will expire unexercised and writer keeps premium
Covered Put Writing
Have funds in deposit, equal to the exercise price
Obtain a bank guarantee letter from an approved bank
Are short ( sell)- an equal amount of the stock would be obligated to buy
Are long (buy)- a put with equal or greater exercise price
Other words for BUY
purchase and Long
Other words for SELL
seller, writer, and short
OCC
Options Clearing Corporation
The OCC is the issuer, clearing agency and guarantor of all listed options in the U.S.
The OCC operates under the SEC and clears transactions for put and call options on common stocks and other securities.
The OCC is owned by member exchanges that trade options which are SROs.
Trading Rotations
Upon the opening of the market, as soon as the stock opens, each class of options will open sequentially from the earliest expiration month with the lowest exercise price out to the highest. Rotations are also done at the close of the market. Basically, when the stock opens, the option chain will then calculate profit/loss.
The order book official(OBO)-
the OBO for CBOE listed options is an employee of the exchange who handles the public limit order book.
The OBO- may not trade for themselves. Only may trade for public orders.
CBOE OSS
Order Support System -routes orders directly to the options trading post.
Sends notice of the execution directly to the broker-dealer office bypassing the communication center on the floor of the exchange.
Investors are also limited to the number of listed option contracts which may be exercised within any consecutive 5 business day period.
( 25,000 contracts) Hedge Funds
When a stock split or stock dividend occurs
the option will be adjusted to reflect the change of number of shares the option represents. Also to include Rights distribution
Listed options are Not adjusted for cash dividends.
When there is a stock split it will also change the strike price of the option.
Stock Split
LONG 1 ABC Aug 50 Call
ABC splits 2:1
This is a Forward Split
Now you have a LONG 2 ABC Aug 25 Call
Stock Dividend
1.LONG 1 ABC Dec 60 Call @6
ABC declares a 50% stock dividend
How many shares will the option represent after the stock dividend?
100 shares x .50= 50 additional shares
50 shares + 100 original shares= 150 share value contract
Stock Price= $6,000 divided by 150 shares= $40 new strike price
LONG 1 ABC DEC 40 Call covering 150 shares
An investor is long 2 XYZ Dec 60 Calls. XYZ Co. announces a 2 for 1 split. After the stock split, the investor is now
long 4 options with a strike price of $30.
An investor is long 1 XYZ Oct 80 call. XYZ declares a 25% stock dividend. After the stock dividend takes effect, the investor is now long
1 XYZ OCT 64 Call covering 125 shares.
100 shares x .25= 25 shares
8,000 divide by 125= $64
Ex-Dividend
The exercise date of the option determines who will be the owner of the stock.
When an option is bought or sold, settlement
is the next business day after trade date t+2
Reg T liquidation of am option
Under Regulation T, liquidation will not occur until the 4th business day after trade date.
Exercise of an option
Settles 2 business days from the time the OCC receives the exercise notice.
Time Value of an option
is the amount of premium which exceeds the intrinsic value
LONG 1 ABC May 50 CALL
ABC is trading at 55
Is this call in the money?
yes, buying the call strike price is below the trading price.
LONG 1 ABC May 50 CALL @8
ABC is trading at 55
Is this call in the money?
intrinsic value?
time value?
Intrinsic value is 5 points (MP - 50)
Time Value is 3 points 58 (strike price + premium) -55 = 3.
50 plus 8= 58, exercise price plus premium = breakeven
In-the-Money
Call
occurs when the market price of the stock is greater than the exercise price of the option. EXAMPLE 1 ABC June 80 Call ABC is trading at 84.
In-the-Money - put
occurs when the market price of the stock is less than the exercise price of the option.
EXAMPLE- 1 ABC June 40 Put ABC @ 35
Out-of -The Money Call
occurs when the market price of the stock is less than the exercise price of the option. EXAMPLE 1 ABC June 45 Call ABC is trading at 40
Out-of -The Money put
occurs when the market price of the stock is greater than the exercise price of the option. EXAMPLE- 1 ABC June 60 Put ABC @ 70
The more the option is “ In the money”
the higher the premium will be.
LEAP
12 month options
LEAP- Long-Term Equity Anticipation Securities
Equity and Index Leaps
Most are 3 + years( 39 months) from the time they are listed.
Expire on the third Friday of the month
Exercise Settlement
Equity Leaps
will settle on the second business day
Exercise Settlement
index Leaps
will settle the next business day.
Alternative Options
Index Options- Mirror a specific index, settle in cash no securities are exchanged.
VIX Options
(CBOE Volatility Index Options)
The market goes up , VIX goes down
The market goes down, VIX goes Up
Inverse Relationship
Foreign Currency Options / cant trade the dollar. only foreign exchange
Buy Calls - if they wanted to hedge against declining values of US currency.
Buy Puts- if they wanted to hedge against rising values of US currency.
what is a spread
buying a call and a put at the same time
refers to the difference between the premiums of the two contracts. The “spreader” will profit if the price of the underlying stock moves in the right direction.
net debit or net credit
The reason for conducting a SPREAD
to limit the risk and limit the profit.
Spread Option is a game of PREMIUMS. Meaning an investor will lose or make their money from premiums.
if you buy a call or a put, what’s the most money you can lose
the premium
if you sell a call or sell a put what most money you can recieve
the premium
if you sell a call or sell a put
limited if covered
unlimited if uncovered
if you buy a call
unlimited gain
Spreads done at a NET DEBIT must be closed or offset to be profitable.
Spreads done at a NET CREDIT are generally expected to expire worthless so that the investor keeps the “credit”.
Calendar Spread
A spread which has different expiration months.
Example: Long 1 ABC May 50 Call
Short 1 ABC Aug 50 Call
only difference is the months
Vertical Bull Spread
A spread which has different strike prices. Vertical spreads are either bullish or bearish.
Buy the option with the LOWER strike price
Sell the option with HIGHER strike price
Vertical Bull Call Spread
Net Debit
Example: Long(buy) 1 ABC July 60 Call
Short(sell) 1 ABC July 70 Call
Vertical Bull Put Spread
Net Credit
Long 1 ABC July 60 Put
Short 1 ABC July 70 Put
Vertical Bear Spread
Memory Tip- If a Bear is chasing you, you would want to climb a tree to be high, therefore in a bear spread BUY the higher strike price.
Buy the option with the HIGHER strike price
Sell the option with LOWER strike price
Vertical Bear Call Spread
Net Credit
Long 1 ABC Aug 25 Call
Short 1 ABC Aug 20 Call
Vertical Bear Put Spread
Net Debit
Long 1 ABC Aug 25 Put
Short 1 ABC Aug 20 Put
Diagonal Spread
A spread which has different prices AND different expiration months.
Long 1 ABC May 50 Call
Short 1 ABC Aug 40 Call
Debit Spread
becomes profitable due to the difference in premiums widening and the option to be exercised
Credit spread
becomes profitable due to the difference in premiums narrowing and option to expire worthless.
Spread Example:
Long 1 ABC June 40 Call @ -4 You bought at 4
Short 1 ABC June 50 Call @+2 You sold so you received credit
-2 Net Debit ( max loss potential)
Difference in Strikes +10
Net Debit -2
+8 Max profit potential
Vertical Bull Call Spread with a net debit of 2.
net debit because it is a negative
the 10 is positive because short - long
Vertical Bull Put Spread
Long 1 XYZ Sept 100 Put @ -10. You bought at 10
Short 1 XYZ Sept 110 Put @ +14 You sold, so you received credit
+ 4 Credit ( max profit potential)
Difference in Strikes -10
Net Credit +4
-6 (max loss potential)
You ALWAYS want the credit spreads to NARROW and /or Expire( worthless) to be profitable
the 10 is -10 because in a vertical bull put spread is long - short
IF THE NAME SOUNDS LIKE IF THEY GO TOGTHER, as in Bullish CALL/ Bearish PUT. Names make sense, therefore it is a debit spread.
IF THE NAME SOUNDS LIKE IF THEY GO TOGTHER, as in Bullish CALL/ Bearish PUT. Names make sense, therefore it is a debit spread.
- If a customer establishes a debit spread, the customer profits if
A. The spread widens
B. The spread narrows
C. The option expires
D. The options are exercised
a and d
Straddle
A basic straddle position is an equal number of puts and calls, both long or both short on the same stock, with the same expirations month and the same exercise price.
Breakeven on the stock on a Debit Spread is always determined from the Long(Buy )
Call = Long exercise price + net debit of the premiums
Put= Long exercise price – net debit of the premiums
( Long Straddle)
You expect a BIG move in either direction. ( Long Straddle)
You will exercise or take profit on one of the option while the other will expire worthless.
Long Straddle = Long Call and a Long Put
Expect a big move on the underlying stock
Max loss is premium paid for both options,
Max gain is letting one of the contracts exceed one of the premiums to gain loss premium
To be profitable, breakeven price needs to go above the upside breakeven and below the downside breakeven point
Short Straddle= Short Call and Short Put
Expect underlying stock to remain neutral to receive premium
Short call is uncovered, represents unlimited loss potential on the short straddle.
If the market price stays inside the breakeven points.
Tax Rules with Options
Transactions on option are always considers capital gains/losses and NEVER ordinary income/losses
Holding Period
The holding period for tax purposes on stock that is purchased when an option is exercised (Long call or Short Put) begins on the day after that option is exercised
begins on the day after that option is exercised
T +1
SHORT AGAINST THE BOX. ( long and short a Stock at the same time )
If a customer is long a stock in their account, and sells the same security short( borrows from the firm) , they are then “ Short against the Box”. Long and short the same stock at the same time). Short vs box is generally done to:
- Arbitrage
- Hedge an anticipated decline in their stock
Note: short against the box cannot be used to postpone taxes to a future date.
Index Exercises
firms must settle index exercises the next business day following the exercise date. T+1
Settlement is in Cash
Upon exercise the holder will receive the difference between the exercise price of the option and the final settlement value times the $100 multiplier or the ITM amount of the option.
Exercise
European style, exercised at expiration only( 3rd Friday of the month)
Foreign Currency Options are issued and guaranteed by
Options Clearing Corporation
Philadelphia Stock Exchange
Trade in Ten different Currencies
A Big Cat Eating New Salmon
A Big Cat Eating New Salmon
Australian Dollar. XDA Strike Price
British Pound. XDB
Canadian Dollar. XDC 10,000 units. Move decimal point
Euro XDE two digits to the right
New Zealand Dollar. XDZ
Swiss France XDS
Mexican Peso XDM
South African Rand. XEV 100,000 units Move decimal point
Swedish Krona. XEH three digits to the right
Japanese Yen XDN 1,000,000 units Move four decimal point
Leap Options
Purchased on Margin
Leap Options with more than Nine months to expiration can be purchased on margin.
The margin requirement is 75% of the premium value.
If a General Securities Sales Supervisor initially approves an options account, the approval or disapproval must be submitted to an ROP
within 10 business days for the ROP approval or disapproval.
Option Account Agreement- must be received
within 15 calendar days from the time the account is approved for options transactions.
If the agreement is not returned within 15 calendar days, only liquidating transaction can occur.
Suitability
No More than
15% to 20% of a persons investment assets should be committed for the purchase of options.
Opening A New Account
Obtain essential facts from the customer
Provide a ODD at or before the time the customer’s account is approved
Get the approval of the securities sales supervisor or branch manager
Enter customer’s order
Obtain a signed options account agreement within 15 calendar days
Background sent to customer for verification within 15 calendar days
